Title: BUS FINANCE 826
1BUS FINANCE 826
2Overview
- The benefits to geographic diversification
available in the domestic market and the reasons
underlying the current wave of merger activity in
the U.S. Evidence on the cost and revenue
synergies and other factors affecting geographic
expansion are also explored.
3Domestic Expansions
- Historically FIs' ability to expand constrained
by regulation. - Regulations also create potential opportunities
for new entrants to exploit existing monopoly
rents.
4Regulatory Factors Impacting Geographic Expansion
- Insurance companies
- State regulated.
- Usually easy to establish subsidiaries
- Thrifts
- Since 1980s, restrictions on expanding across
state lines have been loosened considerably.
5Attractiveness of Geographic Expansion
- Some factors are unique to financial services,
but some also apply to industrial sector - Regulation and regulatory framework
- Cost and revenue synergies
- Firm- or market-specific factors
6Regulatory Factors
- Insurance Companies
- State regulated
- Establish physical presence in nearly every state
7Regulatory Factors
- Thrifts
- Branching controlled by Office of Thrift
Supervision (prior to 1989, under FHLBB) - Restrictions loosened by Garn-St. Germain Act of
1982, FIRREA 1989 - In 1992, OTS permitted interstate branching for
federally chartered savings institutions
8Constraints on Domestic Expansion
- Commercial Banks
- Restrictions on intrastate banking have been
liberalized in a piecemeal fashion. - Interstate restrictions
- McFadden Act, 1927
- From 1927 to 1997 relied on establishing
subsidiaries rather than branching. - Multibank holding companies (MBHC)
9Stages in Regulation of BHCs
- One-bank holding company loophole in Douglas
Amendment 1956. - Growth in one-bank holding companies from 1956
to 1970. - 1970 Bank Holding Company Act Amendments.
- Permissible activities closely related to
banking
10Erosion of Interstate Banking Restrictions
- Regional and national banking pacts
- Nationwide
- Nationwide reciprocal
- Regional reciprocal
- Purchase of troubled banks across state lines
- Nonbank banks
- Ended by Competitive Equality Banking Act, 1987
11Erosion (continued)
- Expansion in OBHC activities.
- Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 - U.S. and nondomestic banks allowed to branch
interstate. - Full interstate banking with exception of de novo
branching in 1997 - Wave of consolidation megamergers
12Consolidation
- Megamergers
- Mostly in the same or closely related markets
- Pure bank merger examples BancOne/ First
Chicago, and NationsBank/Bank of America
13Synergies from Geographic Expansion
- Cost synergies
- X-efficiency
- Berger and Humphrey Less evidence of cost
savings from economies of scale and scope - Houston, James and Ryngaert / Rhoades found
significant cost savings in megamergers - Berger and DeYoung positive and negative links
between geographic scope and bank efficiency
14Synergies from Geographic Expansion
- Revenue synergies
- Enhance revenues by expanding into growing market
- Enhance revenues by expanding into less than
fully competitive market - More stable revenue stream
15Monopoly Power Concerns
- Regulators concerned with merger activity that
could result in monopoly power. - Concentration ratios such as Herfindahl-Herschman
Index (HHI) employed to measure the effects of
merger. - HHI sum of squared percentage market shares.
16Web Resources
- Visit
- U.S. Department of Justice www.usdoj.gov
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17Other Factors
- Solvency and asset quality
- leverage, loan loss reserves, NPLs
- Attractiveness of bank merger measured in terms
of merger premium. - Analysis indicates that highest merger premiums
paid for well-managed banks in relatively
uncompetitive environments.
18Success of Geographic Expansion
- Investor reaction
- Abnormal returns for both acquiring bank and
target bank. - Although some contrary results for bidders
19Success of Geographic Expansion
- Postmerger performance
- merged banks tended to outperform industry
- improved ability to attract loans and deposits,
increase employee productivity and enhance asset
growth.
20Pertinent websites
- Department of Justice www.usdoj.gov
- FDIC www.fdic.gov
- OCC www.occ.ustreas.gov
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21Overview
- Although many FIs can diversify domestically, the
benefits to global diversification are available
only to large firms. This chapter explores the
potential risk-return advantages and
disadvantages of international expansion and the
trends toward globalization of FI franchises. As
countries such as the U.S. expand, some
countries, Japan in particular, are contracting
their overseas operations.
22Global and International Expansions
- Three ways to establish global presence
- Sell financial services from domestic offices to
foreign customers - Sell financial services through a branch, agency,
or representative office in foreign customers
country - Sell financial services through subsidiary
company in foreign customers country.
23Global Expansion of FIs
- U.S. insurance companies and securities firms
recent expansion - 12 banks in the world with over 50 percent of
assets in foreign countries - No single country dominates
- Japanese banks absent in spite of their size
24Top Global Banks
25U.S. Banks Abroad
- J.P. Morgan/Chase have had offices abroad since
beginning of century. - Major growth began in 1960s
- Overseas Direct Investment Control Act, 1964.
- Offshore funding and lending in dollars forged
beginnings of the Eurodollar market. - Assets of U.S. bank activities abroad increased
from 353.8 billion in 1980, to 745 billion in
2001. Declined in percentage terms.
26Factors Encouraging U.S. Bank Expansions Abroad
- Dollar as international medium of exchange
- Effects of Euro
- Political risk
- Encouraged flows to U.S. branches and
subsidiaries in Cayman Islands and Bahamas. - USA Patriot Act of 2001 prohibited services to
shell banks and increased focus on money
laundering
27Factors Encouraging U.S. Bank Expansions Abroad
- Domestic activity restrictions
- Fed regulations permitting banks to engage in
activities permitted by foreign host. - Diversification benefits.
- Technology and communications improvements
- CHIPS
- Decreasing operating costs
28Factors Deterring Expansion
- Capital constraints
- BIS 2001 reforms
- raise capital requirements for loans to non-OECD
sovereigns rated below B- - raise capital requirements for loans to OECD
countries rated below AA- - zero risk weights for OECD countries rated above
AA-
29Factors Deterring Expansion
- Emerging markets problems
- Increased caution due to Korea, Thailand,
Indonesia despite improved regulatory environment
(NAFTA, for example). - WTO reduction of barriers to global expansion
- China as a recent noteworthy example
30Factors Deterring Expansion
- Competition
- During 1990s, extensive competition from Japanese
banks - Japan had 9 of the 10 largest banks
- European Community Second Banking Directive
resulted in significant consolidation of European
banks.
31Foreign Banks in the U.S.
- Organizational form
- Subsidiary
- Branch
- Agency
- Edge Act Corporation
- Representative Office
32Trends and Growth
- Rapid expansion of foreign banks in U.S.
- In 1980, foreign banks had assets of 166.7
billion (10.8 percent of total U.S. bank assets) - 1992, 514.3 billion (16.4 percent)
- 1994, 471.1 billion (13.8 percent)
- Retrenchments due to several factors including
competitive and regulatory effects. - Recent growth in foreign bank operations in U.S.
33Regulation of Foreign Banks in U.S.
- Prior to 1978, foreign branches and agencies were
licensed mostly at state level. - No access to discount window
- No direct access to Fedwire/fed funds markets
- No FDIC coverage
34Regulation of Foreign Banks in U.S. (post 1978)
- Passage of International Banking Act, 1978
- National treatment to level the playing field
- Accelerated expansion of foreign banks in U.S.
- Japanese bank entry into California, and
subsequent sales notable
35Regulation of Foreign Banks
- Foreign Bank Supervision Enhancement Act 1991,
increased federal control. - Triggered by three events
- collapse of BCCI
- issuance of 1 billion in unauthorized letters of
credit to Iraq by Atlanta agency of Banca
Nazionale del Lavoro - unauthorized taking of deposit funds by U.S.
representative of Greek National Mortgage Bank of
New York.
36Features of FBSEA
- Feds approval required for entry
- Closure under control of Federal Reserve
- Daiwa Bank ordered to cease operations.
- Examination by Fed
- Deposits Only foreign subsidiaries with FDIC
coverage can take deposits under 100,000. - Activity powers restricted to activities
permitted to federal branch.
37Web Resources
- Visit
- Federal Reserve www.federalreserve.gov
- FDIC www.fdic.gov
Web Surf
38Advantages to International Expansion
- Risk diversification
- Economies of scale
- Innovations
- generate extra returns from selling new products
abroad. - Funds source
- Customer relationships
- Regulatory avoidance
39Disadvantages
- Information/monitoring costs
- Example differences in accounting standards
- Nationalization/expropriation.
- Fixed costs may be high
- Tokyo real estate prices for example.
40Pertinent websites
- American Banker www.americanbanker.com
- Federal Reserve www.federalreserve.gov
- The Banker www.thebanker.com
- FDIC www.fdic.gov
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