Crazy though it seems, now may be the perfect time to open a bank. In the current mess, startups hold a key advantage: a clean slate. Unlike existing banks, those born after the bust don't have bad assets threatening their books and earnings. This frees them up to make fresh loans. And banks can do so at a tidy profit right now because they can borrow money at ultra-low interest rates and charge borrowers hefty premiums. "New banks can deal with customers instead of dealing with problems," says Carol Hempfling Pratt, a partner with the law firm Foley Hoag, which is working with First Commons Bank, a startup slated to open sometime next year in Newton, Mass.
The success rate for startups is the same whether they're created in crisis or calm; roughly 75% are profitable within three years. But banks coming out of a downturn have a better chance of being acquired and providing a potential windfall for investors. In the years that followed the savings and loan crisis in the early 1990s, mergers jumped by 50%, with many of the 40 startups launched at the height of the tumult getting snapped up in the wave of consolidation. In 1997, Tacoma (Wash.)-based Columbia Banking System (COLB) paid $7 million for Bank of Fife, a private bank opened five years earlier with just $2 million.
Even so, entrepreneurs are shying away from the risky environment. Some 72 banks have opened their doors this year, down from 127 in 2007. "Most bankers are scared," says Lee Bradley, an investment banker at Commerce Street Capital, which works with startups. "To raise capital in this market you have to be confident about what you're doing."
One of the biggest challenges is finding investors willing to pony up seed capital, generally $10 million to $20 million. A major source of funds—so-called angel investors, who commit between $1,000 and $500,000—is disappearing. Even seasoned entrepreneurs are having a tough time. Peter Schoberl rounded up the capital for two previous banking ventures within a few months and later sold them for handsome profits. But it took more than a year to scrounge cash for his latest project, Community First Bank in Somerset, N.J. From his dining room table, he called family, friends, and former investors, eventually tapping 150 people for $10 million.
The bank, which opened in mid-October, is focusing on small business loans. Amid the credit crisis, says Schoberl, big banks have been retreating from this segment, which is perceived as riskier. Fear creates opportunity: In merely seven weeks, Community First Bank has amassed $7.5 million in deposits and made $5 million in loans, mainly to local retailers, gas station owners, and manufacturers. "We can live off big banks' crumbs," says Schoberl.
Consumer First Bank in Sarasota, Fla., which is currently going through the regulatory approval process, hopes to attract consumers who prefer to do business with a small community bank. Chief Executive Anthony Leo says there's a dearth of such firms in the area since Freedom Bank and First Priority Bank folded earlier this year. Most of the institutions that remain nearby, notes Leo, are either private banks that cater to the wealthy or large national operations such as Bank of America (BAC). Says Leo: "We think it's the right time and place for the bank."