High Value Merger/ Big Merger: A turning point or a fall down?

High value merger are excellent examples of corporate success and failure.  Nepal Rastra Bank (NRB) will soon execute its plans on high value merger. Commercial banks seem eager enough to take that jump from a less capitalized institute to a large capitalized institute. NRB’s effort to implement these plans will be reflected by the provision of monetary policy.

In the real world, big merger can either be a windfall or a nightmare to the economy. The upcoming big merger will be the first time for Nepalese banking industry. In Nepalese current context, the big merger or high value merger can be defined as merger accomplished by two commercial banks for a larger foundation of capital. General public, experts and bankers are making several approximations on how this step will be a disastrous consequence or a splendid success. There is no one right side in this case. Real world big mergers are attractive case studies to students of businesses, banking and economy. The reason why these case studies are attractive can however differ. Big mergers if articulated carefully can set the title of the case study as “Big merger: the turning point of the Nepalese economy”. However, big mergers if stand as a failed example, we might deal with case studies entitled “Big Merger: the fall down of Nepalese economy”.

High Value mergers involve a lot of complexities. These mergers bring in corporate diversity, corporate work style, and diverse workforce from two or more organizations that are already big enough. In Nepalese banking economy, commercial banks have already undergone small mergers and acquisition. The financial statements of commercial banks that we analyze today are the result of two or more organizations that were independent once upon a time. The consequences of paid up capital hike and small mergers have started to reflect lately. The absence of liquidity, fall down of NEPSE links somewhere down to the paid up capital hike and merger. So, is it the right time to introduce high value merger? During the last merger process, we experienced a number of complexities. Mega’s mega time to merge with Tourism Development Bank, NMB’s delay in merger due to its affiliation with foreign bank, Standard Chartered’s reluctance to go into merger and adopted bonus as the means to hike paid up capital. On the other hand, Nepalese banks’ lack of participation in international arena has failed to bring in new foreign investments and agreement. If Nepalese banks show their presence in the foreign market, they can assist government to bring in new investment avenues. So, isn’t it high time that big mergers should be executed?

High Value merger: the turning point

The strong foundation:

“More the capital, better the shock absorbing capacity”

The primary motive of high value merger rests in the banks’ ability to strengthen its core capital. If at least two companies (banks in our case) come together, they bring in capital of Rs 8 arba each.  For instance, let us take example of the two prominent figures of banking industry NMB Bank Limited and NIC Asia. (Further paragraphs will clarify why we have taken these two banks).

The above table depicts if these banks go into merger with same swap ratio, their total joint equity will be around Rs 31 arba. The larger capital will reflect a good image in the international agreement. Moreover, at the time of crisis, a larger capital foundation will be able to observe shocks brought by such tough incidents. This benefit is simply in the pages of financial reports but the benefits that big merger will bring is far beyond the numerical figures.

The synergy effect:

“One plus one equals to three”

Synergy effect is the cumulative result of two or more interactions. The cumulative result is greater than the individual result. The merger between commercial banks will bring in synergy effect. The combined output (deposits, new projects, loans, financial sources) of two banks will be greater than their individual output.

Nepal has many productive projects pending. These projects are of high priority to government. Despite prioritizing these projects, results are not satisfactory. So, when high value mergers take place, a good financial back up will help to bring these projects in track. In order to fund even a single national level hydropower company, we require a consortium between banks so; merger will make it easier to fund projects through a single institute.

The healthy competition:

“Coopetition not competition”

The customer segments of commercial banks overlap one another. During liquidity crisis, banks are aggressive enough to increase the deposit interest rate in order to attract customers of other banks. This depicts unhealthy competition among even commercial banks. Few banks and larger banks will have a larger customer segments and such aggressive rise in interest rate would not be an issue. Hence, high value merger will promote coopetition (cooperative competition) rather than unhealthy competition.

The economies of scale:

“Decreasing cost, increasing profit”

Economies of scale are more relevant to manufacturing sectors. However, the theory fits today’s banking scenario. With large number of resources, several repetitive costs, higher management costs and higher branch operation costs will decrease. For instance, in a small community where there are two branches of merged institute a single branch will be able to serve the customers so, merger reduces the cost. This ensures efficiency and profitability in the merged banks.

The diverse clientele:

“More diverse the clients, better the loan portfolio”

Taking reference to the previous example, NIC Asia has focused its core business into retail and wholesale clients. However, NMB is more focused into a portfolio from productive sectors. So, a merged bank will have a diversified portfolio of clients.

The replication of Malayasian Model:

“Replicating yet succeeding”

The Malayasian Model is a worldwide popular example on how a forced merger worked in the favor of Malayasian economy. The numbers of banks were far higher in Malayaisia so, Malaysian government implemented forced merger. Proving all the critics wrong, the Malayasian government showed that the seven powerful Malayaisan banks are more than enough to provide quality services to customers. The same replication can be implemented in Nepal taking into consideration the factors that contributed to the success of Malayasian model.

Ease in regulation:

“Fewer number, better supervision”

Fewer numbers of banks means ease in regulation from NRB. NRB will be able to supervise banks more conveniently with fewer number than with larger numbers. Enough advice, focus and suggestions can be given to particular bank and preventing incidents of failure of banks.

High Value Merger: the fall down

Although high value mergers have so much to contribute in the Nepalese banking economy, there a lot of aspects that are still in question. If mergers are not executed carefully, the whole economy might suffer.

The swap ratio:

“Swapping ratio = Ratio of compromise”

The swap ratio is a major issue between banks during the merger process. There have been speculations that the swap ratio was the major issue between Everest bank and Laxmi Bank mergers’ failure. However, no credible source has yet confirmed the speculations. Yet the swap ratio can be an issue for big mergers. The swap ratio for the merger totally depends on how the Due Diligence Audit (DDA) will turn out. There is already a prescribed formula for determining the swap ratio of BFIS merger given by NRB from which almost 70% accuracy can be expected. So the banks can only negotiate for the remaining 30% value depending on their DDA report. Commercial banks in Nepal have travelled a long journey to be at a position where they are today. So, the workforce, executives and the merging bank as a whole might not readily compromise in context of swap ratio.

The differences:

“Embracing differences or eradicating differences?”

In corporate world, merger is a synonym to corporate marriage. In fact, corporate marriage might have higher number of terms and conditions compared to human marriages. When two or more big institutes are brought together, workforce from different ethnicity, backgrounds, education level, status come together. This workforce must be led in a way that each one feels that the merged institution belongs to each one of them.   

Moreover, the main principles of these institutes might also differ. For instance, in our earlier paragraphs, we assured you there was a reason to choose NMB Bank and NIC Asia Bank. If we analyze NMB Bank’s presence in the market, their working style is less aggressive. NMB Bank has set an excellent example of how we can remain competitive despite not reflecting our competitiveness. It has maintained its brand image and the responsibility it carries being a foreign affiliated bank. On the other hand, NIC Asia Bank has been aggressive with its promotion, deposits and credit distribution. NIC Asia is the young bank to prove old banks that the era of young bank has begun. Its competitiveness has taught Nepalese banking industry about the seriousness in its mission. However, if these two banks come together, we cannot guarantee a smooth runway for both of them. This does not mean a failure is guaranteed. Nevertheless, compromise from both banks will be reflected. The question here lies what will this compromise turn into?

The misuse of power:

“Using power or misusing power?”

A single organization means monopoly. Similarly, fewer organizations might result into cartel. For instance, fewer numbers of banks correlate to more power in the hands of fewer institutes. So these merged institutes might go against the general will of the public. Nepal Rastra Bank should be active in the supervision and regulation process of these larger institutes.

The consequence of failure of one:

“One for all and all for one”

An economy with fewer larger banks has high risk of collapse even if one single bank goes out of track. No other phrase than “Too big to fail” can summarize this notion. “Too big to fail”- If given a chance, no true investor/trader or banker would miss out an opportunity to watch this movie. An American drama based on Andrew Ross Sorkin’s book “Too big to fail” revolves around the periphery of real world example of the failure of Lehman Brother’s; fourth largest investment bank in US. The film is not simply about the collapse but rather about how so many people were part of the fail either intentionally or unintentionally. It is about how one failure introduced a vicious cycle of failure in the entire financial system and posed restriction on businesses of other financial and non-financial intermediaries. It’s about the failure of confidence, the failure of trust and the failure of the economy. Therefore, NRB can’t simply implement big merger. A beforehand preparation must be done on what is the right number of banks in Nepal. The big merger should go accordingly. The central government must ensure that the supervision and regulation of large banks will be a never ending process.     

Finally, high value merger can create value to the economy. High value merger might also destruct the economy. At the end of the day, the result lies in the hands of executives of commercial banks and central bank. The end goal of the merger should be the interest of economy and general public. What are your thoughts on big merger? Do you think this is the right step? How far will this impact NEPSE? What provisions would you like to see for high value merger? Please let us know in the comment section below.

The examples of NMB Bank and NIC Asia taken above are simply for the sake of explanation. ShareSansar and the author do not endorse any news related to NMB Bank and NIC Asia’s merger.