Impact of Bank Mergers and Acquisitions on Pakistan Banks
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Published: Wed, 28 Feb 2018
1.1 Background of the Study
The Pakistani banking sector has undergone extraordinary transformation over the years, in provisions of number of organizations, ownership constitution, as well as the deepness of operations. These modifications have been prejudiced mostly by challenges pretended by deregulation in policies of financial sector, globalization of procedures, technical innovations and embracing of managerial and prudential necessities that kowtow to international principles.
The wave of merger and acquisitions that currently swept through the banking sector started after the announcement by the state bank of Pakistan, that banks in Pakistan should beef up their minimum capital adequacy ratio should according to bank risk weighted assets or set by SBP.
Mergers and Acquisitions are commonplace in developing countries of the world but are just becoming prominent in Pakistan. Merger and acquisition is simply another way of saying survival of the fittest that is to say a bigger, more efficient, better-capitalized, more skilled industry. Is part of the natural evolution of industries? It is primary driven by Business motives or market forces and Regulatory interventions. The issues therefore , which this study intend to address are whether merger and acquisition will bring about efficient reliable and sound capital base for the bank that fully embraced mergers and to what extend can bank merge boost the confidence of the customers , the investors , the shareholders and ability to finance the real time sector .
1.2 Problem statement
The recent sudden increase of bank mergers in Pakistan is attracting much attention, partly because of keen interest in what motivates companies to merge and how mergers affect efficiency.
A view holds that company’s merger not just to obtain superior but also to be well-organized. It is argued that mergers allow the banking industry to take improvement of new occasions created by transformation in the technical and authoritarian surroundings.
A dispute of this is the reduction in the number of banks countrywide but the concentration of power in local banking markets has not increased. The problems of under-capitalization, mismanagement and poor corporate governance have continued to be sources of instability and corruption in successive Pakistani banking crises up till now. Hence, mergers are singing a useful role in restructuring the banking industry with no risk and lack of opposition though, it collide on competence be worthy of attention. This research will consider this inspection by probing the effect of the merger as well acquisition that had taken place in the banking sector of Pakistan on the performance of a selected bank.
1.3 Objectives of the study
The reason of this project is to examine the overall impact of Banks mergers and acquisitions in the Pakistani Banking sector.
This research also focuses on some issues:
- To explore the collision of merger as well as acquisition on bank effectiveness, profitability, enlargement and endurance.
- To observe the impact of the merger as well as acquisition on the stage of competitiveness in the Pakistani Banking Sector.
- To classify those which will give advantage and be defeated in the merger and acquisition procedures?
- Does merger boost the capital base of banks?
- Does merger improve customer’s service delivery in the area of information technology, innovation and boosting customer’s confidence?
The hypothesis with the intention of testing in this research is stated below as:
H0: Merger and acquisition has not impact on the banks’ performance in Pakistan
h3: Merger and acquisition has an impact on the banks’ performance in Pakistan
1.5 Significance of the study
The requirement for having a jingle economy and most especially disinfecting the banking sector; It is anticipated that this work will hold out a solution to the importance and recompense of merger and acquisition as a policy tool for the survival of our banking sector. It will equally be of a tremendous significance to those outside the financial sector, who do not know much about some of the benefit of bank merger and acquisition.
1.6 The scope and limitation of the study
The study will not in any way inhabit on the technical issues connecting to merger and acquisition or in the locale of work out figures, slightly, it will attempt to examine the impact of merger and acquisition in the Banking industry of Pakistan.
The study will be carried out in Islamabad/Rawalpindi. For this reason the result cannot be generalized. Also, the study has nothing to do with other banks even though a number of them have experienced mergers too.
2.0 LITERATURE REVIEW
There are many companies that coming together to originate another company and companies taking over the currently existing companies to expand their business (Altunbas, 2005).
Due to recession many Pakistani companies are facing the feeling of uncertainty rising which become reason to alarmed to businessmen, it is not astonishing when we listen to about the enormous corporate restructurings comes into being, particularly in the previous couple of years. Some companies have been taken over and numerous have going to take internal restructuring, while confident companies in same area of trade have consider it valuable to merge with each other to form one company.
There are many gears of merger and acquisitions, offshoot, tender proposal, and many other forms of corporate restructuring in our daily news paper. Thus significant matters both for company decision and policy making and public image have been elevated. No company is considered secure from a conquest risk. On the encouraging elevation Mergers may be dangerous for the strong expansion and enlargement of the company. Victorious entry into innovative product and services and ecological markets may necessitate Mergers at some stage in the company’s development. Flourishing contest in international markets may focus on abilities gain in a timely and proficient fashion in the course of Mergers. Most disputed that mergers boost value and competence and move capital to their uppermost and best uses, thus mounting shareholder value (Kruse, 2002).
To decide on a merger or not is a complex issue, particularly in provisos of the technicalities concerned. We encompass almost all issues that the management must focus before taking final decision for merger. A lot of brainstorming would be necessary through the managements to attain conclusion. Judgment has to be fulfilled after discussing the advantages and disadvantages of the planned merger and the impact of that merger on the business, administrative benefits, on shareholders’ value, tax implications including stamp duty.
“A merger is a combining two companies in one corporation which is completely absorbed by another company. The less significant company loses its name and operates with more important company, which exists with its identity.” (Chawla, 2008)
What Mergers actually mean:
A merger is a combining two companies in one corporation which is completely absorbed by another company. It may entail absorption or consolidation.
In absorption one company acquires another company. For example, Telenor and Tameer Microfinance Bank (TMB).
In consolidation, two or more companies combine to form a new company. For example, Polka and Walls.
The less significant corporation loses its identity and turn into the more significant corporation, which keep hold of its identity. A merger put out the merged corporation, and the existing company supposes all the rights, civil liberties, and liabilities of the merged company. A merger is not like a consolidation, in which two companies lose their detach uniqueness and join to make a totally new company.
A rule is based on the relation that mergers inevitably remove competition between the merging companies. This relation is most sharp where the parties are direct opponent, because courts often believe that such provision are more horizontal to limit output and to raise prices. The terror that mergers and acquisitions decrease competition has inevitable that the government carefully examine planned mergers (Altunbas, 2005).
in spite of disquiet about a decreasing of competition, companies are comparatively free to buy or sell whole companies or particular parts of a company. Mergers and acquisitions frequently result in a number of social reimbursements. Mergers can convey better management or technological skill to abide on underused assets. They also can create economies of scale and range that decrease costs, get better quality, and raise output. The opportunity of a takeover can deject company managers from acting in ways that fail to capitalize on profits. A merger can enable to owner to sell the company to someone who is more proverbial with the particular industry and maintain a better position to shell out the highest price. The view of a profitable sale encourages entrepreneurs to form new company.
Merger is known as amalgamation too. Merger is the synthesis of two or more companies which are working in same era. All current and fixed assets, short and long term liabilities and the stocks of one company shifted toward other Company in reflection of payment in nature of:
- Equity share of the acquired corporation,
- Debentures of acquired corporation,
- All of the above in mixed mode (Chawla, 2008)
2.2 Mergers vs. Acquisitions
These conditions are usually used to describe same thing but in actuality, they have vaguely dissimilar meanings. An acquisition and merger pass on to the act of one corporation attainment of another company and obviously fitting the new possessor. Legally, the target corporation, the corporation that is bought, no more presents. Generally acquisition is use to acquired property in ownership. In the scenario of corporation combinations, an acquisition is to buy one company by getting controlling interest in all resources of other company.
A merger is a combination of two or more corporations that are frequently about the similar size and concur to bond into one large corporation. In the scenario of a merger, mutually company’s stocks come to an end to trade as the fresh corporation selects a latest name and a new stock is announced in position of the two different company’s stock. This view of a merger is unrealistic by real world standards as it is often the case that one company is actually bought by another while the terms of the deal that is struck between the two allows for the company that is bought to publicize that a merger has occurred while the company that is doing the buying backs up this claim. This is done in order to allow the company that is bought to save face and avoid the negative connotations that go along with selling out.
2.3 Purpose of Mergers & Acquisition:
Purposes for mergers are given below.
(1) Procurement of materials:
- To uphold the resources of supplies of raw materials or mediator product
- To get hold of economies of purchase as a discount, reduce transportation costs, many overhead costs to introduce new department, etc.
- To divide the reimbursement of suppliers economies by generalizing the resources (Cartwright, 1995).
(2) Revamping production facilities:
- To accomplish economies of scale by combining production services throughout concentrated utilization of deposit and capital
- To generalized product specifications, perfection in quality of manufactured goods, growing market and planning at customers’ satisfaction in the course of amplification subsequent to sale services (Chawla, 2008)
- To attain improved manufacturing technology and knowledge from the acquired company
- To diminish cost, improvement in quality and manufacture competitive goods to hang on to and get better market share (Altunbas, 2005).
(3) Market expansion and strategy:
- To get rid of competition and defend present market;
- To get new market channel in control of the acquirer;
- Strategic control of patents and copyrights
- To acquire innovative product for diversification or replacement of accessible goods and to increase products range; (Kruse, 2002)
- Strengthening keep hold of channels and sale the products to downsize the distribution;
- To decrease advertising cost and get better public image
(4) Financial strength:
- To perk up liquidity and boast direct right to use to cash.
- To organize of extra and obsolete assets for cash
- To improve mechanism to maintain capacity, make use of better strength and the superior assets assistance; (Chawla, 2008)
- To achieve tax advantages
- To get better Earning Per Share
- To get better representation and draw attentions of better-quality managerial aptitude to administer its associations;
- To give more satisfaction to customers or product user (Chawla, 2008)
(6) Own developmental plans:
The main reason of merger and acquisition is reversed by the acquirer corporation’s strategies.
A corporation decide to acquire the other business only when it develop it own goals to enlarge its operation by examining its internal strength where it is not going to face any difficulty in tax, accounting and in valuation of company, etc. It has a goal to attain a suitable amalgamation that provide opportunities to enhancement in its funds by increasing its securities.
(7) Strategic purpose:
The Acquirer Corporation inspect the merger to attain strategic goals in the course of substitute of amalgamation which could be vertical, horizontal merger, product expansion, market expansion or other particular different goals according to attentions of achieving the corporate strategies. Thus, various types of combinations distinct with each other in nature are adopted to pursue this objective like vertical or horizontal combination.
(8) Corporate friendliness:
Even though it is uncommon but it is reality that companies demonstrate degrees of cooperative spirit regardless of competitiveness to give security to each other from hostile takeovers and develop circumstances of partnership allotment of goodwill of another to get more efficiency through business amalgamation.
(9) Desired level of integration:
Mergers and acquisition are hunted to achieve the most wanted level of integration between the two corporations. This type of merger could be an operational or financial. The main reason and the necessities of the acquiring corporation get a long term benefit in choosing a appropriate partnership in merger or acquisition in companionship. (Chawla, 2008)
2.4 Reasons of merger & Acquisition:
The principal economic rationale of a merger id that the value of the combined entity is expected to be greater than the sum of the independent values of the merging entities. For example, if companys A and B merge, the value of the combined entity, V (AB), is expected to be greater than (VA+VB), the sum of the independent values of A and B. (Chawla, 2008)
A variety of reasons like growth, diversification, economies of scale, managerial effectiveness and so on are cited in support of merger proposals. Some of them appear to be plausible in the sense that they create value; others seem to be dubious as they don’t create value.
The most plausible reasons in favor of mergers are strategic benefits, economies of scale, economies of scope, economies of vertical integration, complementary resources, tax shields, utilization of surplus funds, and managerial effectiveness.
- As a pre-emptive move it can prevents competitor from establishing a similar position in that industry.
- It offers a special timing advantage because the merger alternative enables the company to ‘leap frog’ several stages in the process of expansion.
- It may entail less risk and even less cost
- In a ‘saturated market’, simultaneous expansion and replacement (through merger) makes more sense than creation of additional capacity through internal expansion
Economies of scale:
When two or more companys combine, certain economies are realized due to larger volume of operations of the combined entity. These economies arise because of more intensive utilization of production capacity, distribution networks, and research and development facilities, data processing systems and so on. Economies of scale are prominent in horizontal mergers where the scope of more intensive utilization of resources is greater. Even in conglomerate mergers there is scope for reduction of certain overhead expenses.
Economies of scope:
A company may use a specific set of skills or assets that it possesses to widen the scope of its activities. For example: proctor and gamble can enjoy economies or scope if it acquires a consumer product company that benefits from its highly regarded consumer marketing skills.
Economies of vertical integration:
When corporations occupied at dissimilar stages of manufacturing and value chain merge, financial system of vertical integration may be comprehend. For instance, the merger of a corporation occupied in searching and production with a company occupied in cleansing and marketing may get better co-ordination and manage.
Vertical integration, though, is not forever a good thought. If a company does everything in-house it may not get the advantage of outsourcing from self-governing suppliers who may be additional well-organized in their division of the value chain.
If two companies have harmonizing resources, it may make sense for them to merge. A good example of a merger of companies which complemented each other well is the merger of online gift shop with TCS. Online gift shop is best to know the demands of customer but they don’t have excellent transport infrastructure to deliver that gifts to customers but to make its system efficient online gift business should be merge/acquire with TCS or any other service like that.
When a company with accumulated losses and/or unabsorbed depreciation merges with a profit making company, tax shields are utilized better. The company with accumulated losses and/or unabsorbed depreciation may not be able to derive tax advantages for a long time. However, when it merges with a profit making company, its accumulated losses and/or unabsorbed depreciation can be set off against the profits of the profit making company and the tax benefits can be quickly realized. (Mylonakis, 2006)
Utilization of surplus funds:
A company in a mature industry may generate a lot of cash but may not have opportunities for profitable investment. Such a company ought to distribute generous dividends and even buy back its shares, if the same is possible. However, most management has a tendency to make further investments, even though they may not be profitable. In such a situation, a merger with another company involving cash compensation often represents a more efficient utilization of surplus funds.
One of the potential gains of merger is an increase in managerial effectiveness. This may occur if the existing management team, which is performing poorly, is replaced by a more effective management team. Another allied benefit of a merger may be in the form of greater congruence between the interests of the managers and the share holders. (Mylonakis, 2006)
Often mergers are motivated by a desire to diversify and lower financing costs. Prima facie, these objectives look worthwhile, but they are not likely to enhance value.
A frequently acknowledged reason for mergers is to attain risk diminution through diversification. The degree, to which risk is condensed, of course, depends on the association connecting with the earnings of the merging units. at the same time as negative correlation fetches superior lessening in risk, positive correlation takes smaller diminution in risk.
Corporate diversification, though, may present value in at smallest amount two special gears. (Chawla, 2008)
1) If a company is overwhelmed with troubles which can put in danger its existence and its merger with one more company can hoard it from possible liquidation.
2) If shareholders do not have the chance of diversification because one of the corporations is not traded in the bazaar, corporate diversification might be the merely possible route to risk diminution.
Lower financing costs:
The outcomes of larger size and greater earnings and stability, many argue, are to reduce the cost of borrowing for the merged company. The reason for this is that the creditors of the merged company enjoy better protection than the creditors of the merging companies independently.
Increase Supply-Chain Pricing Power:
Bybuying out one of its suppliers or one of the distributors, a business can eliminate a level of costs. If a company buys out one of its suppliers,it is able to save on themargins that the supplier was previouslyadding to its costs; this isknown asa vertical merger.If a company buys out a distributor, it may be able to ship its products at a lower cost.
Many M&A dealsallow the acquirer to eliminate future competition and gain a larger market share inits product’s market.The downside of thisis that a large premium is usually required to convince the target company’s shareholders to accept the offer. It is not uncommon for the acquiring company’s shareholdersto sell their shares and push the price lower in response to the company paying too much for the target company.
The most used word inM&A is synergy, which is the idea that by combining business activities, performance will increase and costs will decrease. Essentially, a business will attempt to merge with another business that has complementary strengths and weaknesses. (Mylonakis, 2006)
2.5 categories of mergers & Acquisitions
The resulted merger and acquisition is based on the offeror corporation’s attention what it desires to attain. Depend on offeror’s goal, mergers could be conglomeratic, vertical, horizontal, and circular which will explain below.
I. Vertical combination:
A corporation merged with another company to increase espousing in backward integration and forward integration to absorb the resources of supply in market. The acquiring business due to merger can reduce inventories and finished products. In the vertical combination, the acquirer may be a supplier or a buyer who use their intermediary material for finished goods. (Ahmed Badreldin, October 2009)
There are some benefits from merger that acquiring companies achieved i.e.
1. Due to imperfect market and shortage of resources and obtained products, it gets strong position.
2. Has monopoly in goods specifications.
II. Horizontal combination:
It is a combination of two competitive companies which are at same level of success in industry, and both companies should be related from same business. The main rationale of such mergers is to get economies of scale by removing repetition of conveniences and the processes and expansions the product line, diminution in speculation in working capital, removal in competition attentiveness in product, lessening in advertising costs, raise in market segments and work out improved control on market (Badreldin, 2009).
III. Circular combination:
Corporations generating unique products look for merger to contribute to general division and investigate facilities to get economies by reducing cost on replication and prop up market growth. The acquiring corporation gets advantaged as diversification and resource sharing.
IV. Conglomerate combination:
It is combination of two corporations affianced in different businesses. Main reason of this type of merger remains consumption of finances and increase debt capacity by bringing change in their financial system and also boost share holders’ leveraging and earning per share, lessening average cost of capital and in that way raising present worth of the outstanding shares. Merger increases the on the whole constancy of the acquirer corporation and generates balance in the corporation’s whole portfolio of various products and manufacturing processes. (Sue Cartwright, May 01, 1995)
This entails the grouping of two corporations that sell the identical products in dissimilar markets. A market-extension permits for the market that can be accomplished to develop into larger and is the foundation for the repute of the merger.
This merger is flanked by two corporations that sell different, but to some extent associated products, in a same market. This allows the new, larger company to group their goods and sells them with better success to the previously common market with the intention of the two different companies shared.
In accretive an acquired firm’s earnings per share enlarge. A substitute way of manipulative this is if a corporation with a high cost to earnings ratio obtains one with a less price earning ratio. (Chawla, 2008)
2.6 Concerns of Mergers & Acquisitions
Conglomerate, Horizontal and vertical mergers each hoist unique competitive alarms.
Horizontal Mergers: Horizontal mergers lift up three basic cutthroat problems. The first is the removal of competition among merging corporations, which, depending on their bulk, could be important. The second is that the amalgamation of the merging company’s operations might make sizeable market power and might facilitate the merged company to raise prices by falling output unilaterally. The third difficulty is that, by rising concentration in the related market, the deal might make stronger the ability of the market’s outstanding contributors to synchronize their pricing and production decisions. The terror is not that the companies will connect in secret partnership but that the decrease in the number of industry members will improve implicit coordination of performance. (Chawla, 2008)
Vertical Mergers: Vertical mergers have two essential forms:
Forward integration: by which a company purchases a customer, and backward integration, in which a company gets a supplier. Swapping the market contacts with interior transfers can present at least two foremost benefits. First, the vertical merger maintains all transactions between a producer and its supplier, as a result adapt a potentially adversarial association into impressive more like a partnership. Next, internalization can provide management more effectual ways to scrutinize and get better performance.
Vertical integration merger does not diminish the total number of economic units working at one level of the market, but it is changing patterns of industry performance. Either its a forward or backward integration, the newly acquired company may make a decision to deal only with the acquiring company, thus changing competition between the acquiring company’s suppliers, customers, or opponents. Suppliers may misplace a market for their possessions; retail channel may be destitute of supplies; or opponents may locate that both supplies and channel are infertile. These potential raise to the anxiety that vertical integration will shut out opponents by restrictive their access to resources of supply or to customers. Vertical mergers also might be less competitive because their well-established market power may hamper new industry from entering the market. (Chawla, 2008)
Conglomerate Mergers: Conglomerate mergers take many forms, series from provisional joint ventures to complete mergers. Moreover a multinational merger is wholesome, ecological, or a product-line addition, it engages company’s that operate in separate markets. Therefore, a corporation transaction generally has no direct result on competition. There is no reduction or other alters in the number of companies in both the acquiring and acquired corporation’s market. (Chawla, 2008)
Conglomerate mergers can provide a market or “requirement” for companies, therefore giving entrepreneurs liquidity at an open market price and with a key inducement to form new enterprises. The danger of conquest might force offered managers to increase competence in competitive markets. Conglomerate mergers also offer openings for companies to lessen capital costs and transparency and to attain other efficiencies.
Conglomerate mergers, though, may lessen future competition by get rid of the option that acquiring company would have come into the acquired company’s market separately. A conglomerate merger may exchange a strong company into a leading one with an influential competitive benefit, or else formulate a policy to make it complex for other corporations to penetrate the market. Such mergers also may lessen the number of minor companies and may enlarge the merged company’s political influence, in that way weaken the social and political objectives of keeps self-governing decision-making hubs, assurance that small firm will get opportunities, and defending democratic practices. (Mylonakis, 2006)
2.7 Benefits of Mergers & Acquisition
Corporations that want quick growth in dimension or diversification or market share in the variety of products may discover that a merger can be worn to accomplish the intentions instead of obtainable throughout the volume overriding practices of internal expansion or diversification. The company may attain the similar goals in a short time period merging with an existing company. Moreover this type of a strategy is frequently show low cost than the alternative of mounting the necessary production potential and capability. If a company that wants to expand operations in existing or new product area can find a suitable going concern (Altunbas, 2005).
It may avoid many of risks associated with a design; manufacture the sale of addition or new products. Moreover when a company expands or extends its product line by acquiring another company, it also removes a potential competitor.
The scenery of synergism is very simple. Synergism exists at any time the value of the combination is greater than the sum of the real values. We can explain it as; synergism is “2+2=5”. But categorize synergy on appraise it may be difficult; in fact occasionally its implementations may be very delicate (Chawla, 2008). As generally defined to include any incremental worth is resulting from business combination, synergism in the basic economic good reason of merger. The incremental value may draw from raise in either operational or financial competence. (Chawla, 2008)
Operating synergism may result from economies of scale, some degree of monopoly power or increased managerial efficiency. The value may be achieved by increasing the sales volume in relation to assts employed increasing profit margins or decreasing operating risks. Although operating synergy usually is the result of either vertical/horizontal integration some synergistic also may result from conglomerate growth. In addition, sometimes a company may acqu
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