Merger Mania Could Produce Unsound Deals

Consolidation is supposed to be good for what ails the banking industry, but some experts are beginning to worry that banks could rush pell-mell into mergers that are driven more by emotion than reason.

"There certainly is a lemming instinct on the part of bankers, and that clearly applies to bank mergers and acquisitions," said Reid Nagle, president of SNL Securities in Charlottesville, Va.

Conventional wisdom holds that the current wave of mergers is necessary to rationalize an industry plagued by overcapacity, poor profitability, and deteriorating asset quality.

Indeed, the stunning string of merger announcements in recent weeks has generally been well received. But there is an underlying fear that the current climate could get overheated and produce deals driven by less compelling logic.

Mindless Merging Feared

"There's always the risk that people will do deals for the sake of doing deals," said Christopher Mahoney, a banking industry analyst at Moody's Investors Service.

Moreover, consolidation doesn't directly address the problem of overcapacity, which is characterized by "too much funds chasing too few assets," said David Cates, chairman of Ferguson & Co., a Washington consulting firm.

He acknowledged, though, that potential cost savings from in-market mergers would indirectly alleviate the industry's overcapacity problems by "diminishing the cost of funds looking for assets."

Winners and Losers

For that reason, Mr. Cates applauds the planned combination of BankAmerica Corp. and Security Pacific Corp. on the West Coast, and of Chemical Banking Corp. and Manufacturers Hanover Corp. on the East Coast. He is less enthusiastic about NCNB Corp.'s pending merger with C&S Sovran Corp., where there are less efficiencies to be achieved.

Still, there are some in-market bank mergers Mr. Cates hopes he doesn't see.

"I think Wells and First Interstate would be difficult to put together," he said, in part because their respective cultures are so different.

He is similarly unenthusiastic about a possible combination of First Chicago Corp. and Continental Bank Corp., noting an "intense historic rivalry and culture clash."

While most industry experts do not yet see signs that merger mania has gripped the banking industry, the possibility of its happening is very real in their minds.

Just as the leveraged buyout market turned flaky in the late 1980s, the same thing could happen with bank mergers, they say.

"The thing to look for is a large number of out-of-market acquisitions by banks that are unproven and untested in managing significant consolidations," says SNL's Mr. Nagle.

"I think there is a danger of this [merger] momentum appealing to the imperial instinct of a lot of bank CEOs," whose "dreams of glory" are being aided and abetted by fee-hungry investment bankers, said Mr. Cates.

"Bankers have always had an inordinate preoccupation with size over profitability," observed Edward Furash, a banking consultant in Washington, D.C.

Unfortunately, the biggest United States banks have not tended to be particularly profitable, Mr. Furash lamented.

As a result, industry experts worry that top bank management may not be up to the job of successfully running the behemoths they are creating.

"It's a very real risk," said Mr. Mahoney at Moody's, though today's sophisticated mangement information systems lessens his concern.

A Lingering Risk

"The risk of total loss of control that we used to see in certain institutions is much lower, but it's still there," Mr. Mahoney added.

Part of the rationale for the megamergers is the need to create U.S. banks of a scale to compete globally with their larger foreign counterparts.

In an ironic twist, though, Mr. Cates thinks U.S. banks are becoming so distracted by the merger wave, that they risk losing business here at home to their foreign rivals.

Union Bank of Switzerland, Canadian Imperial Bank of Commerce and Swiss Bank Corp., for example, are "all very competitive and I imagine they see a good advantage here," Mr. Cates said.

Eyes Not on the Ball

Moody's Mr. Mahoney agreed that the mergers are distracting U.S. banks.

"But part of banking," he said," is a focus on cost, and one benefit of mergers is that it is a one-time opportunity to be ruthless."

It will take more than just cost-cutting, though, to make these mergers work.

"It's not the financial deal - cost cutting - it's creating a reason for the business to exist, and for the customer to do business with the bank," said Mr. Furash.

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