Corporate Performance In Context To Indian Banking Industry Finance Essay
In today’s globalized economy, competitiveness and competitive advantage have become the buzzwords for corporates around the world. Corporate are aggressively trying to build new competencies and capabilities, to remain competitive and to grow profitably. Merger and Acquisitions are being increasingly used by companies for entering new markets, asset growth, garnering greater market share/additional manufacturing capacities and gaining complimentary strength and competencies, to become more competitive in the market place. In the USA, since the early 1900s, there have been six distinct waves of mergers and acquisitions, each with its distinct characteristics and outcomes, as per a BCG report released in July 2007 (based on a detailed analysis of more than 4,000 completed deals between 1992 and 2006 in USA). As per the report, “at the beginning of the twentieth century, there was a drive for market share, followed three decades later by a longer and more ambitious wave as companies connected together different elements of the value chain, from raw materials and production through to distribution. The most recent wave, which started in 2004, after the internet bubble at the turn of the century and the subsequent downturn, is driven by consolidation motives”.
INDIAN BANKING INDUSTRY
Banking in India originated in the first decade of 18th century with the General Bank of India coming into existence in 1786. This was followed by Bank of Hindustan. Both these banks are at present defunct. The oldest bank in continuation in India is the State Bank of India being recognized as “The Bank of Bengal” in Calcutta in June 1806. A couple of decades later, foreign banks like Credit Lyonnais started their Calcutta operations in the 1850s. At that point of time, Calcutta was the on the whole active trading port, primarily due to the trade of the British Empire, and due to which banking activity took roots there and flourished. The first wholly Indian owned bank was the Allahabad Bank, which was established in 1865.
By the 1900s, the market extended with the establishment of banks such as Punjab National Bank, in 1895 in Lahore and Bank of India, in 1906, in Mumbai – together they were originated under private ownership. The Reserve Bank of India officially took on the responsibility of regulating the Indian banking sector from 1935. After India’s independence in 1947, the Reserve Bank was nationalized and given broader powers.
The Indian banking industry is governed by the Banking Regulation Act of India, 1949. It can be classified into two major categories, non-scheduled banks and scheduled banks. Schedule banks comprise commercial banks and the co-operative banks. Commercial banks can be further grouped into nationalised banks, the State Bank of India and its group banks, regional rural banks and private sector banks. These banks have over 67,000 branches spread across the country.
MERGERS AND ACQUISITIONS
Merger is defined as combination of two or more companies into a single company where one survives and the other lose their corporate existence. The survivor acquires all the assets as well as liabilities of the merged company or companies. The surviving company is the buyer, which retain its identity and the extinguished company is the seller. In India, mergers are called as Amalgamations, in legal parlance. The acquiring company (also referred to as the amalgamated company or the merged company) acquires the assets and liabilities of the target company (or amalgamating company).
Acquisition in general sense is acquiring the ownership in the property. In the context of business combinations, an acquisition is the purchase by one company of the controlling interest in the share capital of another existing company.
TYPES OF MERGERS
Horizontal merger takes place where the two merging companies produce similar products in the same industry.
Vertical merger occurs when two firms, each working at different stages in the production of the same good, combines together.
Conglomerate merger take place when the two firms operate in different industries merge with each other.
Market extension mergers exist when two companies that sell the same product in different market merge with each other.
Product extension mergers exist when two companies selling different but related products in the same market come together.
Accretive mergers are those in which an acquiring company’s earnings per share increase. And the way of calculating this is, if a company with a high price to earnings ratio (P/E) acquires one with a low P/E ratio.
Dilutive mergers are the opposite of the above, whereby a company’s EPS decreases. The company will be one with the low P/E acquiring one with the high P/E ratio.
Mergers and acquisitions in India are on the mount. Volume of mergers and acquisitions in India in 2007 was grown-up to two fold from 2006 and four times compared to 2005. India has materialized as one of the top countries with respect to merger and acquisitions deals. In 2007, the first two months single-handedly accounted for merger and acquisitions deals worth $40 billion in India. The estimated figures for the entire year projected a total of more than $100 billion worth of mergers and acquisitions in India. This was the two fold growth from 2006 and a growth of almost four times from 2005.
In the banking sector, imperative mergers and acquisitions in recent years embrace the merger between IDBI (Industrial Development Bank of India) and its subsidiary IDBI Bank. The deal was worth $174.6 million (Rs. 7.6 billion in Indian currency). Another imperative merger was that among Centurion Bank and Bank of Punjab, worth $82.1 million (Rs. 3.6 billion in Indian currency), the merger led the formation of the Centurion Bank of Punjab with 235 branches in different regions of India.
Kuriakose, S. & Kumar, G. (2010) have defined that the principal cause behind the voluntary amalgamations in the Indian banking sector take place from increased efficiency, cost savings, economies of scale etc. They analysed that mergers are the foundation of inorganic growth and the foremost way to adhere to the regulatory requirements and the merging partner’s strategically similarities and relatedness are extremely significant in the synergy creation because the relatedness of the strategic variables have a significant impact on the bank performance. They used the specific data of the firm to study the strategic similarities of bidder and target banks in the voluntary amalgamations in the Indian banking sector. All pertinent strategic and financial variables of respective banks are considered to assess their relatedness and it was alleged that balance sheet resource allocation was the symptomatic of the strategic focus of the banks.
Ismail, T. & Magdy, R. (2010) analyzed prior literature of mergers and acquisitions and its effects on the financial performance effort to determine the factors that persuade post mergers and acquisitions performance. From their research they concluded that, there are indecisive results among studies on the literature, where in some cases corporate performance was improved but in some cases it wasn’t. They also talked about previous studies in which varieties of measures were used to examine the impact of M & A on corporate performance and states that managers should be conscious about the impact of various factors on post merger corporate performance to accurately evaluate the proposed offers of M & A and then take crucial actions.
Bhan, A. (2009) provided proper insight into the motives and benefits which arises due to mergers and acquisition in Indian banking sector. He did this by examining the eight merger deals of the banks in India during the period reforms from 1996 to 2006 and states the use of empirical methods T-test to study the short term change in the returns of the banks due to mergers and EVA (Economic Value Added) method, to study the efficiencies or benefits achieved due to mergers. The conclusion from the sample taken for analysis was that the mergers in the banking sector in the post reform period possessed considerable gains which were justified by the EVA of the banks in the post merger period.
Fraser, D. & Zhang, H. (2009) describes the indication on operating performance changes at a sample of U.S. banks acquired by non-U.S. banking organizations over the 1980-2001 periods. He denotes the direct comparison between pre acquisitions performance of targets with their post acquisitions performance. And the result signifies that the cross-border acquisitions produce improved target performance, increased cash flow profitability, and improved labour utilization.
Kumar, R. (2009) examine the post-merger operating performance of acquiring companies involved in merger activities during the period 1999-2002 in India. He identifies the synergy by means of the operating performance approach, which compares the pre-merger and post-merger performance of companies using accounting data to inspect merger related gains to the acquiring firms. He also states that the merger usually do not lead to improve the acquirer’s financial performance i.e. profitability, assets turnover and solvency of the acquiring companies. The result shows that the mergers are not aimed at maximizing wealth of owners, so the managers need to focus on post merger integration issues in order to create merger induced synergies, rather than simply acquiring bigger size and achieve hidden objectives.
Tauseef, S. & Nishat, M. (2008) explored the short term market response that are associated with the announcement of seven mergers & acquisitions in the banking sector of Pakistan for the period of 5 years i.e. 2003 to 2008 using the event study methodology. From the study they specifies the statistically significant investor reactions about the merger announcements which were either positive or negative and for the individual target and bidder banks; they were the cumulative abnormal returns range commencing significant positive to significant negative. And he also concluded that the mean of cumulative abnormal returns for the collective banks in the domestic mergers were also positive.
Kumar, S. & Bansal, L. (2008) explored that mergers and acquisitions can be done by identifying the financial synergy in diverse ways. He found out that while going for M & A’s, the claims made by the corporate sector to generate synergy are achieved or not. His study was based on secondary financial data to know the synergy effect in long run and enlightens us by indicating that the management cannot take guarantee that M & A will generate profits and high growth or that synergy can be generated or not.
Mantravadi, P. & Reddy, V. (2008) surveyed the globalised economy with context to M & A in the world, for recuperating competitiveness of companies through gaining superior market share, lengthening the portfolio to reduce business risk, for entering new markets and geographic, and capitalising on economy of scale. Their main focus was to study the blow of mergers on the operating performance of acquiring corporate in diverse industries by probing pre and post merger financial ratios. The study illustrate that in banking and finance industry, the mergers showed the positive impact on profitability of the firms as compare to other industries.
Beccalli, E. & Frantz, P. (2008) investigates whether M & A operations sway the performance of banks, via a sample of 714 deals involving EU acquirers and targets located right through the world over the period 1991-2005. They analysed whether M & A operations reflected in enhanced performance taking into consideration standard accounting ratios, cost and alternative profit efficiency or not. And the results of their study explain that despite the extensive and ongoing consolidation process in the banking industry, M & A operations are allied to a slender deterioration in equity, cash flow return, and profit efficiency and contemporaneously to a manifest improvement in cost efficiency which relocate to bank clients. Thus, the alteration in cost and profit efficiency exhibit a particularly negative trend for cross-border deals to testify the consequence of geographical relatedness in instruct to achieve healthier post M & A performance.
Jayadev, M. & Sensarma, R. (2007) analyzed the critical issues related with mergers and acquisitions, that in case of forced mergers neither the bidder nor the target bank’s shareholders benefitted from it, though in the case of voluntary mergers, the bidder’s bank shareholders have gained more than that of target banks. They proposed that in spite of absence of gains, they totally favours mergers and signifies the success of mergers as the valuation of portfolio, integration of IT platforms and the issue of human resource management. They also signifies the need of large banks by posing full convertibility, Basel-II environment, financial inclusion, and the need of large investment banks, were the primary factors for driving further consolidation in the banking sector in India and other Asian economies.
Kumar, R. & Mehta, J. (2006) probed into assorted motivations following a bank’s merger and acquisitions. According to the report on banking sector in 2006, India is slowly but surely moving from a regime of large number of small banks to small number of large banks. Consequently, they describes the escalating task of the economic power in the turf war of nations and the substantial role of the state and the central bank in shielding customer’s interests vis-a-vis creating players of international size. They also glanced at the large inference for the nation, while gazing at the M & A in the Indian Banking Sector equally from an opportunity and as crucial perspectives.
Pamarty, M. (2006) analysed the financial & strategic management facet of merger through several outlook and estimated the financial proposition before and after mergers in the banking sector. His study enlightens us about the retort of security prices to proclamation of M & A decisions and predominant aspects which create target & source banks for the M & A.
Santos, M., Errunza, V. & Miller, D. (2003) inspect the valuation possessions of corporate international diversification by probing cross-border mergers and acquisitions in U.S. acquirers over the period 1990-1999. Their results demonstrate that on an average, acquisitions of fairly valued foreign business units do not escort to value discounts. Consistent with the industrial diversification markdown literature, unrelated cross-border acquisitions; result in a noteworthy diversification concession of about 24 % after accounting for the evaluation of foreign targets, besides considerable wealth gains collection to foreign target shareholders in spite of the type of acquisition. And thus generally result of their study signifies that the international diversification does not demolish value while industrial diversification direct to discounts yet after controlling for the pre acquisitions worth of the target.
Bhaumik, S. & Selarka, E. (2003) examined the impact of M & A on profitability of firms in India and draw the conclusions about impact of concentrated ownership and entrenchment of owner managers on firm performance. Their result indicates that during year 1995-2002 period, M & A in India led to deterioration in firm’s performance. Neither the investors in the equity market nor the debts holders can rely upon to discipline errant management. In other words, on balance, negative effect of entrenchment of owner managers trumps the positive effects of reduction in owner vs. Manager Agency problems.
Schenk, H. (2003) illustrated the use of ex-ante and ex-post methodologies to examine the performance of mergers in banking sector. He concluded that mergers among large banks, or the take-overs of small banks by the large banks are able to create economic wealth but do not create positive shareholder returns. The generality of his finding was demonstrated by a discussion of findings on non financial mergers. Since the iniquitousness of ill performing mergers was at odds with both conventional wisdom and economic theory, he discussed then why such mergers and take –over’s take place at all. The consequence showed a wider effect on economic efficiency and comes up with several policy implications. He argued that competition policies should address issues of productive efficiency along with issues of allocative efficiency and that industrial policies should improve the access of retail clients to investment funds.
SECTION – III
RATIONALE FOR THE STUDY
Survival is the decisive goal of any organization and Mergers and Acquisitions are one outward appearance of survival strategy. The Indian government time and again has laid forward the planned efforts to accomplish higher economic growth. While Income Tax Act 1961 carries some enticement to the merged firms, Indian Companies 1956 endow with the route for amalgamation. The mergers has drawn the concentration of most likely all professionals, consultants, finance managers, bankers and merchant bankers who offer guidance and know how to corporate clients. At the same time, Indian enterprises work beneath competition from MNC’s. This holds a serious problem to all industries including banking sector. Their reorganization through M & A could facilitate them to re-establish themselves to drive as feasible units of optimal size. Therefore, the triumph of reorganization is to decisively study. This study seeks to explore successfulness of Mergers and Acquisitions after merger efforts in banking sector.
Scope of the Study:
The study is restricted to a selective sample of banking companies who were involved in M & A’s during the period of 2000-2009 to understand the impact of mergers and acquisitions on the operating performance of acquiring firm before the acquisition and after the acquisition by analysing some pre and post acquisitions financial ratio’s from 2000 onwards.
SECTION - IV
Following are the trust areas of study:
To analyze the changing pattern of average share price of the acquirer company and whether the overall effect has been positive or not.
To investigate and test if there are any significant deviation in the results achieved by banks after acquisition in India.
To determine the factors that persuades post mergers and acquisitions performance.
To examine the impact of M & A on corporate performance.
SECTION - V
Research is an art of scientific investigation. In other words research is a scientific and systematic search for pertinent information on a specific topic. The logic behind taking the research methodology into consideration is that one can have knowledge about the method and procedure adopted for achievement of objectives of the project. With the adoption of this others can evaluate the results also. Its main aim is to keep the researchers on the right track.
The research will down size the main problems in the form of research gaps through the investigation of widespread research reviews. In all international literature they fail to recognize the aspect influencing M & A of banks. The predominant issues which create target and the factors influencing M & A were also not discussed in the literature works. It is also acknowledged that the national and international literature did not indicate the oscillation of secondary data for a particular period of pre and post merger periods. The share price movements in the public issues were also not noticed very scrupulously in the literature survey, one more problem encounter in the study is how the twinning system of M & A, pairs target banks and source banks.
Research design is the frame work for conducting the design. It specifies the details of the necessary information needed to structure or solve the necessary information. The research design that is to be used in this study is descriptive research which is a type of conclusive research that has as its major objective the description of something usually the characteristics or functions.
Descriptive research, also identified as statistical research, describes data and characteristics concerning the population or phenomenon being studied. Descriptive research answers the questions who, what, where, when and how. It is a scientific method which involves observing and describing the behaviour of a subject without influencing it in any way.
Null Hypothesis (Ho): Mergers between the banks in India do not bring any operational efficiency.
Alternate Hypothesis (Ha): Mergers between the banks in India do bring operational efficiency.
Sampling Method – Random Sampling
A random sample is one preferred by a method involving an unpredictable element. Random sampling can also refer to captivating a number of independent observations from the identical probability distribution, devoid of concerning any real population.
Sampling Unit – Banking Sector
Sample Size – 4 Bank Mergers
HDFC with Times Bank
ICICI with Bank of Madura
Oriental Bank of Commerce with Global Trust Bank
HDFC with Centurion Bank
Sample period – 2000 To 2009
Data Collection – Secondary Data
Data on operating performance ratios for up to three years prior and three years after the acquisition year for each acquiring company in the sample will be extracted.
SECTION – VI
TENTATIVE CHAPTER SCHEME
Chapter – I Introduction to Indian Banking Sector
Introduction to Mergers & Acquisitions
Types of Mergers & Acquisitions
Chapter – II Review of Literature
Chapter – III Research Methodology
Chapter – IV Corporate Performance
Chapter – V Findings & Suggestions
Chapter – VI Summary & Conclusion
Chapter – VII Bibliography
SECTION - VII
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