Bank Mergers and Acquisitions:
Set Sail for Success

By Eric Schoeniger

The Queen Mary 2, operated by the legendary Cunard Line, is the largest ocean liner in history. In fact, it is larger than Cunard's two other biggest vessels, the Queen Elizabeth 2 and the Caronia, combined.

The QM2 was built from the ground up for unsurpassed luxury. But imagine if it had been created by simply bolting together the QE2 and the Caronia. It sounds absurd. But that's exactly what banks attempt to do every year as they grow through mergers and acquisitions.

It's no wonder that more than half of all mergers fail to deliver on their promise. The fact is that even mergers that make perfect strategic sense often falter when it comes to implementation. It's notoriously difficult to integrate the organizations, processes and technology necessary to deliver success.

But what if you had visibility into exactly what needed to be integrated? What if you had traceability that revealed how integration in one area affected all other areas? What if you had flexibility that allowed you to respond to changing business conditions?

Better yet, what if you could start planning for such visibility, traceability and flexibility before the merger actually took place, during due diligence?

The Pace of M&As

There's no doubt that banks have become increasingly acquisitive. "We are seeing a burst of merger activity in the United States that we expect to continue for the next two years or so," reports Michon Schenck, COO of Financial Insights of Framingham, Mass.

The trend is similar in Europe and Asia, she says. For example, Spain's Banco Santander Central Hispano plans to acquire Abbey National, the United Kingdom’s sixth-largest bank and second-biggest mortgage lender. The transaction represents Europe's largest cross-border banking deal and would create the world's 10th-largest bank by market capitalization.

Meanwhile, the Royal Bank of Scotland Group (RBS), through its wholly owned subsidiary Citizens Financial Group, has an agreement to acquire Cleveland, Ohio-based Charter One Financial. The transaction will place the new Citizens Group among the top 10 in assets and deposits in the United States. According to a New York Times report, this deal is further evidence that RBS intends to expand its U.S. operations. Charter One will be RBS’ 26th acquisition since it acquired Citizens in 1998. (See Merger Rush in Global Banking for details on the top 10 recent mergers.)

There are several drivers of this trend. In the United States, banks have seen lackluster revenue growth, and they have eliminated about as much cost as they can through internal efforts. At the same time, many banks are enjoying high stock prices, which gives them the collateral to pursue acquisitions.

Merger Rush in Global Banking

(Largest deals announced since 4Q 2003)
 

"But the primary reason is that acquisitions are a good way for banks to expand their retail franchise," says Gary Cawthorne, managing partner of the Global Banking practice at Unisys.

In fact, bank mergers can deliver a number of clear business benefits. "What frequently drives mergers for large institutions is the ability to leverage costs over a larger customer base," says Jim Eckenrode, vice president of Banking and Payments Research for TowerGroup of Needham, Mass.

The proposed merger between Wachovia and SouthTrust is a good example. Both have overlapping infrastructure with a large number of branches in the same areas, and a merger should allow them to reduce costs by reducing the number of branches.

Mergers can also enable banks to offer new products and to reach new customers. Such mergers reach across geographies or industry segments. A good example is Bank of America's recent acquisition of FleetBoston. "Many of the mergers we're seeing today are for expansion rather than cost reduction," Cawthorne says.

Trouble in Paradise

But for all their potential benefits, bank mergers can be fraught with problems. "Mergers are arguably an order of magnitude more difficult in banking than in other industries," Schenck believes. "That's because the technology associated with day-to-day operations in a bank is far more complex than managing a retail operation, for example."

What's more, the merged institutions must prevent customer attrition. The normal customer attrition rate for large U.S. banks is about 15 percent, according to Eckenrode. During the last big wave of bank mergers, in the 1990s, some banks saw their attrition rates exceed 30 percent. For example, when Fleet and BankBoston merged in 1999, customer attrition in some markets reached 25 percent.

That investment was made for good reason. "Today, consumer banking drives a significant portion of bank revenues," Eckenrode points out, "and 95 percent of interactions between a bank and a customer are service-related. If you don't do a good job there, all the cross-sell capability you might gain will be for naught, because the customer simply won't buy."

Derring-Do Diligence

In a highly acquisitive market, the risks of mergers are only heightened. Cawthorne says, "Due diligence is conducted in a short time frame." As a result, attention to the details of integration of operations, technology and culture is typically postponed until after the deal is completed.

Yet such integration is vitally important. "Integration is critical to the success of a merger," emphasizes Eckenrode. "You need input and buy-in from all disciplines in the institution. You also need a disciplined approach to achieve integration of applications and infrastructure. Otherwise, you end up with a patchwork of technology, which adds complexity and cost."

Even more critical is the potential negative effect on customers. "Banks often forget to factor in the impact of integration on customers," Schenck believes. "For example, if they're integrating an online banking application, they'll look at the complexity of the technology or the skill set of employees. But you also need a careful analysis of how customers will interact with the application."

But by focusing on integration during due diligence, merging banks can gain a competitive advantage, Cawthorne says. By analyzing the existing business and technology environment and planning ahead for integration, you can verify that the merger even makes sense and then structure the deal appropriately. You can also embark on the integration process sooner rather than later, leading to faster return on investment.

3D Blueprinting View of Proposed Merger

An early jump on integration begins with a thorough understanding of your organization in its current state. "If you already have your own business modeled, you can go into another organization and quickly identify the similarities and differences," Cawthorne says. "And you can do so with a greater certainty of the costs you may be able to take out of the operation."

Cawthorne suggests an approach developed by Unisys called 3D Blueprinting. It begins with creating a "blueprint" of four key aspects, or layers, of the business. At the top is organization and strategy -- for example, an objective to grow the retail branch footprint. The second layer involves the various business processes that support that strategy. Next are the software applications that enable the business processes. Last is the bank infrastructure, including the branch offices, back-office systems and computer network on which operations depend.

Each layer is blueprinted separately. "Theoretically, you could start at any layer," says Cawthorne. "But in a merger situation, it makes sense to start at the organizational and process layers and then work down to the application and infrastructure layers."

Likewise, you may not blueprint the entire organization at first. Instead, you might start at the department level by blueprinting front-office branch operations. "If you can progressively blueprint across your major operations, then during due diligence, you can easily see the similarities and dissimilarities between the two organizations," Cawthorne says.

Cawthorne advises starting with a workshop that involves key stakeholders, including senior management, line-of-business managers, IT staff and users. A primary goal of the workshop is to eliminate communication barriers between functions and levels.

"We helped one bank develop a blueprint of its branch processes," Cawthorne relates. "The head of training described the process for opening a new account. The branch tellers said it had never been done that way. There was obviously a disconnect."

The time to uncover those issues is before the merger — not after.

Seeing, Tracking, Changing

Visibility is key to merger success, agrees Schenck of Financial Insights. And the time to gain that visibility is during due diligence. "Banks that are effective at due diligence — that undertake a detailed evaluation of the customer sets, the markets the target bank is active in, and the applications that support those activities — are better at integration and post-acquisition management," she says.

Such organizations gain a better sense of where the merger will have the biggest impact. They can also make a more realistic estimate of the time frames and costs associated with integration of applications and operations.

"It's rare that delayed integration results in better performance," Schenck says. "It almost always results in worse performance."

Visibility also leads to what Cawthorne calls traceability, which is the ability to see how changes in one function or layer of the organization will affect other areas. "Traceability is a tool for exploring options as you approach integration," he explains. For example, you can compare scenarios for handling a process in branches instead of the back office — and visualize how each option would affect strategy, staffing, infrastructure and other issues.

"Few banks have implemented the processes to achieve traceability," Schenck says. "But those that do can understand the cascade effect of the various changes that result from a merger."

Ultimately, traceability leads to flexibility. "On the one hand, you need a definitive plan for your merger, and you need to stick to it," Schenck says. "But you also need the flexibility to respond to unforeseen situations. For example, you may discover that an application or operations group you were going to get rid of has a unique function that you can't replicate."

That flexibility also pays off after the merger is complete, as you respond to ongoing market changes. For example, Cawthorne says, you can model changes in pricing, such as offering free checking, and predict the affect on your organization, processes, applications and infrastructure.

In the current market climate, bank mergers are expected to continue at a rapid pace. Banks that don't undertake the early work of planning for integration may run aground. But for those that achieve the visibility, traceability and flexibility that lead to merger success, it's full steam ahead.

Eric Schoeniger is a freelance writer specializing in business and technology, based in Lower Gwynedd, Pa.