Ashridge

Virtual Learning Resource Centre

Banking industry – October 2007

The credit crunch that hit the financial markets over the summer appeared to come to a head in early to mid September, especially in the UK. Northern Rock applied for, and received, emergency lender of last resort support from the Bank of England after it had difficulty securitising mortgages that it had sold. At an EGM, 90% of Barclays shareholders voted to support the bank’s bid to acquire ABN Amro: Barclays is competing with a consortium led by Royal Bank of Scotland. According to the Office of Fair Trading, banks are making £2bn-3.5bn a year in revenue from overdraft penalty charges. Hundreds of thousands of current account holders have reclaimed unauthorised overdraft charges from their banks in the past year, claiming that they are illegal.

Anxiety underpins the merger speculation amid continuing stress in the German banking sector.

The overseas ambitions of Canada’s banks are being helped by the strength of the Canadian dollar. Having failed in two previous attempts to find a Korean partner, HSBC is now seeking to purchase a majority stake in Korea Exchange Bank. Fitch Ratings says the proposed merger between Emirates Bank International and National Bank of Dubai is positive for the UAE banking sector. The banking sector in Nigeria is also consolidating. Bank of Beijing, one of China’s city-owned commercial banks, is selling new shares on the Shanghai Stock Exchange to fund expansion; more IPOs are expected among the other city-owned commercial banks not listed.

UK

The credit crunch that hit the financial markets over the summer appeared to come to a head in early to mid September, especially in the UK. The London Inter-bank Offered Rate (LIBOR) – the rate at which banks borrow from each other – reached a nine-year high of 6.9% opening a 1.15 percentage point gap above base rate, the biggest in 20 years. Over the past 20 years the gap has averaged just 0.12 percentage points and on 65% of trading days since 1986, LIBOR has been within 0.25 percentage points of the Bank of England’s base rate. As a result, the Bank of England, as well as central banks around the world, injected money into the markets to help alleviate the impact of the liquidity squeeze.

In mid September, Northern Rock, the UK’s fifth largest mortgage lender, applied for, and received, emergency lender of last resort support from the Bank of England after it had difficulty securitising mortgages that it had sold. Despite exaltations to customers not to withdraw their deposits, a run on the bank ensured with billions of pounds being withdrawn in just a few days. Northern Rock was more exposed than its competitors to the lack of liquidity in the wholesale market because it has fewer savers than its rivals and therefore has to borrow heavily from other banks to fund its lending. It was those funds that dried up. Before the Government stepped in again and gave an explicit guarantee that savers’ deposits would be secure, the Financial Services Authority and the British Bankers’ Association had tried to reassure Northern Rock’s customers that their personal accounts were safe. At least two potential buyers are said to have looked at rescuing the bank, but walked away because of the turbulence in financial markets.

At an extraordinary general meeting in mid September, 90% of Barclays shareholders voted to support the bank’s €62bn (£42bn) bid to acquire ABN Amro. However, the bank said that it was not committed to a deal at any price. Barclays is competing with a consortium led by Royal Bank of Scotland that has offered €71bn. The shortfall is largely due to movements in Barclays’ share price in recent months. The consortium’s bid is 93% cash compared with 37% from Barclays. ABN Amro’s management initially backed the Barclays offer, but since has adopted a neutral stance. Both bids have flaws – Barclays’ because of its dependence on the share price and the consortium’s because of its exposure to the credit crunch, which could make it difficult to raise the funds needed for the bid to succeed. Separately, Bank of America has won approval from the US Federal Reserve for its proposed $21bn acquisition of LaSalle, ABN Amro’s Chicago bank.

According to the Office of Fair Trading (OFT), banks are making between £2bn and £3.5bn a year in revenue from overdraft penalty charges, which can be as high as £30 a day. Hundreds of thousands of current account holders have reclaimed unauthorised overdraft charges from their banks in the past year, claiming they are illegal. In the first half of 2007, the five biggest banks paid out more than £40m in refunds. In January the OFT launched an investigation into the charges, but the banks argued that the charges were a core term of current accounts and that the OFT had no authority to recommend changes. In July, the OFT and eight leading banks said they would go to the High Court to clarify the position; the case is due to be heard in January. Some banks, including Lloyds TSB, have already started to change their overdraft fees ahead of the conclusions of the OFT’s investigation.

Europe

Three potential bidders – a US private equity group and two German rival banks – are vying for Germany’s ailing Landesbank WestLB. The bank has recorded more than €600m of losses on proprietary trading and an inquiry is under way into the conduct of seven former managers. German commentators believe that Landesbank Baden-Wérttemberg is the favourite to win the regional government’s 38% stake in WestLB. Meanwhile, anxiety underpins the merger speculation amid continuing stress in the German banking sector, one of the most fragmented in Europe. Sachsen LB, a landesbank, and IKB Deutsche Industriebank have been bailed out after liquidity problems arising from the sub-prime crisis; the latter forecasts net losses of between €600m and €700m. Josef Ackermann, chief executive of Deutsche Bank, said he hoped failures would improve risk management procedures.

Rest of the world

The overseas ambitions of Canada’s banks are being helped by the strength of the Canadian dollar. Following Bank of Nova Scotia’s $1.03bn acquisition of a 79% stake in Chilean bank Banco de Desarrollo, Royal Bank of Canada is spending $1.6bn on Alabama National Bancorp. The purchase will add to the bank’s presence across the US southeast following its purchase of Centura Banks for $2.16bn in 2001.

Although HSBC has had a presence in Korea since 1982, it has just 11 branches and four commercial banking centres. Having failed in two previous attempts to find a Korean partner – it lost out to Citibank in 2004 and to Standard Chartered in 2005 – HSBC is now seeking to purchase a 51% majority stake in Korea Exchange Bank (KEB), the country’s sixth largest bank, for $6.3bn. However, the deal faces difficulties, as the seller, Lone Star, a Texas private equity firm, is involved in legal wranglings over its original $1.3bn stake purchased in 2003. It is accused of manipulating KEB’s share price ahead of the sale thus underpaying for the shares and standing to make too much from the stake sale. HSBC has inserted a string of get-out clauses into the deal so that it can extract itself should the need arise. Aware of local sensitivities, it has promised to retain both the name and the local stock market listing of Korea Exchange Bank. Separately, HSBC is to open its first retail banking branch in an upmarket district of Tokyo in January. It is part of the bank’s plan to target wealthy customers who may be thinking about investments overseas.

Fitch Ratings says the proposed merger between Emirates Bank International and National Bank of Dubai is positive for the UAE banking sector, as it should inspire other banks in the country and elsewhere in the region to seek mergers or acquisitions to consolidate their positions in an increasingly competitive environment.

The banking sector in Nigeria is also consolidating. A first wave between 2004 and 2006 was driven by government intervention following the central bank’s decision to enforce a minimum capital requirement. The current wave is being driven by the banks, which have decided that their long-term prospects are better served by combining than by going it alone.

Bank of Beijing, one of China’s 113 city-owned commercial banks, is selling new shares equal to 19% of its enlarged capital for $2bn on the Shanghai Stock Exchange to fund expansion. Bank of Nanjing and Bank of Ningbo are already listed. More IPOs are expected among the other 110 banks. Separately, the government is moving towards a bail out of Agricultural Bank of China, the country’s fourth biggest bank that funds farmers through 31,000 branches. A state investment body is ready to hand over £40bn to help cover the bank's $99bn of non-performing loans.

Back to the top