Technology is increasingly becoming a big part of mergers and acquisitions, and having a clear view of the target operations model is paramount, says Heather McKenzie.

By 2018, a mere 10 western European banks will manage 80% of continental Europe’s financial services business, according to financial services consultancy TowerGroup – a dramatic fall from the 200 to 300 banks that currently manage such volumes. “Margins in the financial services industry are now so low that the only way for financial institutions to survive is to improve economies of scale,” says Ralph Silva, senior analyst, European banking and payments at TowerGroup. “The subprime crisis will also drive banks to specialise in their core functions – those strong in investment banking will acquire other investment banks but will divest non-core activities such as retail credit cards.”

The accepted way to improve economies of scale is through mergers and acquisitions (M&A). For TowerGroup’s predictions to be played out, the next decade will be characterised by M&A activity in the financial services sector. Much will be cross-border deals, eased by EU legislation to create a single financial services market.

Breaking borders

“The elements that, in the past, made cross-border financial services difficult are disappearing,” says Simon Bailey, payments director, global financial services at LogicaCMG. “In Europe, the introduction of a common currency has eased the process of financial services mergers and acquisitions. Also, initiatives such as Swift, XML, RosettaNet, Twist, Continuous Linked Settlement (CLS), Real-Time Gross Settlement (RTGS), Target2 and Basel II have made conditions the same for everyone, and this has helped. Technology itself – service-oriented architecture (SOA), intellectual property networks and Web 2.0 have added to the general trend.”

Speak to anyone about M&A in the banking industry in Europe, and Spain’s Santander Group will be mentioned in glowing terms. Santander has made numerous acquisitions in Latin America, the US and Europe. Announced in July 2004, its acquisition of the UK’s Abbey National was one of the largest cross-border European bank mergers, valued at between £8.5bn ($16.7bn) and £8.9bn, creating a bank with market capitalisation of about $62bn – at the time, the world’s 10th largest bank. More recently, the bank joined a consortium with Royal Bank of Scotland (RBS) and Fortis to acquire ABN AMRO. As part of the deal, Santander acquired ABN AMRO’s Brazilian subsidiary, Banco Real, and Italian subsidiary Banca Antonveneta, which it subsequently sold to Monte dei Paschi di Siena.

At a presentation to investors in Spain last September, Santander outlined the progress of the Abbey deal to date, quoting 5% revenue growth in 2006 and 7.8% growth in the first half of 2007; improvements in the cost-to-income ratio from 70% in 2004 to 50.4% in the first half of 2007 (and a target of 45% for 2008); and the achievement of acquisition cost synergies of €300m by the first half of 2007.

One of the key elements in Santander’s success in implementing its non-organic growth policy, says chief information officer José Maria Fuster, is its technology management model, a clear and sustainable competitive advantage against other global banks. “The model enables the quick integration of acquired companies, together with the creation of significant synergies both on costs and revenues.”

Acquisition assistance

Whereas for some financial institutions technology has proved an obstacle when it comes to post-merger integration, this was not the case with Abbey. “Our technology was never an obstacle in the decision process of the Abbey acquisition. Quite the opposite. From the start, we were fully confident that Partenón would facilitate the bank’s integration in the group, as well as generate synergies that would allow us to rapidly transfer our proven expertise in financial products and services to the UK, thus exporting our way of doing banking.”

Partenón is Santander Group’s main technology platform. By 2010, Santander hopes to have achieved a single technological platform globally by converging Partenón in Europe with the Altair platform in Latin America. The global platform will be known as Alhambra, supported by IT development centres in Madrid and Chile. Four regional IT operating centres will be run in Brazil, Mexico, Spain and the UK.

Small world

“With our state-of-the-art technology, we are confident we can extract the most from globality,” says Mr Fuster. “Partenón is currently operating in a broad number of countries, enabling us to share best practices, processes and resources against the backdrop of a cross-border model, thus positively impacting on our cost structure and our revenue generation capacities.”

Santander also has something extra, says Mr Bailey. “It is not easy to do M&A across borders, but the successful banks have been large, technology-driven and ruthless. Santander believes the ‘bank in a box’ replicability it gets with Partenón gives it an advantage and it has no qualms in absorbing acquired entities into this common infrastructure. Partenón is an enabler for rapid acquisition and the improvements in efficiency of the acquired entities.”

Likhit Wagle, banking industry leader for north-east Europe at IBM Global Business Services, says banks need a clear view of the target operating model and the systems that will support it. “Santander and UniCredito didn’t have any discussions with the target company about what would happen post-merger – they were very clear about the platforms that would be used and the integration was done in a very accelerated way.”

Banks without a clear view of their target operations model will become embroiled in lengthy discussions, says Mr Wagle, and end up with “a beggar’s model”, unwieldy and full of compromises, which takes a long time to get to. “Such models are generally like spaghetti; they don’t deliver benefits and the governance is difficult. Making any subsequent changes is also very difficult.”

Technology is definitely part of the M&A process, says Mr Bailey, and in some respects is key because it allows for a comparison of cost and income ratios across geographies. “Long-held truths that certain activities cost more in certain countries are being eroded by standards, regulations and technology. A ruthless approach is needed to execute the integration required to deliver the promised economic benefits of M&A. If an acquiring bank listens to arguments such as ‘we do things differently’ it can end up running multiple infrastructures for years because it is politically too difficult to change.”

Axel Pierron, Paris-based senior analyst at consultancy Celent, says a majority of the banks that acquired institutions in emerging markets did not immediately implement standards or try to harmonise processes. “These banks are only now trying to get economies of scale in the back office – it has been done on a mid-term basis.” IT can help banks achieve economies of scale in a cross-border merger, but there are challenges. “IT can be very specific to the type of bank or the market in which it operates, as well as the business vertical that it is involved in,” says Mr Pierron. “Differing consumer protection legislation across Europe makes it difficult to merge IT systems for consumer credit or mortgage applications. This all means that the ability to get economies of scale are limited.”

Yet, the Santander acquisition of Abbey proved that IT could be a “huge facilitator”, says Mr Pierron. “Santander was able to convince investors that they would create substantial synergies and savings by moving Abbey’s core banking system on to the Santander platform.”

Low priority

Despite the obvious contribution IT can make to M&A, it is low on the priority list when a merger or acquisition is considered, says Mr Silva. “Sometimes technology is never considered and the ability to run the two institutions’ systems and operations separately becomes the default position. Yet I believe that the next generation of senior managers may well start merger discussions based on technology. These people have come through the ranks in an environment where margins and economies of scale are critical; 10 or 15 years ago bankers weren’t that concerned about economies of scale. The current environment is promoting cross-border mergers.”

Paying more attention to technology during an acquisition may already be starting, with RBS reportedly attracted to the (largely technology-based) transaction banking capabilities of ABN AMRO. “Technology is definitely a part of the M&A process,” says Mr Haragopal, vice-president and business head, Finacle, Infosys Technologies. But he cautions that technology is the means and not the end; it does not drive M&A but a robust platform can offer seamless integration through which costs can be reduced, processing volumes increased and management controls improved.

Synergies and savings

Mr Wagle says while IT can deliver a great deal of savings during a M&A deal, not enough attention is paid to where the synergies and savings are. “When Barclays was bidding for ABN AMRO, it forecast $3.5bn of synergies, of which $1.75bn were to come from IT – a significant portion. During a merger, between 30% and 50% of synergies will come from IT-related activities, mainly as a result of removing duplications. However, many of these numbers come from a top-down analysis, without sufficient attention paid to exactly where the savings will come from and what barriers there may be. Not enough effort is given to planning and preparation for dealing with the barriers, such as local regulations that may prevent full IT integration.”

Mr Pierron says very often a bank only discovers the real economies of scale that can be generated after it has made the acquisition. Service-oriented architecture (SOA) makes it easier to plug in new acquisitions or make divestments, says Mr Wagle. SOA is a component-based approach that enables financial institutions to re-engineer core systems without having to “rip out and replace” technology. Under SOA, business rules govern how the IT infrastructure responds to demands. The most commonly used word to describe the benefits is ‘agility’ – financial institutions can respond more quickly to changing customer demands, regulatory requirements or cost drivers.

Geoff Round, UK director for financial services and insurance at software developer Ilog, says SOA plays a “crucial role” in M&A. “In cross-border mergers in the past, banks would have had to run separate systems for different countries and would therefore not be able to leverage very significant cost savings,” he says. “SOA makes it easier for banks to incorporate different systems into the one platform, thus gaining greater returns on the M&A.”

Integration delay

Mr Bailey says SOA is an enabler in M&A, but “not many banks have implemented such systems”. Integration of systems post-merger can take quite some time, says Mr Bailey, and in the meantime “the real world continues to move on”. A bank has to be able to integrate the systems of the acquired bank while also meeting new business needs and ensuring compliance with new regulations.

The process of merging with or acquiring another bank often raises questions about IT strategy, for example which technology should be used, should everything be thrown out and replaced with a new system, or should systems be outsourced to a third party? Mr Silva says a merger can present “the perfect opportunity for an outsourcing deal”. He adds: “Why not put together an outsourcing proposal during the merger process that can be funded through the capital costs of the merger? A third party is a politically safe option – the vast majority of post-merger integration projects fail because of politics. Often the acquiring bank will believe its technology is superior, whether it is or not. A third party can be objective.”

Mr Bailey says: “Among the most difficult decisions to make during a post-merger integration are where to stop. Everyone has reasons why their IT project should not be finished. This requires getting into the plumbing of operations and IT and few like others wading around in that.”

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