The $17.3 million proposed merger of Thousand Oaks-based California Oaks State Bank and a larger San Fernando Valley bank may hint at what the community banking world will look like in the aftermath of financial overhaul.

Many smaller banks, especially those with less than $500 million in assets, are looking to their neighbors or larger institutions and wondering if they might be better off combining forces, banking experts say.

“I think we’ve seen signals that there will be pickup in the traditional M&A market,” said Michael Cavallaro, a vice president with Hovde Securities in Beverly Hills who worked with California United Bank on its acquisition of Cal Oaks.

The deal between Cal Oaks and Encino-based California United would combine two business banks into one $650 million institution. It also would give California United — which will pay about $17.3 million for Cal Oaks, half in cash and half in common stock — six full-service branches in Southern California and three commercial lending offices, including two in Southern California.

“We’re both business banks focused on basically the same clientele,” Cal Oaks President and CEO John Nerland said. “Their focus has been on the San Fernando Valley and surrounding L.A., and we’re more in the Conejo Valley.”
Cal Oaks shareholders will receive $11.35 per share if the transaction closes by Dec. 31, or $11.30 per share if the transaction closes after the end of the year. Cal Oaks stock, traded on the pink sheets as COSB, closed at $6 on Aug. 24, the day before the deal was announced.

Karen Schoenbaum, California United’s vice president and chief financial officer, said that the deal means Cal Oaks shareholders will “have a significant ownership” in the new institution.

The Cal Oaks merger is a positive event, said Jeff DeVine, the president and CEO of Santa Barbara-based American Riviera Bank. “The less banks that fail and the more that are being bought, the healthier the industry,” he said. American Riviera, with $134.3 million in assets, is roughly the same size as Cal Oaks, which had $136.7 million in assets before the acquisition.

Shortly before announcing the merger, Cal Oaks said that it was scrapping previously stated plans to raise $100 million in new capital. The raise fell through, Nerland said, because the bank couldn’t secure enough “patient capital.”

Under federal regulations, at least 33 percent of the proposed capital raise must be secured by investors who won’t sell the stock for at least three years. Of the $33 million in required patient capital, Cal Oaks received about $24.9 million in commitments. “We kind of got stalemated,” Nerland said.

The bank would have used those proceeds to help it pay off Troubled Asset Relief Program funds and to buy other assets.

But with the capital raise dead in the water, the bank looked to its Encino neighbor. Discussions went on for months before a deal was announced, Schoenbaum said.

The merger has been unanimously approved by the boards of directors of both banks but still needs approval from shareholders and federal regulators. The banks said they expect the deal to close in the fourth quarter of this year.

Sign of things to come

Deals such as the Cal Oaks-Cal United merger will likely become more common, banking observers say.

“The added regulatory burden that will be placed on all banks and the additional costs associated with that will be compounded through,” Cavallaro said. “The smaller banks that don’t have the size to compete will look to neighboring banks.”

Nerland said banks with less than $150  million in assets find meeting investor and regulatory demands especially taxing. “I really think there’s going to be additional M&A going forward,” he said.

Federal regulators may also be eager to bless private market transactions as the list of failed and problem banks around the country grows. In its most recent quarterly report, the Federal Deposit Insurance Corp. said that while banks nationwide recently posted a record profit, its problem banks list reached 829 at the end of the second quarter — a 16-year high. Many of those are smaller community banks, it said.

The Cal Oaks announcement came just days after Solvang-based Los Padres Bank failed and was scooped up by San Diego-based Pacific Western Bank. But such FDIC-assisted deals have taken a toll on the federal government’s deposit insurance fund, which finished the second quarter $15.2 billion in the red.

The FDIC says that it expects the number of failed banks to peak later in 2010. So far this year, 118 banks around the country have been seized by federal regulators.

The FDIC report also showed early signs of stress from new banking legislation. Fees attached to deposits accounts were about 7.1 percent lower than a year earlier, and total assets for the banking industry fell about 1 percent.

“There are so many things for banks to follow up on nowadays,” DeVine said. “So many regulations, and there will be new rules, consumer protections. … It could be that some smaller banks decide they don’t want to deal with that. It could be easier to look to a larger bank that has a compliance department that has figured out how to deal with these things.”

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