In one fell swoop, Midland States Bancorp in Effingham, Ill., would increase its assets by nearly 50%, to $2.5 billion, by acquiring the $800 million-asset Heartland Bank in St. Louis. It is not an asset play, though—one of Midland's stated goals is to reduce its reliance on interest income. The deal would transform Midland's revenue mix in a way that is sure to make nearly every other community bank envious.
"While it is not a merger of equals, we are viewing this as a strategic merger in that the resulting entity accomplishes a goal in a time frame better than the companies could do individually," says Leon Holschbach, the president and chief executive of Midland. "We could have done it on our own, but it would take us 20 years."
Midland is expecting its revenue split to go from 80% spread income and 20% fees to 55-45 in its second year. Heartland is a thrift, and it is strong in mortgages. Additionally, Heartland operates an equipment-leasing company in Denver and Love Funding in Washington, which makes loans to assisted-living centers backed by the Federal Housing Administration.
A nearly equal split of spread and fee income is common for megabanks but a rarity for community banks.
"If you can improve your income stream so that 50% of it comes from fees—that is a phenomenal feat," says R. Lee Burrows, the chief executive of Banks Street Partners, an investment banking firm in Atlanta. "Not that many banks in the country can say that. Kudos to them for putting that together."
The banks are betting that the markets will take notice of their combined strength, too.
Midland was set to go public in the summer of 2011 in an $80 million offering, but the debt-ceiling fight in Washington that year and the subsequent market freak-out forced the company to pull it back.
"We did the road show and were well received, but the market sell-off was such an absolute calamity," Holschbach says. "But I'm glad we went through the process and introduced ourselves to the investment community."
Although he is unsure when the company will revisit going public, Holschbach says the acquisition will entice investors.
"We end up with a $2.5-billion-asset bank, a 48-branch network, a company with a strong net interest margin, an equipment-leasing company and Love Funding," Holschbach says. "That is going to look very attractive to the investing community."
He added that the integration of Heartland, as well as the overall market's renewed interest in valuing stocks as a multiple of earnings instead of tangible book value, will play a role in deciding when to take the company public.
The potential of Midland revisiting an IPO was a driving factor for the sale, said Laurence A. Schiffer, president and co-CEO of Heartland.
Investment bankers say that the market is positioned to see IPOs swell in the next couple of years as investors in privately held banks clamor for liquidity.
Size matters in IPOs. Bigger banks tend to get better pricing and more interest from institutional investors, so would-be public companies have been bulking up with acquisitions and are finding sellers willing to take private stock with the expectation of an IPO.
For example, Independence Bank in Houston agreed last month to take stock in Allegiance Bancshares, also in Houston, because of the likelihood of Allegiance going public.
Although there are no promises of a successful IPO, a seller is able to get a bigger piece of the combined company by discounting the buyer's value to account for the buyer's illiquid state. Essentially, they can drive a better deal today and get a bigger piece of the potential upside.
"It always depends on the story, but if I'm a banker and I can get privately held bank stock at a discount at what I think is the value, I'm going to look at it," says Dory Wiley, the president and CEO of Commerce Street Holdings, an investment banking firm in Dallas.