Merger and Acquisition in Nigerian Banks
The paper analyses published audited accounts of twenty(20) out of twenty-five(25) banks that emerged from the consolidation exercise and data from the Central Banks of Nigeria(CBN). We denote year 2004 as the pre-consolidation and 2005 and 2006 as post-consolidation periods for our analysis. We notice that the consolidation programme has not improved the overall performances of banks significantly and also has contributed marginally to the growth of the real sector for sustainable development.
The paper concludes that banking sector is becoming competitive and market forces are creating an atmosphere where many banks simply cannot afford to have weak balance sheets and inadequate corporate governance. The paper posits further that consolidation of banks may not necessaily be a
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The paper posits further that researchers should begin to develop a new framework for financial market stability as opposed to banking consolidation policy. Keywords: Consolidation; Profitability; Real Sector; Financial sector 1. Introduction The consolidation of banks has been the major policy instrument being adopted in correcting deficiencies in the financial sector. The economic rationale for domestic consolidation is indisputable.
An early view of consolidation in banking was that it makes banking more cost efficient because larger banks can eliminate excess capacity in areas like data processing, personnel, marketing, or overlapping branch networks. Cost efficiency also could increase if more efficient banks acquired less efficient ones. Though studies on efficiency in banking raised doubts about the extent of overcapacity, they did point to considerable potential for improvement in cost efficiency through mergers.
Consolidation is 63 European Journal of Economics, Finance and Administrative Sciences – Issue 14 (2008) viewed as the reduction in the number of banks and other deposit taking institutions with a simultaneous increase in size and concentration of the consolidation entities in the sector (BIS 2001) The driving forces in bank consolidation include better risk control through the creation of critical mass and economies of scale, advancement of marketing and product initiatives, improvements in overall credit risk and technology exploitation.
These drivers have led to improved operational efficiencies and larger and better capitalised institutions. The results of this policy are neither here nor there contrary to the policy expectation. The most difficult aspect of consolidation is the ones induced by government through mergers and acquisition. Furlong(1994) claimed that consolidation in banking is distinct from “convergence. ” He says that consolidation refers to mergers and acquisitions of banks by banks while convergence refers to the mixing of banking and other types of financial services like securities and insurance, through acquisitions or other means.
He concluded that the impact of consolidation on bank structure has been obvious, while its impact on bank performance has been harder to discern. The Government policy-promoted bank consolidation rather than market mechanism has been the process adopted by most developing or emerging economies and the time lag of the bank consolidation varies from nation to nation. Banking sector reforms are part of monetary policy instruments for effective monetary systems and major shifts in monetary policy transmission echanisms in the last decade in both developed and developing nations.
The banking sector in emerging economies has witnessed major changes to compete, attract international investment and increase capital market growth. There are as many reasons and strategies for bank consolidation as there are banking jurisdictions. When the opportunities in the operating environment for banks, either within the boundaries of a country, an economic zone or geographical sphere, become amenable only to consolidated institutions, there is a tendency for market-induced consolidation.
Many cases of bank consolidation that have been recorded to date in the modern history of banking are of this kind, and ready examples are the European and American bank mergers and acquisitions of the 1980s and 1990s. Market-induced consolidation normally holds out promises of scale economics, gains in operational efficiency, profitability improvement and resources maximization. The outcomes have however, not totally confirmed these supposed benefits and they have varied across jurisdictions, especially when compared with the particular pre-consolidation expectations.
Whatever the potential, the research so far on the effects of bank mergers has not found strong evidence, that on balance, merged banks improve cost efficiency relative to other banks. This does not mean that many mergers, including those of some large banks, have failed to lead to significant gains in cost efficiency. It just means that the outcomes for those banks tend to be offset by problems encountered in other mergers, and that many banks have improved cost efficiency without merging.
A new view is that bank mergers are not just about adjusting inputs to affect costs; rather, they also involve adjusting output (product) mixes to enhance revenues. Two research efforts taking this approach are Akhavein, et al. (1997), covering mergers in the 1980s, and Berger (1998), covering mergers in the 1990s. These studies find that bank mergers do tend to be associated with improvements in overall performance, in part, because banks achieve higher valued output mixes.
While these studies do not track all of the channels through which bank mergers affect the value of output, they suggest that one channel has been banks’ shift towards higher yielding loans and away from securities. This channel is particularly interesting given the other results in these studies. They find that merged banks also tend to experience a lowering of their cost of borrowed funds without needing to increase capital ratios. The lower cost of funds is consistent with a decline in the overall risk of the combined bank compared to that of the merger partners taken separately.
This apparently occurs even though a shift to loans by itself might be expected to increase risk. One interpretation of these results, then, is that a merger can result in a reduction in some dimensions of risk, which then affords the post-merger bank more latitude to shift to a higher return, though perhaps higher risk but output mix. The sources of diversification could be differences in the range of services, the portfolio mixes, or the regions served by the merging banks. 4 European Journal of Economics, Finance and Administrative Sciences – Issue 14 (2008) The objective of the paper is to review the effectiveness of bank consolidation programme in the banking and the real sectors of the economy. This will enable us recommend appropriate policy mix. The paper is structured into six(6) sections. Section one(1) is on introduction; section(2) is on literature review, while section three(3) deals with the evolution of the Nigerian banking sector.
Section four(4) is on experience from other countries, while section five(5) is on post-consolidation performance of the banking sector and economy. Section six(6) in on conclusion and recommendation. 2. Literature Review Reforms are predicated upon the need for reorientation and repositioning of an existing status quo in order to attain an effective and efficient state. There could be fundamental bottle-neck that may inhibit the functioning of the institutions for growth and the achievement of core objectives in the drive towards enhancing and sustaining the economic and social imperatives of human endeavor.
Carried out through either government institutions or private enterprises, reform becomes inevitable in the light of the global dynamic exigencies and emerging landscape. Consequently, the banking sector, as an important sector in the financial landscape, needs to be reformed in order to enhance its competitiveness and capacity to play a fundamental role of financing investment.
Many literature indicates that banking sector reforms are propelled by the need to deepen he financial sector and reposition for growth, to become integrated into the global financial architecture; and involve a banking sector that is consulting with regional integration requirements and international best practices. The nexus between consolidation and financial sector stability and growth is explained by two polar views. Proponents of consolidation opined that increase size could potentially increase bank returns, through revenue and cost efficiency gains. It may also, reduce industry risks through the eliminations of week banks and create better diversification opportunities.
On the other hand, it is argued that consolidation could increase banks’ propensity towards risk taking through increases in leverage and off-balance sheet operations. Furlong(1994) stated that an early view of consolidation in banking was that it makes banking more cost efficient because larger banks can eliminate excess capacity in areas like data processing, marketing, or overlapping branch networks. Cost efficiency also could increase if more efficient banks acquired less efficient ones.
Though studies on efficiency in banking raised doubts about the extent of overcapacity, they did point to considerable potential for improvement in cost efficiency through mergers. Banking reforms involves several elements that are unique to each country based on historical economic and institutional imperatives, for example, in Hungary. Evidence show that the reforms in the banking sector was due to highly under-capitalization of state owned banks; weakness in the regulatory and supervisory of deficiencies in the corporate government behaviors of banks.
Craig and Hardee(2004) conducted investigation on bank consolidation and concluded that as the banking consolidation continues, “relationship” lending is becoming increasingly rare. As credit scoring and formal, formulaic methods are used more and more, specifically by the large banks, many small businesses may find out that they do not “fit” the model, especially those enterprises with negative equity. Thus, small businesses may be filling the financing void that is being created by the bank consolidation with non-bank sources of funds.
Hughes and Mester(1997) provide evidence to suggest that there are scale economics in banking, bank managers are risk averse, and banks use the level of their financial capital to signal the level of risk. This is an area of interest in Nigerian banking, especially when the return on equity is calculated in another two to three years and then compared with the historical industry average.
Rhoades(1996) reported that American banks consolidated in response to the removal of restriction on bank branching across states, while Hughes, J. P; W. Lang; L. J. Mester; C. G. Moon(1998) concluded that the economic benefits of consolidation are strongest for those banks that engaged in interested expansion, and in particular the expansion that diversifies macroeconomic risk. Evidence has shown of 65 European Journal of Economics, Finance and Administrative Sciences – Issue 14 (2008) that that domestic merger improved profitability and operational efficiency, but cross-border (national, not interstate) acquisitions were a surer sources of cost efficiency.
Hughes J. P; Mester, L. J; and Moon, C. G(2000) also provide evidence that scale economies exist in banking but they fail to account for risk. Thus, scale economies that result from consolidation and diversification do not produce better performance in banking, unless choice makes the bank’s management more conscious risk and moderates its decisions and actions appropriate larger scale of operation that leads to diversification only reduce liquidity and credit risk under the ceteris bus assumption, and they argued that this is not always.
The implication for bank consolidation in Nigeria bank is whether the bigger (not yet mega) banks will set good balance between growth and risk management. However, evidence has shown that consolidation exercise leads to more banks to be established in the long run therby return back to the status quo. The examination of merger and acquisition in European banking and found that industry consolidation was beneficial (by providing social benefits) in the first economic integration stages, but could damage welfare in the more advanced stages as the few big banks safeguard price agreements to forestall foreign competition.
The other side to European mergers and acquisitions was because of the possibility of failure. This, of course, ignores the fact that no bank can ever be too big to fail. All it takes for a bank to fail is for “bad news” about a bank to get to its stakeholders (especially depositors) and they all walk in at the same time to take their funds! For such bank to survive, it must have sufficient liquid assets to meet all maturing and long-dated obligations.
Perhaps the most important social benefit that Nigerian banks (after the first round of consolidation ended 31st December 2005) would confer on the banking public and the national economy is a sharp drop in lending rates but later rose beyond pre-consolidation period. There is the likelihood that fewer and colluding banks (especially during the second phase of consolidation that is envisaged) will pursue their own business interests more than they would the national or social interest.