Mergers and Acquisitions (M&As) in the Banking Sector

Contents:

1 The global bank merger wave
1.1 Worldwide overview
1.2 European merger and acquisition activity
1.3 Development of concentration in European countries

2 Typical patterns of consolidation

3 Main causes of consolidation
3.1 Cost reduction
3.2 Revenue enhancement
3.3 Forces encouraging consolidation

4 Risks of consolidation
4.1 Pricing of the operation
4.2 Underestimation of post-merger management
4.3 Cultural differences

5 Measurement of economical results of M&As

6 Conclusion

1 The global bank merger wave

The last decade of the 20th century was a decade of enormous changes in the banking sec worldwide. If one compares the largest banks of the world in 1995 with those at the end of 2000 it is obvious to see that many changes have happened in recent years: In 1995 all top five banks were from Japan (total assets in million USD in brackets): Dai-Ichi Kangyo Bank (626,171), Sumitomo Bank (617,053), Sakura Bank (607,245), Sanwa Bank (600,111) and Fuji Bank (587,154). At the end of 2000 the top five banks ranked by total assets were: Sumitomo Mitsui Banking Corp., Japan (958,189), CitiGroup, USA (902,210), Deutsche Bank Group, Germany (882,577), HSBC Holdings, U.K. (673,814) and Bayerische HypoVereinsbank, Germany (672,720). These newly-formed banking groups arose from mergers and acquisitions (M&As) and therefore they are good examples for all the M&As that have taken place in the banking sector worldwide in recent years. To distinguish between mergers and acquisitions, both terms are being defined as follows: a merger is a transaction where one entity is combined with another so that at least one entity loses its distinct identity (full integration) while an acquisition is defined as a transaction where a company purchases a controlling stake of another firm without combining the as of the firms involved.^[1]

The M&A activity in the banking sector is being analysed in this homework on a global basis and, where appropriate, with a special focus on European activities. To do so, the following procedure has been chosen: After the presentation of typical patterns of consoli the main causes of consolidation and risks arising from M&As will be examined.

Afterwards the economical results of the M&A process will be analysed to give a conclu and an estimation on future activities. First of all, the M&A activities on a global basis and in Europe are being introduced:

An enormous wave of mergers and acquisitions in the financial industry could be ob in the last decade of the 20th century. In this context the financial industry is defined as banks, insurance companies and securities firms (including investment banks).^[2] To give an overview of the consolidation process, this chapter is divided into three sections. A worldwide overview will be presented in chapter 1.1 while section 1.2 focuses on E uro M&A activities and in section 1.3 the concentration process will be analysed.

1.1 Worldwide overview

The figures reported in this chapter are based on a study on financial consolidation pre by a Working Party that was established under the auspices of the finance ministry and central bank deputies of the Group of Ten (G10). The following figures do not com all countries worldwide but the 13 most important industrial countries (G10 coun^[3] plus Australia and Spain). In total, more than 7,300 M&A deals with a total value of roughly 1.6 trillion USD (based on the market price of shares or on the value of shares that have been exchanged) were observed in the 13 reference countries during the 1990s.^[4]

With reference to the detailed data shown in Table 1 in the Annex it can be observed that the number of deals nearly tripled from about 300 deals in 1990 to almost 900 transactions in the last three years of the decade. The figures of values of deals do confirm this observa as they roughly show a tenfold increase in transactions at the end of the decade com with the beginning of the 1990s. More than 85% of these M&As were domestic.^[5] The merger and acquisition activity in the European Union (EU) will be presented in the next section.

1.2 European merger and acquisition activity

The data presented in this chapter is based on a study of the Banking Supervision C ommit of the European System of Central Banks and includes all countries of the European Union.^[6] Although the data reported in that study only dates back to the year 1995, a similar picture of the worldwide M&A activities can be seen: The number of transactions in from 326 deals in 1995 to almost 500 in 1999 and there is a strong increase espe in the last two years of the decade (see detailed figures in Table 2 in the Annex).

Looking more closely at domestic bank M&As in Europe, it can be observed that there have been many more “small” bank M&As than “large” ones. Although there has been a slight increase in “large” M&As, Table 3 in the annex shows clearly that roughly 87 % of the domestic bank mergers in the last three years of the decade were “small” ones. The reason for this phenomenon is that small institutions outnumber large ones by far in the EU.^[7] The concentration process that came along with these mergers and acquisitions in Europe will be described in the following section.

1.3 Development of concentration in European countries

The degree of concentration varies across EU countries. Smaller countries tend to have a higher level of concentration than larger ones. Measured by total assets of the five largest credit institutions as a percentage of total assets per country, three groups can be observed: The countries with a high concentration level (>70%) are Sweden, the Netherlands, Finland, Portugal, Denmark and Greece while Austria, Belgium, Spain, Ireland and France have a medium concentration level between 40% and 60%. Germany, Luxemburg, the United Kingdom and Italy have the lowest concentration level (<30%). In regard to the development of concentration, an increase of concentration in the highest concentrated countries can be observed, while there is a slight reduction for the medium group and a slight increase in Germany; the country with the lowest concentration level of all EU member states.^[8]

2 Typical patterns of consolidation

The M&A transactions can be placed into one of four groups as these four groups repre four major patterns that can be observed, depending on whether the companies in are from the same or from different countries and whether they are from the same or from different industries.^[9] If companies involved are from different industries (e.g. commercial banks, insurance companies, investment banks) the transactions are qualita different from pure bank M&As, because they lead to a conglomerate that operates in different sectors of the financial industry.^[10] With reference to Table 2 in the Annex, about 85% of all bank M&As in the EU have been domestic ones. About 80% of total bank M&As in the EU involved banks from Germany, Italy, France and Austria because these countries have the largest number of credit institutions in the EU.^[11] The G10 study gives more detailed information about the frequency of pure bank transactions and con. In the 13 reference countries roughly 70% of all transactions were bank M&As. The second most common type has been domestic conglomeration although this type has only accounted for about 15 % of all transactions.^[12] In Europe far more banks acquired companies from other financial sectors then have been acquired by companies from other financial sectors. This may be due to the fact that entry barriers are historically higher in the banking sector than, for example, in the insurance sector. Moreover in many states of the EU the banking sector is better developed and larger than the insurance sector. Domestic conglomeration led by credit institutions had a share of about 85% in the years 1997 to 1999.^[13] A good example of a domestic bank M&A in Europe has been the merger of the Bayerische Hypotheken-und Wechselbank and the Bayerische Vereinsbank whereas the acquisition of the Dresdner Bank by the Allianz insurance company has been a famous example of domestic conglomeration. International M&A activity accounted for far fewer operations than domestic ones. About 10% of total transactions monitored in the 13 refer countries of the G10 study were transactions of companies operating in the same in but in different countries, thus the remaining 5% of all transactions were cross transactions involving companies from different industries.^[14] In Europe interna bank merger activity had a share of roughly 15% only (for data see Table 2). I nter conglomeration was led by credit institutions with an increasing share from 81% in 1997 to 87,5% in 1999.^[15] The acquisition of Germany’s BfG Bank AG by the Swedish Skandinaviska Enskilda Banken is a good example of an international bank merger, whereas the acquisition of the US investment bank Banker’s Trust by the German com bank Deutsche Bank is a good example of international conglomeration. After this overview of typical patterns of consolidation the motivation factors for M&As shall be analysed in the following section.

3 Main causes of consolidation

Overall the pursuit of increased profitability prevails as a motive for mergers and acquisi.^[16] Increase of profitability can be achieved through two factors, the reduction of costs and the increase of revenues. Therefore this chapter is structured as follows: section 3.1 analyses the motivation factors to achieve a higher profitability through cost reduction and section 3.2 analyses motivation factors with the aim to increase revenues. Besides these two factors there are environmental forces encouraging consolidation, which will be ob in section 3.3. All data presented in this chapter is from interviews with 45 financial sector participants and industry experts from the 13 reference countries of the G10 study (e.g. representatives from the banking, insurance and investment banking sectors, lawyers, consultants, senior analysts and academics) based on a common interview guide.^[17]

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^[1] see G10 (2001), page 31f

^[2] see ibid., page 32

^[3] Belgium, Canada, France, Germany, Italy, Japan, the Netherlands, Sweden, Switzerland (associated to G10), the United Kingdom and the United States of America

^[4] see G10 (2001), page 33

^[5] see ibid., page 34 f

^[6] Austria, Belgium, Germany, Denmark, Spain, Finland, France, Greece, Ireland, Italy, Luxemburg, the Netherlands, Portugal, Sweden and the United Kingdom

^[7] see ECB (2000), page 11

^[8] see ECB (1999), page 23

^[9] see G10 (2001), page 34 and

^[10] see ECB (2000), page 13

^[11] see ibid., page 10

^[12] see G10 (2001), page 35

^[13] see ECB (2000), page 14f

^[14] see G10 (2001), page 35

^[15] see ECB (2000), page 15

^[16] see ibid., page 20

^[17] see G10 (2001), page 115