Plugged In - A Banking Podcast
Plugged In brings you raw, honest takes on all things in the banking industry. That means you aren’t going to get some buzzword-filled, cliche podcast – you’re getting an unfiltered look into topics in the financial world no one else is talking about. Your hosts, Al Dominick and Steve Williams, will talk to top players in the industry about what matters now, and what will shape the future.
To groove along with Al and Steve's song references each episode, check out the official Plugged In Spotify playlist: https://open.spotify.com/playlist/1Z7NWPIQuaXQlfHxLWJb3g?si=o552CzjwTr6R4mx13NmOBA
Plugged In - A Banking Podcast
Ep 24: Banking on Resilience: Navigating the Digital Frontier // Kirk Wycoff and Tom Cestare
Join Al Dominick and Steve Williams as they speak with Kirk Wycoff, managing partner, and Tom Cestare, COO, of Patriot Financial Partners to delve into how banks are building resilience through digital innovation. This episode features discussions on the integration of technology in banking operations, the importance of maintaining a robust digital posture, and strategies for efficient tech implementation. The conversation also explores how banks are balancing traditional practices with new digital demands to create a more resilient and competitive banking environment.
Listen as they delve into the pivotal role of community banks within the financial ecosystem and how masterful management is the lynchpin of a strong balance sheet. Reflecting on the complacency in data interpretation in recent years, they explore how a select few banks under $10 billion withstood the storm, and the strategic role non-interest bearing deposits play in fortifying bank defenses against rate hikes. Optimism reigns supreme as they forecast a renaissance for community and regional banks in profitability and mergers and acquisitions, provided those banks adeptly navigate the shifting interest rate climates.
To wrap up, Al, Steve and Kirk pay tribute to the dynamic shifts in banking acquisitions and salute the enduring influence of pioneering leaders who continue to shape the future of banking.
Coming up on this episode of Cornerstone Advisors plugged in a conversation with some of our industry's longtime investors. Get ready, because we're talking the business of banking and what smarter banks might look like in the coming years, with the heads of Patriot financial partners, a private equity firm led by our guests, and I'm going to say hello first to Kirk Wykoff so he can bring Tom into the picture. They're holding it down in the tough town of Philadelphia, whereas my friend Steve Williams is enjoying balmy air temperatures that we have on the East Coast and our Scottsdale Arizona headquarters. We're going to have some fun as we welcome Kirk and Tom to plug in. Over the summer, steve and I started to talk about the characteristics of so-called smarter banks, and we did this against what are known as smart banks today, those that have good performance of people appreciate. But we're looking at what smarter banks might show in the coming years as they focus on their outcomes and not just certain activities. So, as a cheat sheet, we're looking at banks that become known for being hyper efficient, nimble, data driven, differentiated and opportunistic, and so we just thought, you know, given Kirk and Tom's experience in this space, we could pick their brains by weaving those themes into a conversation around moving even faster than you feel. Maybe you're able to gauging a leadership team's strengths in tech and on the digital front and really exploring business models that guys like these would gladly open up their checkbooks for. So we've got some good stuff coming at you.
Speaker 1:In our last episode of Plugged In, we unpacked Steve Williams' Spotify playlist. To keep things both focused and fun, we figured why wouldn't we do the same thing for this one? I went into the vault, picked out some songs that I think would lend themselves to a fun conversation. We started this whole thing back with Thomas Scho way back when, and we've just continued to use it for these episodes where we try to take a song and tie a lyric or two that can easily be applied to the state of banking. So that's my tee up for this new episode of Plugged In.
Speaker 1:You guys ready to roll? All set, all set. Here we go. Well, you know, I am going to start with a guy who helped keep himself alive, and this is Freddie Mercury, who we thought we could borrow from his song by Queen Keep Yourself Alive, because he talks about being told a million times of all the troubles in his way. And so, as I think about the state of banking at the moment. It's an industry that's getting smaller, but if you're a community bank, you have to think about how you can get bigger, play bigger and run even faster. So I really wanted to toss this one out to Kirk and Tom and get their thoughts on how is that possible, given all the things that are impacting the industry at the moment?
Speaker 2:Thanks, thanks, alan, appreciate it. Happy to have Tom here with me today. You know how do you get bigger and run faster is a tough one, given the problems of the last year and the regulatory environment we're in. But shortly after we make an investment, or as we're making an investment, we really assess the ability of the company to grow its long book with customers, and everybody today has just finished up their year-end budgets and I would suspect that three quarters of them came up with not enough asset growth to generate the EPS that they were looking for, and so we do see loan purchases as part of budgets this year and plans and credit quality has been good, so it's a good environment for that.
Speaker 2:But at the heart of core banking are deposits and loans and on the loan side we try and invest in markets that there's a fair amount of growth and with CEOs that can recruit the teams that know the customers. So you can be in a great market like DC, where you're sitting, and if you can recruit the right team and the right leadership on the business banking or real estate banking side, then you're not going to win. If you have the best team there is in Memphis, tennessee, you'll probably be fine growing your loan book, but the answer to the question, and with the moving rates over the last year and a half, is how many 8% floating rate loans can your team deliver in 2024? Would be the answer to the question.
Speaker 1:Steve, you've had some thoughts about recruiting teams. You want to chime in and maybe build it on what Kirk just shared.
Speaker 3:Yeah, because, Kirk, you said 8% floating rate. So how do you see the selection of teams changing from maybe more income properties CRE to more CNI owner occupied? How do you get that right mix and are you seeing your banks kind of change the character of their recruitment from those relationship managers?
Speaker 2:Well.
Speaker 2:I mean the CRE was always the way to grow size because you make your chunkier loans and customers in the development of the hotel business are always coming back for another one. Right, they pay off but they reload. The CNI business tends to be more stable. Companies don't grow their CNI borrowing needs 100% a year. So we would see the CNI team being two to three times the size of the CRE team, particularly with the 300% guideline on CRE. And they're hard to recruit and most of the recruitment we see which we have some hesitation about, comes from B of A or Wells Fargo two years ago or other larger banks and a lot of those people don't fit in a smaller bank. Get it done now. Environment, but that's where we see the recruiting, tom. Anything to add to that?
Speaker 4:No, I mean. I think that that's definitely the key, where we see people having success or where they've been in markets for a long time, they've established networks. They know the small business community and they're able to bring the right people onto the bank to drive growth and where you can do that, you can be pretty successful in terms of carving out a nice niche in the marketplace and doing pretty well financially.
Speaker 3:Yeah, and I do agree, sometimes taking those big bankers and turning them into entrepreneurial bankers, but the ones that can mint those kind of players over time is, I think, where you see the entrepreneurial banks thriving.
Speaker 2:Yeah, we are an investor in one bank that has a team of eight CNI lenders that produces 250 million a year, and the good news is that they do it. The bad news is, every one of them has got an offer from the competition in the last 90 days.
Speaker 2:And we just, at a board meeting this week, put in a retention plan that had a three-year cliff vest, at one time salary in addition to any back incentive plan or annual bonus. So the other thing is let's not start with recruiting, let's keep it when we invest. If we interview the team that's there and can get it done, so let's keep them.
Speaker 3:Yeah, absolutely, and think how we don't have a transfer portal in banking right.
Speaker 1:Oh gosh, the fact that we are even having to use the transfer portal at this point. Well, in the conversation around boards, let me switch over a little bit, because it strikes me that this has been a year where boards have been asking their leadership teams just how resilient and efficient their balance sheet really is. So I want to borrow on that theme, and technology is such a major driver of potential opportunity. The tools that are available are pretty compelling, but they're just that. They're just tools. So I'm curious how do you gauge how resilient your bank's leadership teams are when it comes to technologies that are available and their digital positioning at the moment and where they want to go?
Speaker 2:Oh, that's a mouthful. Yeah, look, your digital positioning has to do with your customer experience and how efficient the bank is. So we've already talked about being efficient. One of the ways you get to be a 50% efficiency ratio for the initial institution is deploying technology and account opening and loan opening and loan underwriting, credit algorithms, etc. So the management team has to be the tech team has to be efficient at that, has to be good at that. Their tech development plan has to look out three years and be constantly implementing the solutions that are driving costs down. So that's the resiliency, or the plan on the tech.
Speaker 2:The resiliency of the balance sheet really goes to how good management is at managing interest rate risk and credit.
Speaker 2:And two years ago I would have said credit and interest rate risk, and five years ago I would have said credit and interest rate risk.
Speaker 2:But if you go back into the 90s, unfortunately when I was running banks, we had the interest rate risk management tools then and we used them in 1990, 1991, 1992, and 03, 04, 05. We got a little complacent as an industry in actually reading not the tea leaves but reading the data in 21 and 22. And so you see only about 20% of the industry today in the size we focus in. Banks under 10 billion have resilient balance sheets, and you've seen the ones of those that are public their stocks move dramatically over the last 60 days and the ones that aren't so resilient and have a hole in their balance sheet, not only an AOCI but in their loan book, those stocks are not getting the market acceptance, and so a resilient balance sheet today means that you don't have a mark on the asset side of your balance sheet of 40% or 50% of your capital, and I think half of our target universe does have that big of a mark.
Speaker 3:Yeah, and on the loan side, Kirk, it's showing up and they're just not getting the asset pickup, asset yield pickup they should be given all the rate increases and it's showing the implied economic losses of a loan book, not just the bond book.
Speaker 2:I agree with that and the ability to grow loans. I mean, if you think about the bank with a $2 billion loan portfolio, normal and static interest rate times would have five or 600 million in payoffs a year and grow 10 percent. So they have to make 700 million in loans. That means your loan book turns over pretty much in two and a half to three years. So I was looking at budgets actually yesterday where I'm seeing 10 or 20 basis point chains in overall loan yield December 23 to December 24. That's not enough. That means you haven't done your work on your interest rate risk.
Speaker 4:Yeah, the only thing I wanted to add to that with respect to it resiliency at the balance. He really gives it the funding side. I think we've really saw this back in the spring and the summer where those franchises that had low cost deposits, non-interest bearing deposits they fare pretty well throughout the crisis versus people that were wholesale funded, that saw those costs go up dramatically right away and were managing the fixed side of the asset. Part of their balance sheet really got squeezed and their balance sheets were not efficient or resilient and they got the most pressure during the summer and the good solid franchises and the deposit bases that we talked about earlier. Those balance sheets were pretty resilient.
Speaker 3:Yeah, A lot of people have that regret like I wish I had the capacity to be getting those 8% floaters, but I just don't have the room in the balance sheet right now because of the marks and because of the fixed rates.
Speaker 2:It's worth noting. When we size a bank that needs capital for whatever reason at 8, 9, 10, 11, it was credit. Now it's because of interest rate risk and balance sheet holds we size that bank based on their non-interest bearing deposits. If you don't have 20% non-interest bearing deposits, either you had them and you've overleveraged, or you brought in more money markets or more CDs. You have to grow your non-interest bearing essentially at the same or a faster rate than you grow your balance sheet to have what you call resiliency. I would call it profitability. Resiliency leads to double digit return on equity.
Speaker 1:I'll move my language over to yours, kirk, no problem. Actually, what I find interesting, I had pulled a song by Fitz and the Tantrums head up high, because the lyric is I got a headache and a heartache, I'm running circles trying to find another finish line, and so what you just described basically is why we piled that song. Now I'm going to give Steve a little toast from across the country with our plugged in mugs which we sometimes like to give the virtual clink because this song is a Steve Williams song.
Speaker 1:If ever there was one, it's by Motley Crue. It's Dr Feel Good and Kirk. We're going to have you be Dr Feel Good because we want you to make us feel all right and we really want to get a sense of your vision on the future of regional and community banks vis-a-vis their business models. You know what? Are you willing to write checks for looking ahead?
Speaker 2:So it's. People should know. We didn't script this question, but I'm going to do better than make you feel good, I'm going to make you feel great.
Speaker 2:The worst environment for community banking that could exist and for Patriot, for two of our four funds, has existed over the last decade with very low rates.
Speaker 2:And so in April and May of this year, when proverbial stuff was hitting the fan, we went back and revisited our core business model of what a $2 billion bank looks at and how fast we can compound capital in a $2 billion bank with normal interest rates, which I would call today normal levels, even though the curve's not slow.
Speaker 2:And the answer is that bank with an 85% loan to deposit ratio and a 3.5% margin and a 60% efficiency ratio and normal charge offs, earns 15 on equity and one two on assets, and it always will and always has. And that means you're going to compound your equity for your shareholders about every six years, maybe five and a half, which is our investment period. So the takeaway from that is, once your balance sheet is normalized to today's rates which could be today, could be a year or two from now, the next 10 years in this business, where we're never going to see zero interest rates again, we're going to make multiples of the money at Patriot and at your banks that we made over the last decade. So this will be the golden year of community banking. And add some M&A onto that and we're going back to three times book for exit models.
Speaker 2:Wow that makes me feel good the golden year we're going back to three times book for exit.
Speaker 3:There we go. Dr Feelgood is playing through the speakers right now. I love it Well, and I think you must disagree with Steve Isman saying banks are uninvestable. At this point it sounds like you're saying it was the shock of the rate increases that wounded the balance sheets. They've got to heal to today's rates, and that's at different paces depending on how well they were positioned right.
Speaker 2:Yeah, well, I think two parts of that we like Warren Buffett's quote on that the time to run into the burning building is when it's burning, and so we've been investing all year in equities. And the other part of that comment that's partially true, and this is now my fifth decade in the banking business is whenever there's a banking crisis and there's one about every decade, if you haven't noticed, the regulators show up about six months after the crisis and make it three times worse, and so we're in that period now. October was six months after March. The exams we were privileged to see as directors of various banks that were done concluded in April, may, june and even into July were fine. They were based on the original parameters for examining banks for 2023.
Speaker 2:And then the exams that were started after that and concluding in August, september, october, november had a totally different tone around liquidity, interest rate, risk capital, all for no good reason. Lots for banks that had 90% insured deposits and plenty of liquidity. But the playbook changed and it made it worse, and so, to the extent, banks are uninvestable. That's a phenomenon that'll correct itself over the next year. Hopefully it'll get some accelerated correction in the election in November, but balance sheets by the end of 24, I think will be all clear for a really good period coming up in banking Work.
Speaker 3:Another follow-up on Dr Fieldgood, though I look at Fund4, at Patriot, and I've seen names like Ampersand, core 10, finextra, so it's not just traditional banking, where you see an opportunity to write a check, but also some of the tech-enabled platforms and companies that are surrounding your community banks. Can you comment on that? And Vintec's been a little spotty the last 18 months, so where do you guys see the opportunity there?
Speaker 2:Boy spotty would make me feel good it's been. It hasn't been spotty. The answer is we carve out a small portion of each of our funds To investing companies not fintech, bank tech Companies that can really accelerate the earnings of the 25 or 30 banks we have investments in at any one time, and and and, and we get those those people introduced to our bank management teams so that they can have, you know, an early advantage if they like the technology in terms of moving forward with a with enumerated or with, you know, on loan automation, with an army on account opening and in business account opening. And so you know, we're obviously not investors in in the big side of fintech and it's a small part of our dollars, but they the same analysis or the management teams really knowledgeable in their industry Can they accelerate their revenue, but for us, can they accelerate bank earnings if our banks that we invested deploy that technology.
Speaker 3:Gotcha, gotcha. It's a portfolio, it's a, it's a smarter bank. We would call it portfolio play for your, for your partners.
Speaker 2:Yeah, we would say it adds alpha to our portfolios, or at least we hope it does over time. It didn't. It did in fund to where we? You know, we we built Laurel Road, which was the large student lending company, and Hope in Connecticut and sold that to key bank. Well, we built a large foreign exchange Trading company based on a tech platform.
Speaker 1:So it's added some alpha to our funds, which are, you know, pretty consistent performers and so the investors like that so, kirk, you talked about running into a fire and you reminded me of a conversation that Steve and I had with Jean Ludwig, who, you know, most people remember as being the head of the OCC, but he was on an episode of plug-in with us and he talked about being a firefighter. And really you don't form a committee to decide if You're gonna go fight a fire when the alarm bell goes off. You just get after it. And so if I swap out the role of a firefighter for that out of a bank CEO, I'm curious. You know, sometimes you just have to hop into things, and I'd like to understand how you see bank CEO Striking a balance between the stability of rules against the rewards of risk.
Speaker 2:How many bank CEOs do we have on this podcast? So I know how many people I'm gonna offend when I answer this question.
Speaker 1:Well, we can do the math. We know this, we. It's every one of them. They all listen in religiously. All right, it's like going to church. You're there every Sunday.
Speaker 2:We we have, rightfully so, in the banking industry, to continue your analogy, we have dispatchers and planners and county officials who fund fire departments, and and and, as they say, rightfully so, because it is a rule-based economy and, and you know, I could name five Bank CEOs that were firefighters over my career and, unless you're as old as I am, you wouldn't recognize their names because they didn't last very long.
Speaker 2:The shareholders generally aren't rewarded by it and the, the regulators, really don't like Abnormal risk-taking, and what I think firefighters do is take risks that you or I Probably wouldn't want to take in your burning building. That said, I think about a third of the the industry CEOs are very Proactive and thoughtful when they see opportunities and take advantage of them, and I think those banks tend to be the higher ROE banks. You know the status quo in the banking business isn't working very well right now because it's harder and harder to bring on a zero-cost checking account At a cost less than $300 in in account acquisition and it's more and more expensive to acquire that team or acquire that that CNI borrower. So we like CEOs that can make things happen and we invest in in those people, and you know we have plenty of examples of those people in our portfolio.
Speaker 3:And I think they play a big role there. Alan, talent like see talent follows CEOs that people see as Opportunistic, not just the status quo, and I think that's when I've seen some of those entrepreneurial banks get those ROEs. It's because they brought in the relationship talent who believed in chasing that opportunity.
Speaker 2:Well, you know, look at Tony Lappens, that. Or look at, you know, frank Sorrentino. Really you know, look, look at guys like that that it really built banks. Look at Jack Kipnisky, who retires at the end of this year as CEO of of Sorry Executive chairman of Webster. We invested in Jack when Provident was two and a half billion and Webster is 60 billion. And you know he believes if he was on this call, he tell you that if you're not running your bank at a 45% efficiency ratio, you're not doing a good job. And so you know those are. If you want to call them firefighters, we love guys like that, but taking too much risk has never been a formula for success in banking.
Speaker 1:Well, we'll try to dub a little Ring of Fire by Johnny Cash over this part of the conversation. I think that would be the appropriate song. And, steve, to your point, I totally agree. I don't think people follow a title as much as they follow the person. And so, kirk, you just raised some great names in the recent history of banking that have done some great things and are continuing to do great things, which I think lets me take us all home.
Speaker 1:The industry as a whole gets described in a lot of different financial terms, but we'll be at a choir and be acquired in January, and I'm expecting we're going to see some charts that show the sweet spot for banks in terms of asset size. I remember when one to five billion was considered just where you want it to be. It's moved up five to 10. Now I think you and I would agree there's some folks that think it's maybe closer to 35 to 50. How do you think about size in this industry and the proverbial sweet spot that gets investors like you thinking there's some really interesting opportunities still in front of everyone?
Speaker 2:Well, the first thing I would say, as I said to you before we got on the podcast, is don't fall for the investment banking model of the year which we'll all see at AOBA from all of the investment bankers.
Speaker 2:So I would like to focus on ROE. So the reason we're in the size banks that we're in is we see the efficiency curve being dramatic between two and eight billion. But the whole goal is to be a 12 or 15% earner, which when I started in banking because we had because 6% or 4% was adequately capitalized we had enough leverage that that was normal. You see the biggest competitors getting back to double digit ROEs. Certainly certain debt products on the sub-debt side have helped with that, but whatever size you are, you're going to compound your shareholders capital if you're making 12% to 15% on ROE. So we can invest in 20 and 30 billion dollar banks because our check size is less than 50 million and we wouldn't make a difference there. But we think the heart of Patriot is with 18 people we can make a difference in balance sheet diversity, interest rate, risk management, product differentiation, digital development, because we see it every day.
Speaker 3:Yeah, and I think if you look at the numbers in banking, at the 4,500 banks left, there's a lot that will become some of those two to eights, meaning they're 300 million or 600 million right now and Wells Fargo is not going to go acquire them. It's part of the consolidation into that sweet spot, I think.
Speaker 2:It's been interesting to us over 17 years when we started in 07, there were 1,100 banks in our size range that we targeted, and today there'd be 1,300. So some get acquired but, to your point, steve, more come in and that's where we want to be the provider of joys for capital in that 10 to 50 million dollar range.
Speaker 1:Well, it makes perfect sense and I'm going to look forward to seeing you guys out in Arizona in January for a choir to be acquired. Because my friend Steve is not able to join us, I'm going to ask him to take us home today. You want to wrap up this episode, steve.
Speaker 3:Well, thank you guys. Perkin Tom, always great to see you guys. I'm a little sad we didn't get course racing in. That's got to be something we do the next time, but I know.
Speaker 1:That is like a three or four day podcast, Steve. That's not like a 30 minute conversation.
Speaker 3:I want a beautiful bow tie and my gorgeous wife and the big Latin Kentucky.
Speaker 2:First day of AOBA is 1.27. This year that's a Saturday. I was at AOBA last year and missed our horse of tone winning the million dollar. Vegas is World Cup. He will be back this year and I won't be there till Sunday. I'm not going to miss it again.
Speaker 1:I can't give you the official dispensation since I'm no longer in charge of bank director, but I know my friends there will at least give me a slight permission to say you're always welcome to join us and we want to hear some winning stories when you do step foot in the desert.
Speaker 3:Yeah, but I'll take it home out by say it's fun to talk to Perkin Tom, because not only are they looking at this thesis of the sweet spot of banking and a new golden age and we've had people like Tom Brown agree with Kirk's thesis that this is going to be fun buckle in but also the telk side of things. We gave a Gonzo banker award to Kelly Brown for some of her work and what she's doing with you guys the collision of bank tech with the community banking model that's based on talent. I think this conversation now says to me it's alive and well. We're building smarter nimble banks and it'll be fun to watch the journey. Thanks guys.
Speaker 1:Thank you, steve Thanks guys, we appreciate it. Thank you, tom, thanks guys.
