Danske Bank

Danske Bank's successful DKr20bn rights issue this year highlighted the chasm between the larger and smaller banks

Danish banks are coming under increasing pressure to consolidate their fragmented sector. But debate rages over whether bigger really is better, and the jury is still out on the advisability of merging in unsettled times.

It takes a brave financial regulator to wade into the morass of bank ownership reform. But that’s exactly what Ulrik Nødgaard, director-general of the Danish Financial Supervisory Authority (FSA), did earlier this year, when he called on Denmark’s banks to get out of their ruts and speed up the consolidation process of the country’s fragmented banking sector.

Despite the serial upheavals of the still-unfolding financial crisis, bankers remain a territorially conservative bunch and Mr Nødgaard’s foray into this sensitive arena drew a furious response – particularly from those smaller banks that have weathered the storm.

Finansforbundet, the finance sector trade union, said in a withering comment that bank consolidation was best discussed behind closed doors and not in the public arena.

But Mr Nødgaard is not backing down. “We would welcome consolidation in the sector,” he told The Banker. “We acknowledge that a large number of smaller, conservatively operated banks have steered through the crisis very ably. But from a business management perspective it is puzzling that more mergers are not taking place.” The man from the FSA also has a keen eye for the future evolution of the sector: “We encourage banks to consider getting together with others in order to make ready for future challenges,” he says.

Crowded house

For decades, international pundits have tagged Denmark as 'overbanked'. The country of just 5.6 million residents has some 148 banks with about 45,000 employees. In contrast, the UK, whose population is more than 10 times larger, gets by with just over twice as many banks, and of course, it has a much bigger global investment banking hub in the City of London.

In addition to the operational synergies and economies of scale which banking analysts say are there for the taking, the financial crisis itself has produced a new rationale for merger and acquisition (M&A) activity: a clutch of banks, including Roskilde Bank, EBH Bank and Amagerbanken, the country’s fifth largest listed lender, have failed and been subsumed temporarily by the state’s bailout unit, the Financial Stability Company. Its task is to shore them up and sell whatever remains viable as going concerns.

Amagerbanken’s failure in February, mainly on losses from currency speculation and property portfolios, marked the eighth Danish bank collapse since 2008. Because it was also the first bank to hit trouble after the expiry of the state blanket guarantee for depositors and senior debt holders, both groups were made to shoulder losses. This was in sharp contrast to what happened in Ireland – a comparably sized economy – where senior debt holders and depositors were spared the pain. Indeed, as the Financial Stability Company’s chairman Henning Kruse Petersen points out, Amagerbanken was the first bank failure in western Europe where depositors lost money.

Amagerbanken wrote down DKr3.14bn ($598m) in the quarter before it sought bankruptcy protection, as well as previously incurred debts of DKr2.99bn. These losses (some 41%) for creditors and depositors clearly rattled the market. But the assumed corollary – that smaller banks would be forced into mergers because international investors would be reluctant to lend them money – has not yet emerged as a significant trend. This partly explains Mr Nødgaard’s eagerness for greater M&A activity, but not the continued dogged independence of so many small Danish banks.

Reluctance rationale

Jan Kondrup, director of Denmark's Association of Local Banks, Savings Banks and Co-operative Banks, is weary of pressures to merge. “Just take a look at what sort of people are saying over and over that it would be great with fewer banks in Denmark. Corporate finance people are among them and they make their living from restructuring companies,” he says.

A more nuanced picture of the real situation would be had by listening to the small banks themselves, which are not at all convinced that bigger is better, he adds. Mr Kondrup, whose association has 92 banks as members, refutes the suggestion that executives of these small banks put their own interests and jobs above the interests of their shareholders. “Regardless of whether a bank is big or small, a responsible chief executive will do his utmost for the company, its employees and its interests. Should an executive do otherwise, they’re finished. And we have seen several examples of this during the financial crisis,” he says.

There are numerous examples of major international banks having difficulty in meeting the strictures of new regulatory regimes, such as the Basel III rules, he says. “But I have not yet seen any definitive proof that bigger is an automatic advantage. It is just another agenda which can be a self-fulfilling prophecy if repeated often enough,” he adds.

The local banks’ champion’s views are echoed by Bjarne Jensen, Denmark’s leading independent banking consultant. Size is not the determining factor of success or failure, he says. “Look at RBS, look at Barings. Is a society and a banking system more stable because entities are larger?” he asks.

Bank sector stability in a country such as Denmark, Mr Jensen says, is linked to capital reserves, the customer base and the risk profile of individual banks. That said, the challenges facing Denmark’s undergrowth of smaller banks has magnified considerably in recent years. The unrest generated by the financial crisis has added a cumbersome new layer of paperwork. “Reporting and documenting requirements have increased and banks must also take cognizance of extra consumer protection and investor protection measures,” he says.

No easy task

This suggests that smaller banks could quite usefully sell out to large international operations. But here again, Mr Jensen sounds a note of caution. “The small banks are simply too small, there are far too few people in Denmark to make any of them an interesting proposition for a foreign investor,” he says. Besides the size barrier, impediments include everyday difficulties of language and local knowledge, he adds.

Likewise, Mr Kondrup acknowledges that the administrative burden can be difficult to bear for small banks. But his association helps with easing in new measures and overseeing resource-pooling by independent banks. And like Mr Jensen, he stresses the importance of local knowledge. Denmark’s corporate make-up is characterised by a thick undergrowth of small and medium-sized enterprises. “Our smaller banks are a perfect match in terms of competence and size. Local acumen is critical, these banks understand their customers and their conditions,” he adds.

Against this background, Mr Jensen argues that consolidation in Denmark must be a bottom-up process, driven by local logic rather than an overriding conviction that bigger is better. This view resonates elsewhere. Claus Sejling, chief executive of Sparekassen Faaborg, based on the island of Funen and one of Denmark’s oldest savings banks, points out that the three banks that were taken over by the Financial Stability Company were among Denmark’s 10 largest. “I refuse to believe that a wave of consolidation in the sector will be triggered by poor accounts and a lack of funding on the part of the small institutions,” he says.

But that is not to say that mergers in the lower rung have not and cannot occur. Last year, Sparekassen Faaborg and Svendborg Sparkasse, a local competitor, started talks which culminated in March 2011 with a decision to merge and create the region’s largest independent banking entity – Bank Fyn. As there was no overlap between branch networks, and the pair used the same data platform, the logic was obvious. “Our aim is not to create a big bank per se, but a bank that is sufficiently large to attract more customers and shareholders across Funen,” Mr Sejling says.

Consolidation support

However, there is still a chorus of voices seeking accelerated consolidation, plus the perplexity of those who had thought the failures of Roskilde Bank, Amagerbanken and others would spark an M&A whirlwind.

“It’s not as if mergers are not happening. We’ve seen five to 10 annually in recent years, including 2011. But the financial crisis clouded the risks substantially and this helped make bank boards of management more reluctant. However, we are now so far removed from the autumn of 2008 [when the crisis peaked in Denmark] that any risks are better understood,” said the FSA’s Mr Nødgaard.

There have been nine mergers between smaller Danish banks so far this year, including the unions of Finansbanken with Sparekassen Lolland, Agri-Egns with Sparekassen Djursland, and Skælskør Bank with Max Bank.

Some observers see the dual cocktail of increased reporting requirements and difficulties in raising capital as a direct threat to the bulk of the banks in Denmark’s lower tier. The underlying rationale here is that the inability of these banks to meet the needs of their retail and SME customers would drive the banks into marriages of convenience to survive. “The big question is how the sector will manage consolidation should some banks say they won’t touch others with a 40-foot pole unless they have been through the Financial Stability [Company] system,” Professor Ken L Brachmann, of Copenhagen Business School, told the Danish financial daily newspaper Børsen.

A sharp reminder

The collapse of Amagerbanken marked a watershed in the consolidation process. In addition to the shock of such a venerable institution (it was founded in 1903) going to the wall, the realisation that bondholders and depositors could take a hit as well as shareholders was a sharp reminder of the difficult times we live in.

Safety and particularly securing long-term funding immediately became the touchstone of Danish banking. Danske Bank, the country’s largest locally headquartered bank, successfully raised DKr20bn in a fully subscribed rights issue in April this year. But the success of this supplementary issue, which was undertaken to repay a loan from the Danish state drawn down at the height of the financial crisis, also underlined the trading conditions chasm between the big players and the small ones. According to some industry insiders, other Danish banks have struggled to attract senior funding on the international market since Danske Bank’s issuance.

Insiders say that smaller banks have turned their attention to Denmark’s well-upholstered pension funds in the hope of raising some capital via corporate bonds. But successes have yet to be reported. As well as fearing the fallout of possible interest rate rises, the pension funds appear perturbed by the very size of their suitors: some banks in Denmark, it would appear, are simply too small to bother with, even for Danish pension funds. The potential returns would be outweighed by the effort involved in achieving them.

Sluggishness on the borrowing front has nonetheless been accompanied by the first green shoots of foreign advances into the market. In March, US behemoth Citigroup signalled a new push for business into Denmark by hiring Per-Henrik Lewander, a leading Royal Bank of Scotland banker. Mr Lewander’s hire was made on the expectation of Danish banking consolidation and came shortly after a similar move by Bank of America Merrill Lynch – for similar reasons.

And should the latest macroeconomic trends persist, other banking M&A specialists might well wash up on Denmark’s shores. Denmark’s economic recovery, according to Danske Markets, Danske Bank’s research unit, has gained a firm footing. Unemployment is falling and private consumption, as well as exports, are on the increase. Gross domestic product is set to expand by 2% this year and though this is significantly less than in Sweden – Europe’s fastest-growing economy – it is still a credible performance on a pan-European scale.

It might also be sufficiently promising to tempt foreign banks back into the market, or encourage more purely local get-togethers.


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