* New SBIC fund is spinout from Pennsylvania bank
* $175 mln tagged for lower mid-market investments
* Seeks to make 20 to 30 investments in pool
By Steve Bills
NEW YORK, Sept 11 (Reuters) - American banks, which have been shedding their private equity operations because of the Volcker Rule, can use an exemption in the financial reform law at least to get back into the lower end of the middle market.
FNB Corp, a regional banking company based in Hermitage, Pennsylvania, is showing the way. The $12.6 billion-asset company, parent of First National Bank of Pennsylvania, the No. 3 retail bank in Pittsburgh by deposit market share, has spun off its merchant banking arm to form a small business investment company.
The new business, FNB Capital Partners, announced its launch on Sept. 5 with $175 million of deployable capital. The SBIC fund has nearly $60 million from 60 investors, a group that includes FNB Corp and four other regional banks, a pension fund and several high-net-worth individuals, said Matt Harnett, a partner in the SBIC, which is the first in Pittsburgh. The fund, when levered two-to-one as SBICs are allowed to do, has $175 million in total to invest, Harnett said. "We've been working on this for 24 months. It was a long and arduous process."
The SBIC fund grew out of FNB Capital Corp LLC, a wholly-owned merchant banking unit of the bank that was launched in 2005 by Stephen J. Gurgovits Jr., now the managing partner of FNB Capital Partners. Harnett said that he and Tyson S. Smith, former employees of the merchant banking business, are also principals of the new operation. In all, six investing pros are on the team now, Harnett said.
Since 2006, FNB Corp's merchant banking business has invested $65 million into 20 transactions, earning an IRR of 19 percent, Harnett said. "That was right through the recession." Seven or eight of those investments remain active in the portfolio, he added. "We will continue to manage that portfolio for FNB."
FNB Capital Partners, the name of the new SBIC fund, will be managed by Tecum Capital Management. Although the firm was established as a legal entity in conjunction with the two-year effort to establish the SBIC and raise the commitments for it, Tecum Capital Management became active only after the team resigned from FNB Corp at the end of July and started Aug. 1 as the first day of work at Tecum Capital Management, Harnett said.
"We are a separate company. We are not employees of FNB." The name also distinguishes the firm from the bank and offers the promise of continuity if the bank decides in the future to diminish its role in future funds, he said.
Tecum Capital Management has the ability to invest the SBIC anywhere in the United States, although the partners plan to focus on a region within a half-day's drive of Pittsburgh, ranging from Buffalo, New York, to Cleveland and Richmond, Virginia, Harnett said. "We're finding a lot of opportunities literally in our backyard."
The firm seeks to invest $3 million to $10 million of equity or mezzanine capital per deal, typically in companies generating $10 million to $100 million of revenue and more than $2 million of EBITDA, Harnett said. The firm is industry agnostic but is seeing a lot of manufacturers, distribution, healthcare and business services companies. Its goal is to make investments in 20 to 30 companies through this $175 million pool.
Tecum Capital Management expects to focus on management buyouts, such as company founders selling to managers, Harnett said - "that's really big in this region" - and growth capital investments. "We do some sponsor-backed transactions," Harnett added.
Bank-sponsored SBICs used to be more common before the Gramm-Leach-Bliley Act took effect in 1999. That financial deregulation law broke down the Glass-Steagall wall of separation between commercial banking and investment banking, providing new avenues for banks to invest, and SBICs fell into disuse by the industry, said Brett Palmer, the president of the Small Business Investors Alliance, a lobbying group for the SBIC industry.
But the Volcker Rule, an element of the Dodd-Frank financial reform law of 2010, changed the equation for banks again, Palmer said. For the most part, the Volcker Rule imposed strict limits on banks' investments in private equity funds, but it contained an "escape hatch" exempting SBIC investments from the Volcker Rule.
"You are going to see a lot more banks as LPs. You're going to see more banks getting involved in the SBIC space," Palmer said, noting that SBIA is working with a number of banks with their own SBIC plans. "FNB is leading the way here."