Volume 2, Issue 28, August 15, 2007

Analytical Coordinator        The pace of consolidation in the U.S. banking sector appears to defy the law of gravity – mergers and
Assistant Vice President -
U.S. Financial Institutions   acquisitions (M&A) continue at a brisk pace in spite of rising acquisition premiums, new bank formations
+1 212 806 3241               and – at least among larger banks – a diminishing supply of attractive targets. Since 2000, the number of           commercial banks in the United States has shrunk to 7,380 from 8,315 – net of the approximately 1,030 new
Alan G. Reid
Managing Director –
                              banking charters established during the period, according to the Federal Deposit Insurance Corporation
U.S. Financial Institutions   (FDIC).
+1 212 806 3232
Roger Lister
                              The short-term impact of the prevailing turmoil in the capital markets on M&A volumes is difficult to assess.
Chief Credit Officer –        On the one hand, potential buyers may pause to protect their liquidity. On the other hand, potential sellers
U.S. Financial Institutions   may be under increasing pressure to sell. In the longer term, however, DBRS expects consolidation to
+1 212 806 3231              continue at a pace similar to that of the previous years. If the current volume of M&A activity is an indicator
Brenda Lum, CA, CFA           – 64 mergers announced and 39 new charters reported so far in 2007 through July – active consolidation in
Managing Director –           the industry is likely to continue for the foreseeable future.
Canadian Financial
+1 416 597 7569               While mega-mergers, such as those between JPMorgan Chase & Co. and Bank One Corporation, and
                              between Bank of New York Company, Inc. (BoNY) and Mellon Financial Corp. (Mellon), receive much
Larry J. White
Managing Director –           publicity, the great majority of acquisitions involve banks with assets less than $100 million. In fact, over the
Business Development          past five years the universe of banks with assets less than $100 million has declined by nearly 1,300, net of
+1 212 806 3282               roughly 700 new bank formations in this size group.

Toronto                       Positive rating implications in most cases
DBRS Tower                    DBRS perceives that consolidation can have benefits for individual banks. Successful bank mergers typically
181 University Avenue
Suite 700
                              create – among other things – stronger franchises, more efficient operations, better economies of scale, more
Toronto, ON M5H 3M7           sustainable earnings and higher profitability. Consequently, investors benefit from holding the payment
+1 416 593 5577               obligations of a stronger company. For these reasons the rating implications of M&A are favorable in the
New York                      majority of cases.
140 Broadway
35th Floor
New York, NY 10005            Only a few transactions are sufficiently large to have an immediate material impact on a bank’s credit
+1 212 806 3277
                              fundamentals that requires rating action. In the majority of cases, DBRS takes note of the combined banks’
Chicago                       stronger credit fundamentals and improved future prospects without taking an explicit rating step. For
101 North Wacker Drive
Suite 100                     instance, DBRS commented that the pending acquisition of First Indiana Corporation, with $2.1 billion in
Chicago, IL 60606             assets, by Marshall & Ilsley Corporation (M&I), with $57 billion in assets, represented an attractive long-
+1 312 332 3429
                              term investment for M&I, boosting its market share in Indianapolis, but was not of sufficient scope to
1st Floor
                              warrant positive rating action. By contrast, DBRS placed the ratings of Mellon Under Review with Positive
25 Copthall Avenue            Implications following the announcement by Mellon and BoNY of their intent to merge. This rating reflected
London EC2R 7BP               Mellon’s improved prospects by combining its businesses with the larger and financially more powerful
+44 (0)20 7562 5600
27, avenue de l’Opéra
75001 Paris                   Upward trend in cost of acquisitions may slow M&A activity
+33 (0)1 70 38 52 14          Except for the brief recession in 2002, the cost of acquisitions has been steadily rising on a nationwide basis
Frankfurt                     (Graph 1). The ratio of the price paid by acquirers to the book value of acquisitions has steadily increased to
Trianon Tower
Mainzer Landstrasse 16
                              a median of about 230% in July, 2007, up from about 175% in 2001 and 2002. The premium paid over core
60325 Frankfurt               deposits (portion of the acquisition price in excess of tangible book value relative to the target’s core
+49 (0)69 97 168 144
                              deposits) has had the largest relative increase during this period, more than doubling to a median of 22%.
                              Price to trailing earnings over the twelve months preceding an acquisition has also risen steadily, albeit at a
                              slower rate than the other cost indicators.
Regional economic factors influence transaction volume and cost
Both the volume and cost of M&A activity are influenced by regional economic factors. Graph 2 shows that
transaction volumes in the Midwest and Southeast have remained at fairly high – and rising – levels, while
those in New England, the West, and Mid-Atlantic regions have been relatively low and less consistent.
Graph 3, showing the cost of acquisitions (Price/Book) by region, is helpful in understanding the different
regional dynamics.

Banks in the Midwest are struggling to maintain satisfactory earnings and growth rates because of the
region’s generally lackluster economic performance, higher than average unemployment rate and fierce
competition in a still crowded banking environment. Banks too small or too weak to expand into more
attractive regions seek to boost their competitive positions in the Midwest by buying or merging with others
in the region. The low cost of acquisitions reflects the weaker growth and profitability prospects of this
region relative to other areas. Low acquisition costs, in turn, also facilitate high regional M&A activity.
By contrast, M&A volume in the Southeast remains high in spite of the high costs involved. Both the
transaction volume and related high acquisition costs are fueled by the region’s attractive demographics and
positive long-term prospects. Above-average demographic and economic growth rates, densely populated
areas and high household incomes make this region the top choice for banks both already operating in the
region and those wishing to enter it.

Small acquirers stay close to home, large ones may go outside their footprint
The reasons for merging with or acquiring another bank vary greatly. Smaller banks with limited resources
typically engage in transactions within their current operating footprint to strengthen their branch networks
and deposit market shares, create a platform for future growth and improve profitability. These were the
principal drivers for the $8.6 billion Evansville, Indiana-based Old National Bancorp’s decision to acquire
the $490 million St. Joseph Capital Corp., based in Mishawak, Indiana (completed In October, 2006).
Acquisitions by or mergers between larger institutions are motivated by a broader set of objectives. Building
or strengthening the franchise in attractive markets within or outside the current footprint, cost benefits and
greater operating scale, and more stable earnings growth are just some of the many reasons that drive
transactions involving larger banks. Building a more powerful southeastern franchise drove the merger
between Regions Financial Corporation and AmSouth Bancorporation while strengthening its mid-Atlantic
market share led to PNC Financial Services Group, Inc.’s acquisition of Mercantile Bankshares Corporation.

 For further information, please contact:

 Orest Gavrylak
 Senior Financial Analyst
 U.S. Financial Institutions
 + 1 212 806 3235
                               PRIOR NEWSLETTER ARTICLES
                               (Please click on each title to access the article)

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                                 U.S. Financial Institutions Newsletters Q2 2007                                                         July 11, 2007
                                 U.S. Financial Institutions Newsletters Q1 2007                                                         April 5, 2007
                                 U.S. Financial Institutions Newsletters and Commentaries - Q4 2006                                      January 3, 2007

                                 EUROPEAN BANKING WEEKLY ARTICLES
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