newsletter - pwc · 2015. 6. 3. · retail banking group tel: 020 7804 7687 email:...

Inside this issue

03 Is the future for unsecured credit as

bleak as this year’s interim results

would imply?

05 The mortgage customer

experience post-regulation –

still consistently inconsistent?

08 Payment Protection Insurance (‘PPI’)

– The balloon is inflating

11 IFRS: Is your financial

reporting sustainable?

15 Financial Services M&A

Review of and outlook for mergers

and acquisitions in the European

financial services market

September 2005

Editor: Harjeet Baura, Senior Manager,Retail Banking Group Tel: 020 7804 7687Email: [email protected]

Distribution: If you would like to receive thisnewsletter by email or you would like add yourcolleagues to the mailing list, please contactCarly Taylor on [email protected]

UK Retail Banking

NewsletterI would like to take this opportunity to welcome you to theinaugural edition of the PricewaterhouseCoopers UK RetailBanking Newsletter.

This regular newsletter is aimed at providing insights and updates on the key issues andcurrent developments facing the retail banking industry. In this edition we have fivearticles covering an interesting mix of industry-wide topics.

I hope that you find this newsletter informative and insightful. As with all of ourpublications your feedback is invaluable and we would welcome your comments andsuggestion on this, and future editions of the newsletters.

Copies of this newsletter, and other related publications, are available on our globalbanking and capital markets website, www.pwc.com/banking. If you would like todiscuss any of the issues raised in more detail, I would be happy to hear from you.

John Hitchins, UK Banking Leader020 7804 [email protected]

PricewaterhouseCoopers (www.pwc.com) provides industry-focused assurance, tax and advisory services for publicand private clients. More than 120,000 people in 144 countries connect their thinking, experience and solutions tobuild public trust and enhance value for clients and their stakeholders.

© 2005 PricewaterhouseCoopers. All rights reserved. PricewaterhouseCoopers refers to the network of member firmsof PricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity.

Designed by Court Three 0905

In the past few months, the UKunsecured credit market has withoutdoubt seen a downturn in terms ofcredit quality. During this year’sinterim reporting season, nearly allUK high street banks released goodresults tinged with disappointingaccounts of increased delinquenciesand non-payments on credit cardsand consumer loans. The press haspainted a dismal picture of thesituation with headlines predictingdoom and gloom for the UKeconomy. Some commentators havepointed to the detrimental effects ofnew laws making bankruptcy a morefavourable option for borrowers indifficulty and a general tighteningof the credit market making loan

refinancing harder for thosewho borrowed from elsewhereonce difficult questions startedto be asked.

However, the introduction of IFRShas also contributed to theuncertainty as implementing themore detailed requirements relatingto provisioning for bad debts willgenerally mean an increase forimpairment provisions on unsecuredloans. While Lloyds TSB was theonly major bank to quantify theeffect of IFRS (£111m of a totalimpairment charge of £511m) allbanks with significant unsecuredlending would have felt similarimpacts. Whereas under UK GAAP,

The introduction of IFRS can present significant problemsin understanding the underlying trends of a business as,in a number of instances, the basis of measurement haschanged significantly from previous accounting practice.In particular, the recent interim results announcements bythe UK high street banks highlight one example of this –the method by which IFRS requires loan loss, orimpairment, provisions to be calculated.

By John Hitchins and Harjeet Baura

Is the future for unsecured credit asbleak as this year’s interim resultswould imply?

banks had to make an assessment ofhow much they would lose on defaultedloans, IAS 39 requires credit risk teams toestimate the cash flows expected to bereceived from loans showing signs ofdifficulty and also requires these cashflows to be discounted by the rate that isused to recognise interest on these loans,the “effective interest rate”. For someunsecured products, such as creditcards, this could mean a discount factorof up to 30%, therefore increasing theamount to be provided for regardless ofwhether recovery expectations havechanged or not.

The unwind of the discount then flowsback through the net interest income lineleaving the impression that bad debtlosses have risen sharply when in factthere has been no change to theunderlying economics.

Consequently, focusing solely onimpairment charges will not enableanalysts and other users of financialinformation to understand all theunderlying factors causing the increasedcharges to the income statement. It wasclear from published commentaries thatwhile some analysts appreciated that thebasis of measurement has moved, othercommentators did not and had nottherefore revised their expectationssurrounding reported provision numbers.

This is just one example of many whereusers and analysts need to proceed withcaution in interpreting IFRS results.Banks face a tough task in separatingthe effects of IFRS reporting from theunderlying trends. Transparencyregarding the trend is the only way banksare going to avoid feeding the selfsustaining danger of results being usedincorrectly to expose a ‘debt crisis’ whenactual trends point to merely a moderateworsening of credit quality.

Contact Us

John HitchinsUK Banking LeaderTel: 020 7804 2497Email: [email protected]

Harjeet BauraSenior Manager, Retail Banking GroupTel: 020 7804 7687Email: [email protected]

4 PricewaterhouseCoopers UK Retail Banking Newsletter September 2005

The introduction of IFRS has also contributedto the uncertainty as implementing the moredetailed requirements relating to provisioningfor bad debts will generally mean an increasefor impairment provisions on unsecured loans.

The provision of the new Key FactsIllustration is indicative of thetension across these three elements.A primary reason for issuing suchpersonalised illustrations is to enablecustomers shopping around for amortgage to compare mortgagefigures and conditions provided bydifferent providers. From a TreatingCustomers Fairly perspective,customers should be in a positionto make such comparisons priorto selection; however, suchdocumentation is not always madeavailable, possibly due to reasonsof cost. When it is made available,the varying size of thedocumentation, ranging in ourexperience from 4 to 12 pages, doesnot make comparison easy from acustomer perspective.

Towards the end of 2004, soon aftermortgage regulation came into force,

PricewaterhouseCoopers undertooka mystery shopper survey of anumber of leading mortgageproviders, looking at keyimplementation and customerexperience issues. The results of thesurvey, albeit in the early days ofregulation, indicate that in manycases operational improvements willbe necessary to meet the TreatingCustomers Fairly principle.

100 branches of leading mortgagebanks and building societiestogether with 100 calls to providersof telephone based services weresurveyed. The findings show thata number fell short in providinga consistent and well signpostedapproach for their customersand also issued a lower level offollow-up documentation than hadbeen expected.

Within the mortgage market, there has been much debateas to how the Treating Customers Fairly principle can bereconciled with operating profitably whilst ensuring thatnew regulatory and legislative requirements are met.

By David McWhir

The mortgage customerexperience post-regulation –still consistently inconsistent?

The survey was designed to provide earlyfeedback to mortgage providers oncustomers’ experiences of the newlyregulated mortgage process andexamined commercial aspects of theirsales operation, such as ratings on‘likelihood of buying a mortgage’ inrelation to experience of various parts ofthe interview process.

Findings from the survey include:

• Early signs that whilst providers havemade good progress in meeting thenew regulatory requirements applying tothe UK mortgage market, there is someevidence of inconsistency in providersfollowing their own processes.

• Customer feedback suggests that thereremains confusion as to what type ofservice they are being offered –“information only” or advice – and therange of products available to them.

• Of the telephone shoppers, 14%were unable to distinguish whetherthey were receiving advice or beingprovided with information only, sucha distinction being a key requirementunder the new regulations. Moreeffective signposting throughout theinterview may address this point.

• In 37% of branch information onlyinterviews, the customer felt that theprovider did not explain whether theywere tied or independent. This figurefell to 24% of branch based visits inwhich the advice route was followed,

possibly due to the more participativeexperience. It may well be that thecorrect form of words was used bythe adviser but it is possible thatsuch information, again, is notbeing sufficiently signposted and/orbeing lost alongside the otherinformation provided.

• The research also found that keydocumentation to support customers intheir decision-making process, namelythe Initial Disclosure Document and theKey Features Illustration, was notreceived in a number of cases.

• The Key Features Illustration (KFI)is designed to provide customerswith confirmation of personalisedinformation or recommendationsprovided to them. There was variationin the provision of such documentation,even within the same provider. Thisvariation was particularly interesting,given that the mystery shoppers alloffered the same scenario.

• Of those branch visiting shoppers whodid receive a KFI, only 6% following theadvice route claimed not to understandthe documentation. However, this roseto 38% of those who went via theinformation only route professing not tounderstand the documentation.

• There was dissatisfaction with thelength of the interview, although not inthe way the sector might haveexpected. Prior to regulation, providers


The results of the survey, albeit in the earlydays of regulation, indicate that in many casesoperational improvements will be necessary tomeet the Treating Customers Fairly principle.

expressed concern that customerswould be put off by the increasedlength of interviews due to therequirements to follow a regulatedprocess. However, a significantproportion of customers weredissatisfied when the interview was tooshort. Of customers who were unlikelyto buy as a result of the experience(rather than price or product features),35% of callers and 47% in branchesrated the interviews as far too short.

• Of those who had meetings atbranches and were given advice, halfrated themselves as extremely likely tobuy compared with 17% who wentdown the information only route.

• In 19% of cases, shoppers wereunable to obtain a branch basedinterview within the three week periodof the survey, suggesting that at thetime insufficient numbers of trainedrepresentatives were available to meetdemand. The period of the surveycoincided with the lowest level ofmortgage approvals for nine years.

Conclusion

Whilst the research was undertaken inthe early days of the regulation ofmortgage business, there were emergingtrends on customer experiences and theimpact of certain parts of the process ontheir perceptions. It will be interesting tosee whether “bedding down” leads to anincrease in customer satisfaction as well

as an improvement in the consistencyand effectiveness of processes over time.PricewaterhouseCoopers is undertakingfurther research with a number ofproviders to establish how well the newmortgage processes have now settled inand areas for potential improvement.The FSA will continue to monitor howproviders apply the Treating CustomersFairly principle to the mortgage process,undoubtedly paying particular attentionto documentation, including the contentsand length of the KFI, as well ascomparability across lenders. Aspectsof the process such as positioning anddepth of credit referencing will also havean impact on how attractive lenders’propositions to customers will be whenshopping around.

Mortgage regulation ‘M day’ is now wellbehind us. However it would appear thatthere is still some way to go before it isfully and consistently delivering theexperience the customer – and theFSA – is seeking.

Contact Us

David McWhirSenior Manager, Governance,Risk and ComplianceTel: 0161 245 2519Email: [email protected]

PricewaterhouseCoopers UK Retail Banking Newsletter September 2005 7

The publication of the above reportis an example of the unprecedentedscrutiny that PPI has attracted in thelast six months. To put this intocontext PPI is being debated by allthe industry stakeholders includingconsumer groups, regulators,trade bodies, the CompetitionCommission, the media andinvestment analysts. The mediacomments on PPI are increasingmonth-on-month.

What is PPI?

PPI, also known as CreditorInsurance, is an insurance producttypically sold as a package withunsecured loans, mortgages orcredit/store cards. In a numberof situations, for example, wherethe borrower becomes sick,unemployed or has incurred anaccident that prevents the claimantfrom working, the insurance willmake repayments towards the loanup to a pre-specified amount overa pre-specified period.

“We recommend that once the transfer of responsibilitiesfor insurance regulation to the FSA has been completedthe FSA should begin an investigation into the selling ofPayment Protection Insurance. This should include thesafeguards in place to prevent the mis-selling of PPI tocustomers who would not be able to benefit from it dueto exclusions, how more competition could be introducedinto the market, and how the provision of information toconsumers could be improved to allow better informedchoices about whether to take out PPI and about whichpolicy is appropriate for individual circumstances.”

(Source: The Treasury Select Committee Report, 5 April 2005).

By David Morey and Vincent Branch

Payment Protection Insurance (‘PPI’) –The balloon is inflating

Why is PPI in the spotlight?

Despite the benefits of PPI, there arethree main areas under scrutiny:

• Potential mis-selling;

• Treating Customers Fairly; and

• Competition, product marginsand commissions.

An interesting theme that runs throughall of these issues is disclosure andtransparency, which for obvious reasonswould improve consumer awarenessabout what coverage they are buyingand its cost. A secondary impact ofthis greater transparency, disclosureand more informed consumer buyingwould be an increase in the propensityfor consumers to shop around topurchase the best value product,possibly unbundled from the underlyingcredit sale.

The short-term focus appears to be onpotential mis-selling and fair treatment.Pressure from various stakeholders,including politicians, has prompted theFSA to put the selling of PPI to the topof it’s list of emerging financial servicesmarket risks. In addition, PPI has beenunder increasing scrutiny from thenational press for being overpricedand the Competition Commission hasextended the review of store cardsto include PPI. Many companies aregrappling with understanding what

Treating Customer Fairly means in thecontext of PPI. However, as TCFprinciples are likely to impact how PPI issold, marketed, priced and how claimsare handled, they cannot be ignored.

What is the potential impact onthe PPI industry?

To put into context the potential impacton the PPI industry, we believe that thereare three possible industry scenarios:

a) Status quo;

b) Product decline; or

c) Product overhaul.

If the current scrutiny from the variousstakeholders is short-term in natureand the current regulatory threats aresuccessfully rebutted by both PPIproduct providers and distributorswithout any significant operationalchange, then the status quo wouldbe maintained.

The product decline scenario could occurif there is a significant loss in consumerappetite for PPI as a result of sustainedadverse media and consumer groupcoverage. This may at first appearsensational, but interesting parallels canbe drawn with endowment sales whichhave fallen dramatically over the last fourto five years causing a fundamental shiftin the life assurance market. In the eventof this scenario, we would expect the


If the current scrutiny from the variousstakeholders is short term in nature and thecurrent regulatory threats are successfullyrebutted by both PPI product providersand distributors without any significantoperational change, then the status quowould be maintained.

sales of legacy PPI products to fallsharply, possibly accompanied bya shift in consumer behaviour to buyingnew ‘substitute’ untied protectionproducts and the emergence ofnew ‘substitute’ channels of sale.Alternatively, customers might decideto forgo insurance altogether.

Product overhaul would be required ifthe current regulatory and consumerenvironment requires remediation andsignificant change in all, or part, of thefollowing areas: product design, pricing,marketing, sales process, claimshandling, remuneration or disclosure. As a result this may lead to lower PPIvolumes and more pressure on marginsas consumers are making more informeddecisions and greater transparencyincreases competition. We would alsoexpect a degree of migration from thelegacy PPI products to new substituteprotection products and channels of sale.

In addition to the regulatory andconsumer environment, any challengesarising from the above scenarios may befurther compounded by any deteriorationin the economy and the subsequentimpact on unemployment. Recentannouncements by UK lenders indicatethat consumer bad debt is on theincrease, which may be an earlyindication that claims ratios are onthe rise. Recent unemployment figureshave also shown a small upturn.

What are companies doingto respond?

The eventual outturn of the PPI industryis, of course, all conjecture, but what arecompanies doing to prepare and respondto the current environment? There arethree emerging positions being taken:

a) Continuing to reap the margins andworry about the adverse scenarios ifthey arise;

b) Preparing a robust defence andaddressing gaps relative to bestpractice; or

c) Researching the development of newbusiness models and strategies forradically different PPI and alternativeprotection products.

Companies are now taking action;a CEO of a UK banking group advisedus recently that for them the regulatoryrisk and bad publicity from PPI isconsidered the number one risk to groupprofits. To this end, most companieshave done some risk assessment on thepotential impact on their PPI profits, butfew have included the product declinescenario which, for most distributors,would elevate the issue to the boardagenda. However, the recent interest inPPI from the city analysts and thepotential knock-on impact for shareprices is likely to keep PPI on the radarof the senior executives.

As a general rule, the product providersare being more proactive and are

considering the latter two options, whilstthe distributors are naturally moreresistant to change that may threatenthe existing PPI profit stream.

Firms should now be fully analysing theserisks, and understanding the profitabilityof the product across the entireeconomic cycle, both from theperspective of the insurer and distributor.They should also be looking to designsolutions to increase profitability of thecurrent book as well as the profitabilityof any new business given the changedenvironment. They also have to considerthe impact on unsecured lending pricingshould the percentage of customersdeclining PPI start to rise. In addition,management information should bedesigned to monitor and control the riskand performance of your creditorinsurance business, including the criticalcontrols over potential mis-selling.

The balloon is inflating, but there is plentythat can be done to avoid a nasty bang!

Contact Us

David MoreyDirector, Financial ServicesRegulatory PracticeTel: 020 7804 2684Email: [email protected]

Vincent BranchDirector, Actuarial and InsuranceManagement SolutionsTel: 020 7804 3218Email: [email protected]


Any bank tempted to rest on itslaurels, however, should firstconsider whether it has merelychanged the numbers or whetherthey have managed to embedsustainable reporting, able toweather the challenges ahead.IFRS financial reporting needs to becore to how banks look at and thinkabout their operations, not just anadjunct to the finance function. It isalso of crucial importance whenconsidering regulatory complianceand the impact of Basel II. Togetherwith IFRS, these represent themost profound change in businesseconomics and operating dynamicsfor the past 20 years. If IFRSdoes not yet permeate thedecision-making and financialreporting of the organisation,banks may find themselves onthe defensive in the coming weeksand months.

Banks should never underestimatethe sheer difficulty, from a technicalviewpoint, of getting the numbersand the process right, particularlywith regard to hedge accounting.There will be ongoing interpretativedifficulties of the present rules, andthese rules will continue to undergofuture changes. IFRS is a journey,not a step change. Banks,regulators, and industry associationsneed to work closely together tomanage this change to avoid furtheruncertainty and damage to thecorporate reputation. Changesin reporting need to be properlydisclosed to ensure fulltransparency. After years offamiliarity with legacy GAAP,companies, analysts and investorsare looking at the numbers afresh(without the benefit of trend data)under IFRS. As companies struggleto understand and implement

The banking industry has crossed the IFRS starting line.It has not been an easy journey to get there; the financialservices industry, more than any other, has faced thegreatest number of IFRS dilemmas, potentially due to thecomplexities of financial instrument accounting anddisclosure. At least for banks (in contrast to insurers),most technical issues have now been resolved.

By Simon D Gealy and James Hewer

IFRS: Is your financial reportingsustainable?

complex new standards, some changesof interpretation are inevitable as therules are embedded.

It is not yet widely recognised in themarket that under IFRS the thresholdrequiring restatement is lower; that is,while under UK GAAP only fundamentalerrors need to be restated, under IFRSany material error necessitates arestatement. Given that restatementswere a rare occurrence under UK GAAPand usually accompanied by negativeconnotations, will the market be able tosuspend traditional prejudices whenrestatements occur because of theseIFRS policy or interpretation differences?

Could a flurry of restatements evenprecipitate a wider crisis in confidencein financial reporting? Recent marketexperience of restatements in the USshows that these have createduncertainty and shareholder concern.

Thus there is no room for complacency.The management of market expectationsby banks needs to be ongoing, and thoseresponsible for the finance function andfinancial reporting should anticipate thatconfusion over IFRS may put them undersignificant scrutiny. To establish credibilityand demonstrate resilience, banksmust have sustainable IFRS reportingembedded in their organisations, with thefinance function demonstrating effectiveleadership, in relation to both internal andexternal reporting.

From tactical to sustainableto flexible

To the outside world, the image of aswan gliding serenely across troubledwaters may be how the organisationappears to be coping with IFRS.In reality, many organisations arepaddling frantically under the surface tocope with current IFRS challenges, letalone those that lie ahead, not only infinancial reporting but also in regulation.In truth, IFRS has been approachedtactically by many organisations, albeitout of necessity due to the uncertaintysurrounding the final form of the set ofIFRS standards, particularly IAS 39.This is particularly relevant with regardsto cashflow hedging – easy to designaterelationships but proving very hard torun in practice on a day-to-day basis.The short-term tactical fixes may proveunsuitable in the long run.

Going back to the IFRS swan, it’s not justpaddling furiously under the surface, butit is also actually having stones thrown atit from the shore. These stones representseveral extra challenges, including thecomplex regulatory and complianceframework being introduced over thenext few years through Basel II andSarbanes-Oxley, as well as a host ofInternational Accounting StandardsBoard (IASB) financial reportingimprovements and research projects.

The IASB has an ambitious agendaand many of the present solutions are

short-term interim fixes that arose fromthe improvement projects. Companiesmust have the flexibility to change theirIFRS approach to accommodate bothminor and major future changes.

For an organisation to cope, it will needto be moving toward a flexible approachwhere it is not just embedding reporting,but also embedding the ability to change.Under this scenario the necessaryorganisational structure, systems, datacapabilities and people will need to be inplace so that future changes can befactored into the activities of the financefunction without undue stress. But this iseasier said than done. This is a huge taskfor any organisation – requiring a highlyeffective and integrated change anddevelopment plan. It may be enoughin the short-term to embed therequirements of IFRS and Basel II,moving on to more structural andsystems changes in due course.

Operational risk looms large

The price some organisations have paidto meet IFRS deadlines has been adeterioration in the overall robustness ofthe control environment, underlyingprocesses and systems, experience ofpeople, as well as a reduction in overallefficiency. There has been heavy relianceon manual intervention, spreadsheets,and ‘back of the envelope’ responses.There has been a single-minded emphasison external reporting with less emphasis


on the less visible. For instance, theoperational risk created by businesspractices, management accountingand incentivisation arrangements notbeing properly aligned with the newexternal reporting requirements ispotentially significant.

Furthermore, and especially for financialinstitutions, the knowledge andunderstanding of IFRS must go deeperthan just the finance function.

Customer relationship managers andcredit analysts are now revisiting theway they interpret financial statements,and analyse ratios and covenants ofcustomers. M&A teams and equityanalysts are using the new rules toassess targets and proposed businesscombinations differently pre- andpost-deal as the changes in relation togoodwill and intangibles take effect.Recent conversion experience has shownthat the impact on distributable reserves,for example at British Airways, canbe significant. The skills shortagewill be particularly acute in the frontoffice, where the understanding of theaccounting implications for theircustomers of their proposed transactions,particularly in relation to derivatives andstructured products, will be key.

Some examples of where effectiveIFRS change can or should befacilitated include:

1. Reporting needs to be timely andaccurate, with a minimum of human

intervention. Reporting disciplinesneed to be able to cope with increaseddata collection analysis and disclosure.Technologies like XBRL may be usefulto eliminate communication difficultiesand duplication between systems.

2. Controls and procedures need to bereviewed to ensure they remainappropriate, with the right policies andprocedures in place. These need to beseen to be supported by management.Accounting manuals throughout theorganisation are needed to help IFRSbe understood and implemented in aconsistent way. These should also beSarbanes-Oxley compliant, a processmuch easier to do whilst the controlsare being put in place. This is goodbusiness practice for all banks, not justSEC registrants.

3. Certain areas of IFRS, for exampleeffective interest rate calculations,fair valuation of derivatives andhedging, create new balance sheetintangible assets and liabilities.Therefore companies need to ensurethey have rigorous and robustvalidation procedures in place toestablish balances. In addition,controls over the balances must bedeveloped given that as they do noteasily lend themselves to traditionalcontrols, such as reconciliation tothird party information. They mustalso be able to explain their volatility,particularly if they use cashflowhedging. Skilled resources are in short


For an organisation to cope, it will need tobe moving toward a flexible approach whereit is not just embedding reporting, but alsoembedding the ability to change.

supply in the market – a good trainingregime is a way to mitigate some ofthis risk.

4. On the people side, specific workneeds to be done to motivatepersonnel to embrace, instead of feelexcluded by or from, IFRS. This needsto be built into training, developmentand reward structures. Critically,resources must be made available forchange implementation. Training andupdates are the norm, but IFRS needsto form part of the language of thebusiness. For example, IFRS needsto be used when and where businessis booked, not in a remote centralfinance function. All of management,not just those in finance, need to beaware of the requirements of IFRS andtheir associated implications.

It goes without saying that a thoroughunderstanding of, and preparation for therequirements of IFRS and its implicationsneeds to be in place to avoid undue

disruption to the business, and the riskof market confusion regarding theconsequences of IFRS for the institution’sfinancial performance. Furthermore, as IFRS is amended and re-interpreted,the finance function must have theflexibility and capability to take this in itsstride, and exude confidence to theorganisation and the market.

Contact Us

Simon D GealyGlobal Partner, Capital Markets GroupTelephone: 020 7212 3513Email: [email protected]

James HewerDirector, Banking and Capital MarketsTelephone: 020 7804 9605Email: [email protected]


In 2004, the UK and Ireland was themost popular place for FS M&A byfar, accounting for nearly two thirdsof all deal activity (measured byvalue). Only three other territories inEurope saw a deal over €1 billion in2004; these were the Netherlands,Sweden and Denmark. Otherthemes that we have seen in 2004financial services M&A are:

• The top 10 FS deals in 2004had a combined value of €26.8billion (2003: €15.2 billion) whichwas c. 60% of all FS deals(2003: c. 45%) by value;

• Increased appetite fromprivate equity investors with four€1-billion-plus deals in theinsurance sector;

• A continued focus on divestmentsof non-core businesses;

• A focus on M&A in local andneighbouring markets, enablingmid-sized institutions to achievecritical mass; and

• A number of niche marketacquisitions, highlighted by theUK closed life fund sector.

Compared with 2003, in 2004 there was a significantincrease in the proportion of cross-border deals,representing 61% of all financial services activity(measured by value). Banking was again the mostactive financial services sector accounting for over halfof all deals (measured by value), dominated bySantander Central Hispano’s €12.3 billion acquisitionof Abbey National.

By Nick Page and Shamshad Ali

Financial Services M&AReview of and outlook for mergersand acquisitions in the Europeanfinancial services market

UK & Ireland

In 2004 the UK & Ireland was the mostactive territory in Europe with eightdeals in excess of €1 billion, dominatedby the acquisition of Abbey by Spain’sSantander. This deal created theworld’s 10th largest bank by marketcapitalisation. The transaction is part ofSantander’s plans to expand in Europeand it expects the combination togenerate annual cost and revenuesynergies of €560 million by the third yearafter the completion of the acquisition.It remains to be seen if synergies ofthis magnitude can be delivered oreven surpassed.

In total in the UK & Ireland, there wereover €28 billion of deals being announcedin 2004 (2003: €10 billion). The significant€18 billion increase in total deal valuefrom 2003 to 2004 was largely due tothe following:

• The acquisition of Abbey by Santanderfor €12.3 billion (the largest dealannounced in 2003 was the €1.7 billionacquisition of Churchill Insuranceby RBS);

• The number and scale of dealswas greater:

- 90 deals announced in 2004 vs 64in 2003; and

- In 2004 eight deals in excess of€1 billion were announced comparedwith four in 2003.

Interestingly, in 2004 two of the topfive deals were cross-border comparedwith three in 2003. Danske BankingGroup, the Danish bank, in its firstcross-border transaction, acquiredNorthern Bank and National Irish Bank,the Irish retail banks, from NationalAustralia Bank, for a total considerationof €1.4 billion. The acquisition is in linewith Danske Bank’s strategy to enhanceits presence in retail banking andconsolidate its position in Irish markets.The transaction is expected to allowNational Australia to focus on itsUK operations.

Looking ahead

The European banking sector reportedimproved overall profitability in 2004,with some of the major banks deliveringrecord-breaking profits. These resultswere earned in the context of animproved operating environment andrecovered equity markets in addition tothe realisation of cost-cutting plansinitiated in prior years.

This general banking good health isowed in part to the demand for creditfrom consumers and businesses alike.However, while there is limited risk ofa drop in demand in a low interest rateenvironment, any rate increase couldbegin to hurt European bank profits froman increase in defaults.


That said, the large European banks arenow leaner and may look to counter anyincrease in risk in their home territoriesthrough cross-border acquisitions.Furthermore, with ambitious targetsfor growth set by institutions, it wouldappear that M&A will play a key role inachieving that target alongside furtherorganic growth.

Domestic and neighbouring marketconsolidation expected to continue

A typical European country has a handfulof major banks which, in general,dominate their local market but are nowbeginning to look outside their hometerritories and in some cases Europe forgrowth opportunities (such as Barclays’move towards South Africa). Wherebanks have looked to expand in Europe,it has been in neighbouring and/or similarterritories to their own. This was a keytrend in Scandinavia in 2004, withinstitutions such as Kaupthing Bankof Iceland acquiring FIH in Denmark.

In order to achieve a footing in Europe,mid-tier European banks are likely toseek domestic consolidation beforebranching out into similar local territories,potentially driving cross-border activityonce they have achieved the desiredcritical mass. In Germany and Italy, wherethe banking industry is particularlyfragmented, significant domesticconsolidation is required to produce anew major European player, or the

mid-tier banks run the risk of beingsubject to a bid themselves, as we haveseen with Banca Antonveneta in Italy.

In Germany in particular, the successfulwithdrawal of the state guarantees forthe German Landesbanks is likely togenerate consolidation, even thoughthere are no early indications that privatesector banks will play a significant role inthis process.

Further local consolidation is likely to beseen in the next 12 - 24 months as themid-tier European banks look to increasetheir size domestically and in theEuropean market as a whole.

Limited significant European cross-borderM&A (i.e. the Santander acquisition ofAbbey is unlikely, in our view, to be aprelude to major European bankingconsolidation).

Santander’s €12.3 billion acquisition ofAbbey at the end of 2004 is unlikely tobe a prelude to large cross-border deals,as the majority of banks will likely stayclear of significant headline Europeanacquisitions. To a degree this is illustratedby the muted response of other Europeanbanks to Santander’s bid; in the case ofUK banks, fears of the reaction of theUK competition authorities played a role.Nevertheless, Santander’s bid wentuncontested, for an institution that inrecent years had seen off advances fromLloyds TSB and Bank of Ireland.


The European banking sector reported improvedoverall profitability in 2004, with some of themajor banks delivering record-breaking profits.These results were earned in the context of animproved operating environment and recoveredequity markets in addition to the realisation ofcost-cutting plans initiated in prior years.

The drivers for large cross-border dealsare generally market driven. The sameproblems still remain in terms of realisingsynergy benefits on cross-borderacquisitions, in terms of limited duplicatecosts, different tax regimes andregulatory structures and challengingrevenue synergy opportunities.

US banking predators are looking toacquire in the UK or possibly Europe.But buying in the UK or Germany isnot necessarily the acquisition of aEuropean platform.

It is believed that the three major banksin the US (Citigroup, Bank of Americaand JP Morgan) are close to theirmaximum size in their home territory.So it is natural to assume that, with theirrespective business integrations nowconsidered largely complete, they arelooking for new targets and have thecapital to buy almost any bank in Europe.

While the European banks remain atarget, their own M&A strategies could bestepped up in order to move themselves‘off the radar’. This may in turn drivefurther acquisitions by the major banksboth in Europe and the rest of the world,including the US.

In conclusion, we anticipate that 2005and 2006 will continue to see a greaterlevel of M&A activity in the European FSsector with the Banking sector againleading the way. Likely characteristicsof this will be continued private equityinterest in the sector, continuedneighbouring market acquisitions,ongoing wider cross-border activitypossibly punctuated with a large dealsuch as the recently announcedUnicredito acquisition of HVB.

The full version of this report wasreleased in July 2005 and can be foundon www.pwc.com/financialservices

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Shamshad AliDirector, Transaction ServicesFinancial Services GroupTelephone: 020 7804 9600Email: [email protected]

Nick PagePartner, Transaction ServicesFinancial Services GroupTelephone: 020 7213 1442Email: [email protected]


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newsletter - pwc · 2015. 6. 3. · retail banking group tel: 020 7804 7687 email:...

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