While deal discussions continue and community banks still see acquisitions as an attractive tool for growth, regulatory headwinds have made M&A a little less attractive for growth-minded companies.

Jonathan Hightower, partner at Fenimore Kay Harrison LLP, the most active legal adviser in the bank M&A space this year, said in the latest Street Talk podcast that community banks still see acquisitions as an attractive tool for growth and have continued discussing transactions at the same pace. Bank M&A activity has declined recently, however, with 35 deals surfacing in the second quarter, down from 48 in the first quarter, 49 in the fourth quarter of 2021 and 64 in the third quarter of 2021.

Hightower said announcements likely have moved from one quarter to another rather than transaction activity declining dramatically. Lower bank stock valuations and concerns over a potential economic slowdown have likely reduced bank M&A activity. Hightower also noted that regulatory scrutiny is cooling community bank M&A to a degree.

"We've been joking with folks over the summer that we've had the anti-Elvis impact on M&A conversations. We've had much more conversation, but a little less action," Hightower said in the episode.

In the episode, Hightower discussed the drivers of community bank M&A activity, the impact of rising rates on transactions, how most community banks already satisfy environmental, social and governance considerations, and the changing regulatory landscape for community banks, including the agencies' views of deals.

Hightower said regulators have signaled to acquirers that they want to see any buyer acquire and integrate a deal before announcing their next transaction. Hightower said being "serial acquirer" today is different from even three years ago and certainly is different from 15 years ago, when buyers had multiple deals pending at once. Those limitations affect the pace of M&A activity.

"When you're sitting there as an acquirer and you've got an M&A opportunity that's maybe not the most exciting deal you've ever looked at and then maybe another opportunity to do a lift-out or somehow grow the business without having a regulatory application involved, you're much more inclined to take the path that doesn't require the regulatory scrutiny," Hightower said. "When we look at overall kind of growth tools for growth-minded companies, M&A is probably a little bit less favored now than it was 24 months ago."

Hightower further noted that the coordination within the regulatory agencies is not what it used to be because many people continue to work remotely. Hightower has encouraged clients to be much more engaged and involved with applications as a result. The attorney said most of the firm's clients who are more active acquirers are in constant communication with regulators, allowing them to organically preview transactions with them. Hightower said the process is more labor intensive, difficult and ultimately a "little bit more painful," reducing the appetite that some banks have to pursue transactions.

The attorney noted that community protests can slow transactions as well. And while those protests are not necessarily more common today, Hightower said the bar appears to be "lowered" for what regulators might consider a substantive comment that really requires them to take a deep dive and investigate.

"I think you want to be prepared to encounter some sort of protest and really be able to have a good record of how you serve the community," Hightower said.

That community focus could also make banks more attractive for anyone focused on ESG issues. Hightower said his firm often refers to community bank clients as the "original ESG machines" and accordingly is disappointed when his clients are discouraged about approaching the public markets because of investors' focus on ESG issues.

"Tell your story. You are doing all of this in your communities in many cases, in communities where the broader market might say, you don't need to be there. What are the real growth prospects there. The fact is that community banks are there because they believe in supporting the community," Hightower said. "It is a matter of taking some time and maybe investing some resources to really tell that story in a cogent way."

"Street Talk" is a podcast hosted by S&P Global Market Intelligence.

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