1

st
Year PhD
Annual Review

Research Title:

The global financial crisis and its impact on
banking M&As in the European Union
PhD Candidate: Mykhailo Iasinskyi
Supervisors: Dr Beat Reber
Dr Dev Vencappa
Student ID: 4213471

Presentation Plan:
1. Research background
2. Literature review
Theoretical studies
Empirical studies
3. Contribution
4. Data and methodology
5. Timeline to completion
The Background of the Research
Factors influencing changes in banking M&A
market over last 2 decades:

1. Technological progress;
2. Globalisation of financial markets;
3. Improved supervision and regulatory environment;
4. Introduction of the Euro;
5. Establishment of the European Single Market.

The Background of the Research
Figure 1. Number of M&As in the European banking
sector

Source: ECB Report, Nov. 2013

The Background of the Research
Explanations in the academic literature:

Procyclical behaviour (over-lending during upward
phase and over-cautious lending during downward
phase (Goddard et al.,2007 );
Informational asymmetries;
Herd behaviour;
Institutional memory (Altman et al., 2005), Berg et al.,
2005), Bikker and Metzemakers, 2005)
The Background of the Research
Merger waves in history:
Period Name Special attributes
1897 - 1904 First wave
Horizontal mergers
1916 - 1929 Second wave
Vertical mergers
1965 - 1969 Third wave
Conglomerate mergers
1981 - 1989 Fourth wave
Hostile takeovers, junk
bonds-driven LBOs
1992 - 2000 Fifth wave
Global and cross-border
mergers
2003 - 2008 Sixth wave
High volumes, cross-
border mergers,
shareholders activism
The Background of the Research
Recent merger waves in the EU banking:

Fifth merger wave
characteristics
- growth in cross-border deals;
- large number of strategic
bidders;
- extreme losses suffered by
acquirers;
- ended after dot.com crash (2000)

Sixth merger wave
characteristics

- motivated and driven by
excessive liquidity;
- therefore large stake of cash-
financed mergers;
- high volumes of merger deals;
- ended after subprime mortgage
market crashed (2008)
The Background of the Research
Figure 2. Number of financial institutions in the EU:
Source: ECB Press release, 21 Jan. 2014

The Background of the Research
General characteristics of banking M&As in
the EU:
Almost 30% of deals number and 40% of total deals
value in all European mergers;
Prevalence of low-volume domestic deals in the 1990s;
Countries with the most intensive merger activities:
Germany, France, Italy, Austria;
Relatively low number of cross-border deals (<20%)
since banking M&A market reached its peak in 1999.
The Background of the Research
Figure 3. Cross-border penetration in the EU financial
sector
Source: ECB Monthly Reports

The Background of the Research
General characteristics of banking M&As in
the EU:
Almost 30% of deals number and 40% of total deals
value in all European mergers;
Prevalence of low-volume domestic deals in the 1990s;
Countries with the most intensive merger activities:
Germany, France, Italy, Austria;
Relatively low number of cross-border deals (<20%)
since banking M&A market reached its peak in 1999.
The Background of the Research
Explanation of low level of cross-border
activities:
Ineffective merger control;
Misuse of political and regulatory powers;
Disharmonised taxation systems in EU members;
Differences in language and culture.
The Background of the Research
Mechanism of external shock caused by global
financial crisis:
Credit boom and easy access to liquidity undermined long-term risk
assessment by banks;

Subprime mortgage market crashed in late 2007, leading to downturn in
American markets

Collapse of Lehman Brothers triggered liquidity shortages in the US and the
EU banking systems;

Banks restricted operations and crisis began to influence the real economy
sector.

The Background of the Research
Theoretic consequences of financial crisis for
the EU banking M&As:
Banks suffered from a liquidity
shortage due to frozen interbank
lending facilities and could pursue
asset consolidation to maintain
stable level of funds

Banking market remained
fragmented and institutions found
themselves in higher competition
conditions in terms of
deteriorating markets, thus
pursuing asset consolidation
The Background of the Research
Broad research question:

What is the impact of crisis on the European banking M&As?
General research questions:
How do the European banking mergers perform during crisis?
What are the most important factors that determine banking
M&As after the sixth merger wave?
What are the possible consequences of new post-crisis regulatory
initiatives for the EU banking M&As (e.g. seventh merger wave?)
Literature Review
Motives of banking M&As:
1) Value-maximizing motives
synergy
economies of scape and scope
increased market power
risk diversification
capital strength
2) Non-value maximizing motives
agency motives
hubris

Literature Review
Value-maximizing motives of banking M&As:
I. Synergy

= [

)] ( +)

= the combined value of the two banks

= bank A measure of its value (acquirer)

= the market value of bank B stock (target)

P = premium paid for target bank
E = expenses of the acquisition process

Literature Review
Synergy sources according to Lawrence (2001):
Operating economies
Financial economies
Increased market power
Literature Review
Financial synergy sources:
1) Tax advantages (Myers and Majluf, 1984)
2) Lower costs of internal funds due to better match
between resources and investment opportunities
(Palepu, 1986)
3) Better debt protection (due to larger asset
backing)(Higgins and Schall, 1975; Kim and McConnell,
1977)
Literature Review
Value-maximizing motives of banking M&As:
II. Economies of scale and scope






Examples:
Closing redundant branches;
Consolidation of back offices;
Optimization of payment systems.

to distribute fixed costs over
higher output
Economy of
scale
to offer wider range of services
exploiting existing facilities
Economy of
scope
Literature Review
Value-maximizing motives of banking M&As:
III. Increased market power
Sources (according to Gaughan, 1996):


Product differentiation
Barriers to entry
Market share
Literature Review
Value-maximizing motives of banking M&As:
IV. Capital strength

One of the most important motive in the modern EU
banking;
In terms of strong impact of external liquidity shock,
banks try to reach high capital adequacy and asset
quality via M&As.
Literature Review
Non-value-maximizing motives of banking
M&As:
I. Agency motive
M&As are considered as mechanism of substituting ineffective
managers (Manne, 1965);
Management tries to maximise their wages by maximising the
bank size empire-building (Mueller, 1969; Murphy, 1999);
Alternative theory: managers draw attention to the company by
participating in M&As (given developed rankings
system)(Ravencraft and Scherer, 1987)

Literature Review
Non-value-maximizing motives of banking
M&As:
II. Hubris
Classic theory by Roll, 1986 firms compete for target company,
but lose the vision of fair value and winner pays much higher
price (winners curse);
Individual hubris worst-performing deals are performed by
best performing companies, as their managers believe in their
constant and faultless estimation and strategic plans (Morck et al,
1990)
Literature Review
Determinants of banking M&As:
1) Internal determinants
Target operating performance
Capitalisation
Prospects for future growth
Size
Management incentives
2) External determinants
Deregulation and laws
Macroeconomic environment
Technological development
Globalisation
Literature Review
General theoretical patterns of internal
determinants:
1. Less profitable banks are more likely to be acquired (Hannan
and Piloff, 2006);
2. Less capitalised banks are more likely to be acquired (Lanine
and Vander Vennet, 2007) mixed evidence! (Akhigbe et al.,
2004 have opposite results);
3. Slower growing banks are more likely to be merged (Lanine
and Vander Vennet, 2007) - mixed evidence! (Pasiouras et al.,
2007 have opposite results);
4. Smaller banks are more likely to be acquired (Pasiouras et al,
2007);
5. Management is always opposing mergers, especially
participating in management ownership schemes (Hadlock et
al, 1999)

Literature Review
Regulatory impact on the EU M&A market
(Group of Ten, 2001):

1. Through effects on market competition and entry
conditions;
2. Through approval/disapproval decisions for individual
merger transactions;
3. Through limits on the range of permissible activities for
service providers;
4. Through public ownership of institutions;
5. Through effects to minimise the social costs of failures.
Literature Review
Key European regulatory initiatives in M&A
control:
Adoption of Single Banking Initiative
(creation of universal banking model in the
EU)(Nellis, 2000)
1992
Adoption of Financial Services Action
Plan (unification of accounting practices
and prudential rules)(Hamoir, 2005)
1999
Basel II Accord (establishing obligatory
conditions of capitalisation for the financial
institutions)(Kanbay, 2005)
2004
Literature Review
Impact of the technological development on
the EU banking M&A market:

Increase in production (credit
cards)
Enhanced efficiency in risk
management (derivatives)
Economies of scale (economic
research)
Literature Review
Impact of macroeconomic environment on the
EU banking M&As:
1. Cycles of capital markets are synchronised with M&A
cycles (Mueller, 1989);
2. GDP and inflation growth have positive influence on
banks performance and, therefore, on the positive M&A
outcomes (King and Levine, 1993; Rajan and Zingales,
1998);
3. Unemployment rate, interest rate and production
productivity are in mixed correlation with the financial
sector performance (Molyneux and Thorton, 1992;
Pasiouras and Kosmidou, 2005)
Literature Review
Market performance studies
Short-term:
1) Target company: positive abnormal returns (Houston and
Ryngaert, 1994; Hawawini and Swary, 1990; Cybo-Ottone and
Murgia, 2000; Campa and Hernando, 2006);
2) Acquirer company: mixed evidence (majority of scholars
find zero or insignificant abnormal returns - Cornett et al.,
2003; Anderson et al., 2004; DeLong and DeYoung, 2007),
however, significant positive returns are reported by Beitel et
al., 2004 and Campa and Hernando (2006);
3) the EU studies are in contrast to the US market, where
acquirer experiences significant negative abnormal returns
Long-term:
1) Combined entity: negative effect in long run (Limmack, 1991;
Ikenberry, Lakonishok and Vermaelen, 1995; Gregory and
McCorriston, 2005)
Literature Review
Impact of deal characteristics on performance:
1) Mood of the deal: mixed results (Gregory, 1997 and Cosh and
Guest, 2001 find that hostile deals outperform friendly deals;
while Goergen and Renneboog, 2004 provide opposite
evidence);
2) Listed status: mergers with private banks involved
outperform public mergers (Draper and Paudyal, 2006)
3) Method of payment: cash-financed deals outperform stock-
financed deals (Loughran and Vijh, 1997; Myers and Majluf,
1984);
4) Acquirer/target relative size: mixed evidence; deals with
larger target banks show higher CARs (Bruner, 2002),
however Sudarsanam, 1996 find negative relationship;
5) Merger experience: frequent bidders enjoy higher abnormal
returns (Baker and Limmack, 2001)
Literature Review
Operating performance studies (levels of
study):
1. To reveal overall performance patterns (sometimes with
focus on deal types, payment methods etc.)
2. To examine factors of performance changes (cost
reductions and profit improvements)
3. To investigate the time scale over which performance
changes are actualized (with focus on synergy effects
timing etc.)

Literature Review
Operating performance studies:
1) Generally, mixed evidence: several papers report zero
changes in operating performance (Zollo and Singh,
2004; Akhavein et al., 1997); however, Cornett et al., 2006
testify significant positive gains for combined entities;
2) EU context shows mixed results: while Vander Vennet,
2002; Campa and Hernando, 2006 find positive changes,
Altunbas and Ibanez (2004) report no changes in the
operating performance;
3) The latest studies testify significant profit efficiencies
(Chronopoulos et al., 2011, Chronopoulos et al., 2013);
4) Studies on national markets show negative results for
Switzerland and Italy (Rime and Stiroh, 2003; Casu and
Girardone, 2002).
Contributions

- The research aims to estimate the impact of financial
crisis on the European financial mergers and
acquisitions.

- M&As during pre-crisis period, crisis period and post-
crisis period will be assessed and compared;

- Thesis aims to establish relationship between
macroeconomic/legal environment and the market of
financial M&As;

- The objective of the thesis is to capture the wide range
of factors that influence banking M&As, providing
complex approach to the problem.

Contributions
Research questions:

1. What are the main differences between post-merger performance
patterns in European banking in periods of crisis and economic
upturn? What factors have contributed to the post-merger effects
for banks and financial institutions?
2. What are the post-merger efficiency changes for the deals that took
place during the financial crisis comparing to pre-crisis takeovers?
3. What is the effect of pre-crisis and crisis macroeconomic
environment on the European banking mergers in terms of
uncertainty?
4. How regulatory and legal environment influence the M&A
processes in the European banking sector and what are results for
banks in different legal systems?
5. What is the effect of capital requirements on merger performance
in the European banking sector during financial crisis?
Methodologies
1. Short-term event study: to determine short-term abnormal
returns for participants in banking mergers in three different
periods: pre-crisis (1990-2006), crisis (2007-2009) and post-
crisis (2009-2014)(Brown and Warner, 1985);
2. Long-term event study: long-term abnormal returns for EU
merged banks will be evaluated (buy-and-hold
methodology)(Ritter, 1991; Barber and Lyon, 1997)
3. Regression analysis will contain GARCH technique to
capture volatility effect during crisis (according to
methodology by Savickas, 2003; Maditinos et al., 2009);
4. Accounting data analysis technique similar to one in Healy
et al., (1992) will be implemented to assess merged European
banks post-acquisition performance;
5. Logistic regression will be deployed to evaluate the
probabilities of banking institutions to merge under
regulatory pressure (Basel III Accord)(following Hernando
and Nieto, 2009).
Methodologies
1. Short-term event study:

), therefore:

=
=
=

=
=

where:

- market return;

- company return; , -
coefficients;

- cumulative abnormal return

2. Long-term event study:

= 1 +

((1 +

))

=1

=1

where: T is number of months after trigger event;

- buy-
and-hold return;

- company return for month t.

Data
Main source: Datastream and Thomson Financial Database;
Data covers period between January 1st, 1990 and February 20th,
2014 which resulted in 13988 transactions;
Data includes countries of European Union (28 members),
Switzerland and Norway;
Restricting criteria:
1) the stake of acquired shares should be more than 50%;
2) the involved companies should belong to financial sector;
3) the target and bidder are listed;
4) the target and bidder companies should be registered or
headquartered in the European Union, Switzerland or
Norway.

After preliminary exclusion of deals with absent data, 1400
transactions remained.

The Timeline to Completion
Stage Timeline
July August, 2014 finishing and updating literature review based
on Annual Review Assessment comments and
feedback
September October, 2014 preliminary data collection, ensuring access to
the databases
October November, 2014 optimising models and research
methodologies, finalising model specification
November - December, 2014 final data collection
January - March, 2015 structuring the collected data, constructing
sample for the research chapters
April May, 2015 empirical work, testing the hypothesis,
structuring results
June, 2015 presenting 2
nd
year Annual Review
July November, 2015 finalising empirical part
November 2015 April 2016 writing up of the thesis
April May, 2016 finalising and editing
June 2016 presenting thesis at viva voce