Minnesota's small banks are gaining strength

They're the most profitable in years, a first-quarter report shows. Still, overall loans declined.

Minnesota's army of more than 350 small banks posted profits of $163 million in the first quarter, up 60 percent from a year earlier and one of the strongest first quarters in years.

A performance summary out Thursday from the Federal Deposit Insurance Co. shows that by several other measures, too, the state's community banks are moving to stability. They're at their most profitable in years, with 67 percent of Minnesota's banks growing profits from last year, even if the profits are being boosted from banks setting aside less money to cover souring loans. Asset quality improved, and the banks are burning through the load of repossessed real estate they're carrying.

The FDIC data doesn't include banks chartered outside Minnesota, such as Wells Fargo Bank, U.S. Bank, TCF Bank and BMO Harris Bank.

The devil continues to be loans. In Minnesota, the total amount of outstanding loans shrank by 2.3 percent in the first quarter to $39.95 billion, putting total loans and leases at their lowest level in the past few years, according to the FDIC snapshot. The local Federal Reserve's bank conditions report issued Monday showed a similar drop.

Lack of loan demand from qualified customers has been a No. 1 industry concern for some time now.

"It is the problem," said Joe Witt, president and CEO of the Minnesota Bankers Association. "Nobody's predicting that loan demand is going to pick up anytime soon. There's just too many headwinds."

Community banks are scrambling to diversify their noninterest income stream, such as building on trust department activity or taking advantage of the mortgage refinancing wave to originate home loans and quickly resell them. The mortgages don't show up as loans on the bank books, they show up as fee income.

And some, Witt said, are taking a page from their mega-bank rivals, reconsidering providing customers with free savings or checking accounts.

"Some banks are starting to rethink the whole notion of those free accounts," Witt said.

Marshall MacKay, president and CEO of the Independent Community Bankers of Minnesota, which represents many rural banks, said he doesn't see his members doing that. For the most part, he said, they are protecting their existing customer relationships and hunkering down for the economic recovery to gain more steam and loan demand to return.

"Their business model isn't built on transaction fees," MacKay said. "For the most part they're looking for ways to reduce costs."

Sophie Kelley, senior manager of strategic advisory services for financial institutions at consulting firm Wipfli's Edina office, said that while it's not common yet, she sees some Midwest banks bringing on more expertise in asset management, and acquiring more sophisticated software to support their investment representatives and trust department people. Others are branching out into insurance products. Crop insurance, for instance, has been a good business for some rural banks.

"The focus is definitely shifting now," Kelley said. "They're getting out of the workout mode."

The shift itself remains a challenge, she said. She noted that the FDIC's numbers show noninterest income as percent of average earning assets for Minnesota's community banks was 0.87 percent in the first quarter and has been flat.

"To increase that line item, you have to really go after the basics in your bank in terms of your sales culture," Kelley said. "It's the execution piece that's the challenge."

Jennifer Bjorhus • 612-673-4683

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