If 2008 was the year of the distressed bail-out, 2009 will be the year of the super-bank, if not in terms of market capitalisation, then certainly in terms of sheer scale. The recent litter of forced marriages and hasty buy-outs, including the titanic merger of the UK’s Lloyds TSB and HBOS, has given birth to a number of over-bloated and painfully complex organisations, the true value of which remains unclear. In the wake of banking mergers on a scale not seen before, many market watchers are now asking the uncomfortable question: is it possible to make these deals work?
Large businesses are not particularly good at large-scale transformation at the best of times. Mergers and acquisitions, however, fare particularly badly. In one of the best known and most dispiriting pieces of research on the matter, consultancy firm McKinsey found that a staggering 70% of mergers fail to deliver the anticipated synergies and resulting cost savings. This is particularly true of the banking industry. Research conducted by Michael Koetter, an expert in banking mergers at the Faculty of Economics, University of Groningen, has found that the majority of banking mergers do not reward investors.
Excessively difficult or complex post-merger integration problems are often to blame, he says. “This is grossly underestimated when it comes to marrying two very large institutions: the problems do not just add up linearly, they grow exponentially.” For the industry’s newly merged super-banks, it will be more challenging than ever to reverse this trend and realise much-needed efficiencies at the level of IT operations and infrastructure.
Hedi Ezzouaoui, director, financial markets worldwide financial services industry at Hewlett Packard, says the industry is already suffering from a backlog of poorly executed mergers. “There are very few examples of banks that have managed to achieve a full integration,” he says. This will create innumerable complexities and for IT teams throughout the industry: the pressure is on.
What lies beneath?
These complexities are not always easy to see from the outset, however. By some estimates, it takes at least three months for the acquiring organisation to draw up a full map of the target company’s IT architecture. During this time, both teams typically work under non-disclosure agreements prior to the finalisation of the deal, as has been the case for Lloyds TSB and HBOS, for example. This will limit the acquirer’s visibility of the target entity’s architecture, says Andrew Morlet, global managing director, strategic IT effectiveness at Accenture, who has managed several large-scale integrations. Vital information on the target company’s supplier relationships, channel partners, customers, and customer behaviour, are also restricted during this process.
Although this is not uncommon it is unfortunate, since it is the detail that is critical in achieving the hoped-for synergies at an infrastructure level.
| “Unless you dig into the detail, something at 10,000 feet can look like a good fit, but actually when you look at the detail it’s quite the opposite of a fit,” says Richard Muirhead, chief executive of Tideway Systems, a software company that has helped several major banks, including Wachovia and ING, rationalise their hardware infrastructures. |
In a previous job, Mr Muirhead witnessed first-hand a telecommunications acquisition fail abysmally for exactly this reason: perceived at first to be complementary, the deal in fact pitched two IT teams practically “at war” with one another, he recalls.
Perils of ignorance
A lack of information about a bank’s customer-base, operating environment or channel strategy can also lead to catastrophic decisions regarding infrastructure strategy. McKinsey tells of one US client that acquired a competitor with a substantial geographic overlap, on the uninformed basis that closing 75% of the target company’s branches would yield significant cost savings. But in doing so, the acquirer lost an unusually high proportion of the target company’s heavy branch-going customer base, which not only rendered the deal unprofitable but also exposed the merged entity to a takeover. Although infrequent, mistakes of this magnitude illustrate just how tricky it can be to devise a successful infrastructure strategy, even under favourable market conditions.
Amid the turmoil there has been little time to undertake the due diligence normally necessary, and in some cases little or no thought has been given to the practicalities of the resulting operational infrastructure – particularly when dealing with multinational banks. If there is one banking IT team for whom the urgency and politicisation of the crisis has made heavy work, it is that of the beleaguered Fortis Group, which was broken up and part-nationalised in October. Formed through the merger of three entities that spread the group’s operations across the Benelux region, Fortis Group was still building a cross-border, uniform retail banking platform when the decision to integrate parts of ABN AMRO was taken.
The IT teams had to incorporate the ABN AMRO operations into the new cross-border platform, says a source close to the matter. Then, in October, when Fortis looked set to topple over, the Dutch government took the opportunity to reclaim and nationalise all the bank’s Dutch operations in a surprise move that has left the majority of the group’s Belgian assets open to a potential acquisition by BNP Paribas. In doing so, the Dutch government has effectively alienated the Dutch bank from its retail banking IT infrastructure.
All the expertise on how to develop and run the retail platform is located in Belgium, reports the source, meaning the Dutch government is fully dependent on Fortis Bank Belgium IT for the Dutch bank’s retail application. Pending a shareholder vote on February 11, the final decision to officially separate the Dutch and Belgian operations will force the Dutch bank to build a new IT organisation for its retail platform.
Fortis says it is unable to comment on its IT operations until the final break-up of the bank is resolved.
Integration challenges
In many respects, however, this could be a blessing in disguise. It is often easier to start from scratch than to overhaul the accumulated IT mess of years gone by, especially when operating at a huge scale. Take what will be one of the biggest mergers of all time: Lloyds TSB and HBOS. Even seasoned banking integration experts are agog at the challenges such a vast integration will entail.
The merged entity, now known as Lloyds Banking Group, is the biggest retail banking group in the UK, boasting a combined workforce of 145,000, some 3000 branches, and multiple subsidiaries and brands. These comprise the demutualised Halifax building society, the Bank of Scotland, former building society Birmingham Midshires, specialist mortgage provider Intelligent Finance, upmarket asset management division St James Place, pensions and investment company Clerical Medical, as well as smaller and lesser known subsidiaries, such as property surveying firm Colleys and online insurer Sheila’s Wheels.
Lloyds TSB, meanwhile, has not yet fully digested the last crumbs of the respective Lloyds Bank and Trust Savings Bank entities, merged in 1995. “Even now they haven’t really tightly integrated the TSB business into Lloyds, to a large extent they were running them with separate businesses,” says Likhit Wagle, banking industry leader in north-east Europe at IBM’s Global Business Services.
It is likely HBOS plans to sell off some of its subsidiaries, but the newly merged entity would still represent one of the biggest integration challenges in the history of commerce. Most experts agree that there is no physical limit at which the scale of a merger makes it impossible to execute. In fact, the larger the combined scale of the organisation, the easier it should be in theory to drive out efficiencies. Where any merger is concerned, however, absolute clarity of financial goals is critical, says Mr Morlet. “What synergies are you trying to capture and what new revenue are you hoping to deliver and in what time-frame?” he adds.
Planning for synergies
Lloyds Banking Group made these financial goals clear to its fretful investors, when it declared in early November that it plans to make an ambitious £1.5bn ($2.12bn) in cost savings. If the bank is to reach this target, it will have to dramatically rationalise its common infrastructure, including telecommunications, networks, desktops and data centres. Lloyds Banking Group declined to comment on its integration strategy. The Banker has learnt from a senior IT manager within the new entity, however, that the group, which has been feverishly organising IT workshops in preparation for the merger, is acting quickly and hopes to gain the chief synergies within about six months.
But the bank may run into difficulties at the bottom of the hardware stack when attempting to rationalise its data centres, says another source. The Banker understands that neither Lloyds nor HBOS has any major London-based data centre, with the two main sites located in the UK’s Peterborough and Yorkshire areas respectively. Running a single corporate data centre costs upwards of about £10m a year, so consolidating multiple centres in one main location could yield major cost savings. But the scale of the operation could restrict the group’s choice of location and the completeness of the consolidation, due to the heavy demands on floor space, energy and the telecommunications infrastructure required to support it.
Clarity needed
The overall application-level strategy will involve moving largely to the Lloyds TSB operating model and infrastructure platform, although some exceptions on certain applications may be made, The Banker understands. Resisting the temptation to ‘cherry-pick’ from the merged pool of systems to create a best-of-breed rag-bag is critical, warns Mr Wagle. “Businesses think it helps them in terms of achieving longer-term benefits, but in reality it doesn’t synch up quite as well as it should.”
The language of consensus that this approach demands also tends to accentuate the uncertainty and ambiguity that is common in such environments. “This tends to be very damaging to the medium- to long-term success. If you have a very clear view of what you are going to do and how you’re going to do it, over the medium to long term it tends to produce much better results,” he adds.
In what has come as a surprise to some, a number of Lloyds TSB managers have been replaced by HBOS executives, a move that could increase the ratio of HBOS applications taken into the new organisation. It is unlikely these executives will be indulged to any great extent however, given that Lloyds Banking Group has hired integration guru Mark Fisher as its new head of group IT operations.
The esteemed RBS executive director, responsible for what is generally regarded as the successful integration of NatWest with RBS, is extremely “strict” regarding the target operating model, according to a former colleague who worked on the NatWest integration. In the case of NatWest, the source recalls, Mr Fisher’s team effectively threw away the bank’s sophisticated core banking system, despite its superior functionality, in favour of a disciplined migration onto the target RBS core platform.
Brutal as this might sound, the strategy of migrating directly onto the acquirer’s platform with minimal discussion yields proven success stories. Take Santander, for example. When the Spanish bank entered the UK market via its acquisition of Abbey National, its unerring operational target became the migration of the Abbey environment on to its core banking system Partenon.
To this end, the bank spent two years assessing how the platform, which it had already deployed in Spain, Portugal and South America, could be adapted to the UK market. “We decided that it could be adapted, and once we decided that the final point was quite clear,” says Juan Olaizola, an executive director at Santander who was responsible for the integration of Abbey into the group. Although Santander had to make a significant investment upgrading Abbey’s infrastructure in order to execute the successful migration, the platform provided the clarity of purpose so often lacking in failed mergers.
A single entity
For this reason, Santander intends for its three acquired UK entities – Abbey, A&L and the Bradford & Bingley savings business and branch network – to become a single UK entity on the Partenon platform. The bank has already migrated 30 Bradford & Bingley branches onto the system, says Mr Oaizola.
“In these branches you can buy Abbey products and by April/May every branch will have a Partenon terminal. By the middle of the year we intend to migrate all customers onto the Partenon platform, and from that point we will start to make all of the Abbey products available through Bradford & Bingley branches,” he says. In the case of A&L which, unlike Bradford & Bingley, was acquired as a fully fledged bank, Santander is still assessing the migration plan. Because the A&L channel strategy is far less branch-dependent than Abbey, with a greater emphasis on remote channels, the integration will see the incorporation of more systems and will therefore be more complex.
Like Santander, many banks are only just beginning to visualise the task ahead; staff shortages and continuing market uncertainty will only compound the challenge. Banks will have to fix their eyes on the prize and execute quickly if they are not to join McKinsey’s gallery of M&A disappointments.
