Harleysville National to be acquired by First Niagara

Harleysville National Bank has long planned to mark its 100th anniversary this October. Now that celebration may also be its swan song as an independent institution.

Under pressure from federal regulators to raise extra capital to cover losses on loans linked to residential real estate, the Montgomery County bank's parent company said yesterday that it had agreed to be acquired by First Niagara Financial Group Inc., a Buffalo-based bank holding company.

In a joint announcement, First Niagara said it would pay about $237 million to purchase Harleysville National Corp. in an all-stock transaction worth about $5.50 per share to Harleysville National shareholders.

If the deal goes through, it will end a century of local ownership for Harleysville National, which was founded in October 1909 by Alvin Alderfer, the same entrepreneur who founded the Harleysville Group insurance company and Harleysville Savings Bank.

A spokesman said Harleysville National now ranks as one of the Philadelphia region's largest locally owned banks, thanks to a series of earlier mergers and acquisitions that swallowed its larger competitors.

Harleysville National operates 83 branches in nine eastern Pennsylvania counties and has $5.6 billion in assets along with $4.1 billion in deposits. It has grown through its own acquisitions, including the 2007 purchase of East Penn Financial Corp. and last year's purchase of Willow Financial Bancorp Inc., and also by adding branches, including a new Conshohocken facility this year.

Harleysville National currently employs about 1,100 people.

Despite its growth, Harleysville National could not escape the nationwide collapse in housing values, which undermined its twin portfolios of residential mortgages and loans to housing developers - both backed by the same troubled class of assets.

Through the second quarter of this year, housing prices have fallen about 32 percent from their 2006 peak, according to Celia Chen of Moody's Economy.com. Although the Philadelphia region has been hurt less than most markets, the five-county Pennsylvania portion of the region has seen an 11.5 percent decline from its peak, Chen said.

In June, Harleysville National disclosed that it had been ordered by the Office of the Comptroller of the Currency to raise an additional $65 million to $120 million by June 30 to maintain its status as "well-capitalized" under the regulatory agency's standards.

About 180 national banks are currently facing similar enforcement actions, an OCC spokesman said.

Harleysville National warned investors that it did not expect to meet that deadline, and it did not.

During an interview yesterday, chief executive Paul D. Geraghty said he had weighed proposals from private-equity firms as well as other potential mergers, and had recommended the First Niagara acquisition.

"It seemed at the end of the day that all the constituencies - customers and employees, shareholders and the community - would be better served by this kind of strategic combination," Geraghty said.

Geraghty said that private-equity sources were looking for growth on too short a timetable, seeking to recoup their investments and gain a return within five to seven years. Their proposals would have made it hard for the bank to afford crucial investments in updating its technology, he said.

Ironically, Harleysville National may have been too healthy to truly interest private-equity firms, according to Jason O'Donnell, a banking analyst at the Conshohocken firm Boenning & Scattergood Inc.

"A lot of those investors are looking for opportunities to buy a failed bank," O'Donnell said. "In this case, there was a suitor willing to come in and pay a premium." Under the deal, Harleysville National shareholders would receive a 37.5 percent premium over Friday's $4 close.

John R. Koelmel, First Niagara's president and chief executive officer, echoed Geraghty's sentiments.

Koelmel said Harleysville National "just got caught in this perfect storm that many in our industry are struggling with." He said that Harleysville National operated in "a wonderful market" and that the acquisition would allow First Niagara to build on the foothold it recently established in Pennsylvania.

In April, First Niagara acquired 57 branches of National City Bank as that institution was taken over by Pittsburgh-based PNC Financial Services Group Inc., parent of PNC Bank.

"The communities served by Harleysville are perfect complements to First Niagara's stable and resilient markets in Upstate New York and Western Pennsylvania," Koelmel said.

Koelmel said First Niagara recently repaid $184 million in federal money from the Trouble Asset Relief Program, including about $6 million in dividends and warrant buybacks that he said equaled an 8 percent annualized return.

He said the bank paid back the TARP funds using money that it had raised last year and this year from private investors.

"Right now, we're in a pretty unique position in that we're dealing from a position of strength," Koelmel said.

Harleysville's troubles were plainly a result of the nationwide collapse in housing prices.

Forty-four percent of all its loans were in single-family homes - the highest percentage among the 10 biggest banks with headquarters in the Philadelphia region, according to an analysis of bank data.

Also hurting the bank were the failures of developers to which it had lent money. For instance, according to a bankruptcy court filing of TH Properties L.P., the developer owed Harleysville National $17.3 million as of July 20.

Despite such problems, Koelmel said First Niagara saw the Philadelphia region as a market with opportunities for greater growth.

"Harleysville wasn't a broken business; it wasn't a bad business," Koelmel said. "It just didn't have sufficient capital, as far as the regulators were concerned."

First Niagara said it planned to maintain all Harleysville National and East Penn branches, and to build on the Pennsylvania company's growing commercial banking and wealth-management business.

A Harleysville National spokesman said that its branches would eventually be renamed after the transaction closes, which the banks hope to accomplish in the first quarter of next year.

The banks said the deal had been approved by both holding companies' boards of directors but remained subject to regulatory approval and other conditions, including the approval of Harleysville National shareholders.

But for now, a spokeswoman said Harleysville National was looking to October as an opportunity to "reward our customers" and honor its 100th anniversary.

"We still look forward it," said Noel Devine. "We have much to celebrate."

Harleysville National

Headquarters: Harleysville

Founded: 1909

Employees: 1,169*

Branches: 83, in Eastern Pennsylvania

Assets: $5.6 billion

Deposits: $4.1 billion

2009 first-quarter profit: $4.6 million

First Niagara

Headquarters:

Lockport, N.Y.

Founded: 1870

Employees: 2,700**

Branches: 170, in Upstate New York and Western Pennsylvania**

Assets: $11.6 billion

Deposits: $10.4 billion**

2009 first-quarter profit: $18.7 million

*As of Dec. 31, 2008.

**Includes branch acquisition from National City Bank, scheduled to close in September

SOURCES: Harleysville National, First Niagara, Bloomberg News

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