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benefits of banking mega-mergers: Event study evidence from the 1998 failed mega-merger attempts in Canada, The

Canadian Journal of Administrative Sciences, Sep 2003 by Baltazar, Ramon, Santos, Michael

Abstract

We investigate the main benefit(s) of specific banking mega-mergers, and whether or not we can infer the benefit(s) from event study evidence of stock market reactions to the mega-mergers. In addressing these questions, we examine the market's reactions to three announcements surrounding the 1998 failed mega-merger attempts in the Canadian banking industry. From our analysis, we conclude that market power-not scale, scope, or X-efficiency economies, or access to government safety net subsidies-was the primary benefit ascribed by Canadian shareholders to the merger proposals. To the extent that the market's perception of merger benefits is an accurate indicator of the merging partners' motives, we also conclude that an analysis of shareholder reactions to a merger announcement-as undertaken here-is a productive avenue for regulators attempting to discern a particular merger's main motivations.

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Resume

Dans cette etude, nous examinons les avantages principaux de certaines mega-fusions bancaires. Nous nous demandons s'il est possible d'inferer ces avantages a partir de l'etude des reactions du marche boursier aux mega-fusions. Notre etude s'appuie sur les reactions du marche enregistrees a la suite de trois annonces, en 1998, de tentatives de mega-fusions avortees dans l'industrie bancaire canadienne. Notre analyse debouche sur la conclusion que le pouvoir du marche-et non son echelle, son etendue, l'efficacite de son economie (economies en efficacite X) ou l'acces au filet de securite des subventions gouvernementales-est le principal avantage que les actionnaires canadiens evoquent pour justifier les propositions de fusion. La perception des avantages de la fusion etant un indicateur clair des motivations des partenaires de la fusion, nous pensons qu'une analyse des reactions des actionnaires a l'annonce d'une fusion est une piste pertinente dans la determination des principales raisons qui la sous-tendent.

We investigate the main benefit(s) of specific banking mega-mergers, and whether or not we can infer the benefit(s) from event study evidence of stock market reactions to the mega-mergers. In line with Kane's (2000) approach, we define a banking mega-merger as a merger or acquisition that involves one of the top six Canadian banks, as measured by asset size, and that increases the pro forma asset size of said bank by at least half the amount of assets carried by the sixth-ranking bank.

Answers to these questions would be useful to regulators who must assess merger proposals ultimately on the basis of the merger's projected social benefits and costs, and whose investigation must include identifying the motives of the merging parties beyond projections of efficiency improvements that accompany virtually every merger application (Kane, 2000). Understanding the market's perception of merger benefits from an analysis of shareholder reactions to merger announcements may be a better avenue for discerning merger motives than asking the parties involved in the merger proposal.

We examine the market's reactions to three events surrounding the 1998 failed mega-merger attempts in the Canadian banking industry. Event 1 occurred on January 23 when representatives of the Royal Bank (RBC) and the Bank of Montreal (BMO) announced a merger proposal between the two institutions. Event 2, on April 17, disclosed the intended merger between the Canadian Imperial Bank of Commerce (CIBC) and Toronto-Dominion Bank (TD). Event 3 is the announcement made by Finance Minister Paul Martin on December 14 rejecting both merger proposals. The merger proposals involved four of the five largest Canadian banks, and represented almost 70% of industry assets (Bream, 1998).

The Canadian banking topology is relatively flat with a few large banks controlling the entire market. Table 1 characterizes eight banks by their revenue, total capital, and employee numbers in 1998. Of the 54 banks that accounted for combined assets of over $1.4 trillion (Bessler & Murtagh, 2002), the top five banks made up over 80% of total industry assets. Competition from foreign banks was not considered threatening due to existing restrictions on foreign competition and security laws (Weber, 1998).

In the U.S. and Europe, the 1990s saw a trend of banking mega-mergers induced in part by the relaxation of regulatory restraints on the financial services industry (Becher, 2000; Cybo-Ottone & Murgia, 2000; Kane, 2000). In the U.S., banking mega-mergers became common, with several involving institutions with assets over US$100 billion each (Berger, Demsetz, & Strahan, 1999; Kane, 2000). Similarly, in Europe, many banks involved in the 54 mergers examined by Cybo-Ottone and Murgia (2000) for 1988-1997 had assets of over US$100 billion.

In the context of this trend, concern for the ability of Canadian banks to compete effectively in the international market stimulated the 1998 mega-merger proposals we examine. The proposals generated heated debate, with supporters pointing to anticipated gains in Canada's international competitiveness (see Johnson, 1998; Noble, 1998; Timewell, 1998), and detractors focusing on the mergers' negative implications for domestic competition (e.g. Cote, 1998; International Monetary Fund, 1999; Schachter, 1998). The proponents claimed that the mergers would enable the industry to increase economies of scale and scope that would give it the capability to remain competitive in an increasingly global economy, in part by giving the merged banks the resources to fund the largest deals in which any Canadian company is involved. Perhaps in the hope that Canadian regulators would overlook lower domestic competition for the sake of promised gains in the international arena, the merger proponents may have underestimated regulatory reaction to the unprecedented level of local industry concentration that would result. Ultimately, the proposals were rejected because they were likely to result in lower competition, higher prices, and lower service levels (Competition Bureau of Canada, 1998).

benefits of banking mega-mergers: Event study evidence from the 1998 failed mega-merger attempts in Canada, The

Canadian Journal of Administrative Sciences, Sep 2003 by Baltazar, Ramon, Santos, Michael

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