Community Bankers’ 2023 Outlook: Upbeat on Growth, M&A and Digital Efforts

A surprisingly large portion of top executives anticipate their community banks will grow at least 5% in 2023, despite the economic uncertainty, according to a Wipfli survey. Their interest in M&A as a way to achieve growth was overwhelming, but one of the biggest challenges they face, and one that could impede growth, is in attracting and retaining talent. Most also said they were looking for a new core provider, in part to more easily facilitate fintech partnerships. Here are the highlights from an annual survey meant to assess the state of the banking industry.

The odds of a recession in the U.S. this year seem to fluctuate daily, with forecasters bouncing between optimism and pessimism. Bankers, however, are decidedly on the optimistic side.

In a Wipfli survey of nearly 250 senior executives, mostly from community banks, the upbeat outlook shone through in their expectations for growth in 2023. Their interest in wealth management, M&A, crypto opportunities and ESG initiatives also stood out, as did their concern about challenges with attracting and retaining talent. Most are on the hunt for a new core provider as well, in part so they can set up fintech partnerships more easily.

A surprising 77% said they anticipate growth of at least 5% this year. The outlook is even rosier among those with at least $3 billion in assets: 94% expect their banks to grow at least 5% this year.

Banks aren’t counting solely on their own resources to grow. Slightly more than nine in 10, or 91%, are interested in making acquisitions.

These were among the most surprising findings from Wipfli’s latest report on the state of the banking industry, according to Anna Kooi, national financial services industry leader for the Milwaukee-based accounting and consulting firm.

M&A on Their Minds:

The ratio of community banks in the market for acquisitions:
9 out of 10

“I always like to say banks make money in good times and bad times. However, we’re in more uncertain times than usual,” Kooi says, citing the impact of inflation on consumer savings and the continuing competition from fintechs. Rising interest rates also are curtailing some loan sectors, particularly home mortgages and refinancings.

Kooi chalked up bankers’ optimism to a belief that the anticipated recession will not be a very painful one for consumers.

It’s a sentiment that leaders at the largest banks in the country also share.

“I don’t think you’re going to see a deep recession,” Bank of America’s chief executive, Brian Moynihan, said during an event in early March. “I think you’re going to see a slowdown, which frankly a lot of people are not going to see that much of. It will be more of a technical recession,” without a steep drop in the GDP for the country.

Bankers are also optimistic because they feel confident in their ability to generate new revenue streams and engage people on the digital front, Kooi says.

Digital improvements, despite the initial expense, allow for improving efficiency, she notes. “Those who double down in a recession on the digital side, they come out with far higher ROI on the opposite side of that recession.”

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The Top Priority for 2023: Attracting Talent

Despite the general optimism, bankers are bracing for some headwinds. Some of their concerns, such as cybersecurity, tend to be perennial. But talent — the ability to find and keep people — is one that has taken on increasing importance. The Wipfli report identified it as the number one priority for banks in 2023.

All employers have faced recruitment challenges in the wake of the pandemic, which prompted many people to leave the workforce for good. According to the U.S. Chamber of Commerce, all but five states — Colorado, Florida, Illinois, Oregon and South Dakota — boast a smaller workforce than they did before the pandemic.

For the smaller community banks, the toughest jobs to fill are front-line, commercial and retail roles, according to Wipfli. Larger banks are struggling to find digital and IT employees. (Of the participants in Wipfli’s survey, 73% come from banks under $3 billion of assets, and among those who provided titles, 56% are CEOs, presidents or both.)

Talent Strategy:

Banks are responding to the hiring challenge with higher wages, improved benefits, flexible working arrangements and leadership development opportunities, the Wipfli survey found.

Leadership development programs are especially important for retaining employees who might be tempted to leave for a promotion, Kooi says. “There’s a lot of work that our clients and others we talk to are doing around identifying employees’ passions that match financial institutions’ growth strategies and how to leverage their skills within the institution.”

Existing employees may be interested in crypto, digital payments or other areas where financial institutions see an opportunity, and executives are eager to capitalize on that, she says. “They’re really trying to look internally to see who can lead these efforts.”

Digital transformation is another way banks are coping with the worker shortage — and avoiding the war over wages, Kooi says. Technologies like artificial intelligence and machine learning can help banks drive efficiency and augment the work of their existing staff.

Banks often turn to core system providers for help with incorporating such new technology. However, in what Kooi described as an “alarm” for core providers, 56% of banks were looking for a new provider in 2022, up from 26% in 2021.

Core Dissatisfaction:

The share of banks searching for a new core provider:
56%

Banks are keen on finding systems with open application programing interfaces, or APIs, which allow for more easily adding new capabilities, such as digital payments and faster loan processing, Kooi says. Open APIs also make it easier to partner with fintechs, she adds.

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M&A Set to Soar in 2023? Interest Is Very High

M&A cooled off when stocks fell in the fall, Kooi says. U.S. banks announced 167 whole-bank acquisitions in 2022, down from 205 in 2021, according to S&P Global Market Intelligence.

As rates rise, unrealized losses on the bond portfolios that banks hold also go up, making acquisitions more challenging.

But Kooi expects M&A activity to heat up as the economy finds firmer footing, especially since 91%, of the survey participants said they are looking to buy other banks.

Not only do acquisitions provide a shortcut for growth, they also are a way to improve overall efficiency, a goal that gets more pressing as inflation pushes expenses higher, Kooi says.

However, physical branches are one area where community banks remain loath to cut. Wipfli did not ask about branch plans in the most recent survey, but Kooi says based on what she hears not much has changed since last year’s survey, when only 5% of banks said they planned to close branches in 2022.

The slow pace of culling branches could pick up depending on how the economy, M&A activity and banks’ digital transformations unfold, Kooi says.

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Wealth Management Factors into Growth Strategy

Banks are leaning into wealth management as a growth area, according to the Wipfli survey. It is the top service that banks have added in the last three years, with 63% reporting that they now offer it. They also have added related services such as trusts (50%).

Banks are particularly focused on the digital side of wealth management as a way to capture business from younger investors. Nearly half of the respondents — 47% — say they now offer automated investing or robo-advisor options.

“We have an aging population and that means that investments are moving to the next generation,” Kooi says. “Whoever wins the war in that next generation is going to keep those assets.”

Other areas that banks have expanded into over the past three years include instant payments (54%) and insurance (40%).

Not Shying Away From Crypto, Given Customer Demand

One surprising source of future growth is crypto. Despite the high-profile meltdown last year of crypto exchange FTX – and other surveys indicating that banks are withdrawing from crypto – Wipfli found that a growing number of banks are interested in providing services to this sector.

“The high demand from retail customers is proving to be a challenge for regional banks,” Kooi says. If banks fail to accommodate digital assets, “customers may make their investments with other market participants, thus the bank loses the deposits and the fees.”

“The high demand from retail customers is proving to be a challenge for regional banks.”
— Anna Kooi, Wipfli

Potential services include off-balance sheet custody, investment services and lending against digital assets, using a partner like Fidelity to provide valuation and collateral services, Kooi says. Banks also are looking at changing their risk systems to evaluate businesses that are active in the digital asset space, accept digital assets as payment or provide services to the sector.

According to Wipfli, 43% of banks plan to start offering services related to digital assets like crypto, up from 29% in its prior survey in 2021. The bankruptcy of FTX may have only encouraged banks to consider making a move, Kooi says, noting the survey was conducted after the exchange collapsed. (A few banks that had worked with FTX experienced some dramatic fallout in the ensuing months, though, including the soon-to-be-liquidated Silvergate Bank.)

Banks are expecting all the resulting drama to lead to tighter regulation, which will make them more comfortable with bitcoin and other cryptocurrencies, Kooi says. “Even before that, financial institutions were begging for regulators to give some guiderails around it,” she says.

Conflicting findings come from Cornerstone Advisors in its annual “What’s Going on in Banking” report. Just 1% of community banks and 5% of credit unions that Cornerstone surveyed for its 2023 report said they are now offering crypto investing services. Another 1% of banks and 5% of credit unions plan to add them this year, a steep drop from its survey a year earlier when 10% of financial institutions overall had said they planned to add such services in 2022. About 300 financial institutions ranging in assets from $250 million to $50 billion participated in the Cornerstone survey.

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An Eye on ESG and Its Impact on Talent Strategy

ESG – shorthand for a strategy focusing on environmental, social and governance issues – also has become a higher priority for banks, with part of the driving force being the challenge with recruiting and retaining talent.

ESG can be something of a minefield these days. Conservative lawmakers around the country have criticized ESG policies as a form of “woke” capitalism favoring liberal public-policy goals.

However, younger workers and consumers increasingly want to work for and do business with companies that share their values and give them a sense of purpose beyond just the bottom line. “That sense of belonging is a big part of what it takes” to attract and retain talent, Kooi says.

Nearly half, or 48%, of bank executives in the Wipfli survey rated ESG as “extremely important.” But measuring the impact of ESG initiatives remains a challenge. More than half of executives say the environmental component is the toughest to quantify.

Wipfli suggests starting with sponsorship from top executives to build momentum around ESG initiatives, selecting a few critical issues and then setting goals, benchmarks and action plans.

Banks don’t have to take a political stance to engage with ESG issues, Kooi says. They can, for example, emphasize that they are just trying to do what’s best for their communities, she says. “It all depends on how you talk about it.

Overview of methodology and participants:

The Wipfli survey was conducted in November via email with responses coming from 249 bank leaders in 39 states.

Of the respondents, 28% were from banks with $500 million or less in assets; 15% came from banks with assets of $500 million to $1 billion; 30% came from banks with $1 billion to $3 billion, 8% from those with $5 billion to $10 billion; and 1% from banks over $10 billion.

About half of the respondents gave their title, with 25% of those saying they were president and CEO; 22%, CFO; 16%, president; and 15%, CEO. The remainder included mostly other C-level roles.

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