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Mega-mergers in the US banking industrySaid Elfakhani a , Rita F. Ghantous a & Imad Baalbaki ba School of Business, American University of Beirut, P.O. Box 11-0239, Beirut, Lebanonb P.O. Box 11-0239, Beirut, LebanonPublished online: 07 Oct 2010.
To cite this article: Said Elfakhani , Rita F. Ghantous & Imad Baalbaki (2003) Mega-mergers in the US banking industry,Applied Financial Economics, 13:8, 609-622, DOI: 10.1080/0960310032000050669
To link to this article: http://dx.doi.org/10.1080/0960310032000050669
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Mega-mergers in the US banking industry
SAID ELFAKHANI*, RITA F. GHANTOUS{ andIMAD BAALBAKI}
{ School of Business, American University of Beirut,}P.O. Box 11-0239, Beirut, Lebanon
Historically, financial markets have witnessed several consolidation trends. The year1998, however, surpassed them all in volume and size of individual deals. This paperutilizes the event study approach to analyse the mega-mergers that took place in thebanking industry during 1998, namely that of Travelers Group with Citicorp,NationsBank with BankAmerica, and Bank One with First Chicago NBD. A testof daily abnormal returns is conducted to find out the impact of each of the threemergers on shareholders’ wealth from both the acquired and acquirer’s perspective.The results obtained indicate that the market’s reaction was positive during theon-event sub-period (i.e. days 0 and 1) for both the acquired and acquirer in theTravelers–Citicorp merger; only for the acquirer in the NationsBank–BankAmericadeal, and for the acquired firm in the case of Bank One–First Chicago NBD merger.
I . INTRODUCTION
The year 1998 has been often described in the media as the
year of the mega-mergers. Over the past several decades,
merger activities came in waves and for varying reasons,
but none came close, in terms of both total volume of deals
and size of companies involved, to the merger mania that
prevailed in 1998. This American merger frenzy also
touched the majority of European markets and, to a certain
extent, Asian markets. Giant companies mushroomed all
over the globe, racing with each other in order to remain
key players in a world where the dominant rule is survival
of the fittest.
Merger activities are not new phenomena. Copeland et al.
(1995) record two major merger waves in the US banking
industry, the first in the mid-1960s and the second in the
late 1980s extending until now. The 1980s, however,
marked the beginning of mega-mergers, in which merging
banks have assets of more than one billion dollars
(Akhavein et al., 1997). Since then, merger waves have
been on the increase. For instance, from 1983 to 1994 the
number of mergers was 3100 averaging 256 mergers per
year (Spiegel et al., 1996). In 1998, total merger activity
approached $1.8 trillion in the USA alone, amounting to
more than twice the 1996 figures and to a 50% increase on
1997, itself a record year.1 Obviously, the numbers speak
for themselves as to why 1998 was classified as the year of
mega-mergers.
Many reasons were behind this sudden strong urge to
merge. First, there has been an oversupply of financial
capital not readily used in almost all industries (e.g. there
were too many banks, too many airline companies, too
many gas stations, etc.).
Second, most mergers in the 1990s were friendly, thus
encouraging more mergers.2
Third, many feel that lots of mergers are rushed and
involve hasty negotiations with little planning and little
focus on the execution of integration of the merging
firms. Lee (1998) argues that bank managers, for example,
lacked the necessary experience and skills to conduct pre-
merger due diligence and to complete post-merger
integration and cost-cutting, which are necessary con-
ditions to consummate a successful merger. The reasons
advanced by managers to justify such rushed negotiations
include avoiding inevitable conflicts between competing
managers, gaining first mover advantages, and avoiding
Applied Financial Economics ISSN 0960–3107 print/ISSN 1466–4305 online # 2003 Taylor & Francis Ltdhttp://www.tandf.co.uk/journals
DOI: 10.1080/0960310032000050669
Applied Financial Economics, 2003, 13, 609–622
609
*Corresponding author.1 ‘How to Merge: After the Deal’, The Economist, 9 January 1999, pp. 19–20.2 ‘How to Merge: After the Deal’, The Economist, 9 January 1999, p. 19.
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build-up of resentment among employees of the merging
entities.
Fourth, mergers are too often being used as a strategy.
For example, Spiegel et al. (1996) find that very few mer-
gers in the 1980s achieved the declared cost-cutting and
profit-building goals. This conclusion was supported by
Santomero (1999) who finds that bank managers’ attention
was mostly directed to the merger itself rather than the real
action of cost-cutting. Also, Spiegel et al. (1996) noted that
there are players who believe that size and scale are critical
for survival and success and thus undertake consolidation.
Equally interested are those who fear hostile takeovers or
of being left behind as others become bigger and more
powerful. This herd behaviour was also discussed by
Milbourn et al. (1999). They argue that managers attempt
to enhance their reputation by increasing the size and scope
of their banks although their actions may yield some dis-
sipation in shareholder wealth.
Fifth, there has been a shift in payment methods. For
instance, the merger boom of 1998 was, according to J.P.
Morgan, stock-driven, i.e. acquired firms were accepting
stock offers more often than cash. In fact, according to
Colvin (1999), stocks accounted for 67% of the value of
the deals as opposed to 7% in 1988, by far the highest level
ever in a decade.
Sixth, globalization represented by the decrease in trade
barriers, taxes and fees, higher mobility of funds, and the
wealth of information available to investors worldwide and
the resulting increased international competition is spuring
further consolidations.3
Finally, there is a developing trend to form one-stop
financial supermarkets that offer consumers all financial
services from insurance to banking and brokerage.4 As a
driver to this trend, Dunkin (1998) argues that merging
institutions want to take advantage of cross-selling,
where insurers sell mutual funds, brokers sell mortgages,
and bankers sell stocks, all on behalf of the same financial
institution.
This paper focuses on examining mergers activities in
the US banking industry, which formed a major share
of 1998 mergers. Using the event study approach, the
results show that the cumulative abnormal returns (CAR)
are significant (at the 5% level) over the on-event period
for both shareholders of the acquired and acquirer in the
Travelers–Citicorp merger, and for shareholders of the
acquirer only in the NationsBank–BankAmerica merger,
while none were significant in the Bank One–First
Chicago NBD merger (with the scale was in favour of
the acquired firm). With regard to the overall event
period, only Citicorp shareholders benefited from theTravelers–Citicorp merger. Based on these findings, it isobvious that there is no uniform market reaction tomerger announcements; thus, each merger stands on itsown merits and should be examined as such. However,despite the fact that we were looking at individualmega-merger events, one should be careful whengeneralizing the conclusions of this paper, given the limitedsample size of only three merger cases.The paper proceeds as follows. Section II presents a his-
torical perspective of US banking mergers, their majorcauses and consequences, and the major factors deter-mining their failure or success. Section III introducesdetails of the three selected mergers that occurred in1998. The Travelers Group–Citicorp merger broke the his-torical record in terms of deal size, and remained on top fora period of eight months until the announcement of aneven larger merger. The other two mergers studied arethose of NationsBank with BankAmerica and Bank Onewith First Chicago NBD. The results of a test conducted tofind out the impact of each of the three mergers on share-holder wealth are also presented in Section III with poss-ible interpretation. Finally, Section IV summarizes themajor conclusions of this paper.
II . HIGHLIGHTS OF BANK MERGERS INTHE US
Factors behind bank mergers
The US banking industry has undergone a number of mer-ger waves of varying intensity, and the reasons abound.Banking analysts agree, however, that increasing competi-tion, deregulation, technological advancements, bank fail-ures, cost savings, and the desire to form one-stop financialcentres are among the major factors driving the continuingconsolidation trend.
For most of this century, regulations controlled alldecisions from product, to pricing, place and promotion.What complicates the situation even more is that bankswere restricted from merging by special regulations thatare scattered among different and sometimes rival agenciesincluding: The Federal Reserve, The Treasury Department,The Office Thrift Supervision, The Federal DepositInsurance Corporation, The National Credit UnionAdministration, Banking Commissioners, The JusticeDepartment, and The Federal Trade Commission (formore details on this issue, see Gordon 1998). Further,mergers are governed by several federal and state laws,
610 S. Elfakhani et al.
3 ‘Citicorp Travels Into Corporate Merger History,’ BBC News, 6 April 1998.4 ‘Are Financial M&As Good?’ CNNfn, 7 April 1998.
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making it more difficult to manoeuvre.5 More recently,
the Riegle–Neal Interstate Banking and Branching
Efficiency Act (IBBEA-1994) has marked a major turn-
around point in banks’ striving towards unrestricted
nationwide banking and branching activities. Yet, many
practices are still subject to local and state laws as well as
nationwide reciprocity laws.
The banking industry was characterized as having a frag-
mented and controlled market share, as well as regulated
revenue streams, which provided the context for cost
management. According to McCoy et al. (1994), nonbank
competitors succeeded in providing customers attractive
alternatives to banks’ products and services and they
were capable of achieving a tremendous competitive
success. This competition reduced banks’ market share
tremendously and exerted strong pressure on banks’
profitability. For instance, Koch (1995) reports that the
market share of banks dropped from 34.2% in 1960 to
just 25.2% in 1993; and while in 1975 banks held 36% of
the typical American household financial assets, that level
fell to 17% as of 11 May 1998. In the face of this heigh-
tened competition, Nocera (1998) reports that banks
reacted by merging in order to penetrate new markets
and hence, increase their customer base.
On another front, marketplace forces and the emergence
of nonbank competitors made deregulation inevitable if
banks were to compete actively in the marketplace.
McCoy et al. (1994) argue that deregulation heightened
price competition, and a dramatic increase in banks’ inter-
est expenses that significantly squeezed banks’ profitability.
Therefore, both the industry and regulators agreed that
regulations had to be changed to allow consolidation to
remedy the industry’s fundamental problems.
Another important factor behind the increase in merger
activities is the accelerated advancement in technologies.
Advanced technologies should allow banks to reduce
their operating costs, improve their information systems
and customer profiles so as to promote the cross selling
of additional products and services, and hence, generate
higher profits. Banks that do not intend to incur, or cannot
afford, the expense of investing in or restructuring their
technological infrastructure are likely to become targets
for acquisition. For instance, Lee (1998) argues that
banks that were technologically challenged by the year
2000 problem were particularly targeted for the simple
fact that upgrading their computing systems were prohibi-
tively expensive and that is why they might opt to sell out
(Lee, 1998).
During the 1980s and early 1990s, the banking industry
witnessed more than 100 bank failures on average per year
compared to an average of less than 10 bank failures per
year before that. Facing such an alarming situation, bank
regulators undertook a series of bank deregulations that
aimed at increasing the number of bidders for failing
institutions, thus indirectly boosting mergers and
acquisitions.6 According to McCoy et al. (1994), this
move took advantage of the cost benefits associated with
mergers and acquisitions, such as the distribution of costs
over a larger customer base, cutting costs through
employee layoffs, closing branches and eliminating
redundant jobs, eventually leading to better economies of
scale.
Mergers consequences
In general, mergers are costly, and therefore they should
increase the value of the acquiring bank whenever the con-
solidated bank is able to generate higher earnings or cash
flows relative to historical averages. Nevertheless, pinpoint-
ing the actual consequences of mergers on shareholders’
wealth, bank profitability, customers, and other banks,
remain the subject of differing views between researchers
and practitioners.
The impact of mergers on shareholder wealth is best
viewed from both the acquirer and the acquired sides.
According to Copeland et al. (1995), shareholders of the
acquired companies receive on average a 20% premium
in a friendly takeover and a 35% premium in a hostile
Mega-mergers in the US banking industry 611
5 Antitrust laws (e.g. The Sherman Antitrust Act – 1890) was enacted in reaction to the increase in size and power of large enterprisesin the United States. It aims at prohibiting mergers that would reduce competition, namely mergers that result in the creation ofmonopolies. The Clayton Act of 1914 was passed particularly to prevent mergers from lessening competition (Mueller, 1997). Further,the Celler–Kefauver Amendment (1950) to the Clayton Act extended the definition of mergers’ anti-competitive effects to include verticalacquisitions in addition to horizontal ones, as well as some forms of conglomerate mergers, rendering conditions even tighter for amerger to be approved. Moreover, according to the Bank Merger Act (1960), mergers should receive pre-approval from the bank’sprincipal regulatory agency. Other approvals might be needed from other agencies depending on the type of bank. Moreover, in 1982 and1984, the Reagan Administration relaxed many of the guidelines regarding mergers. The new set of Guidelines departed significantlyfrom previous ones with respect to the issue of merger efficiencies, such that mergers expected to result in economic efficiencies clearlyin excess of anti-competitive effects will go unchallenged. In 1992, the Bush Administration issued another set of Guidelines withmodifications pertaining only to horizontal mergers while previously set concentration thresholds and the efficiency defence remainedintact. Moreover, they listed factors related to market definition and structure and business conduct used beyond concentration andefficiency in deciding whether to challenge a merger or not.6 For example, the passage of the Garn St-Germain Act in 1982 allowed bank holding companies (BHCs) to acquire financially troubledbanks and thrifts across state lines.
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takeover. Krallinger (1998) argues that, in many cases,these premiums reflect an overpayment problem. Whathappens is that too often, acquirers overestimate thegrowth prospects of the target business and the industry,particularly when the target operates in a similar businessor niche market.In addition, shareholders of the acquired company may
accrue other effective enhancements. For instance, theyusually exchange their shares for some combination ofcash, notes, restricted securities, and/or common sharesof the acquirer. However, when the deal consists of astock swap, the selling shareholders receive enhancementsor benefits in the form of higher earnings per share, divi-dends per share, and book value per share of the newshares in the consolidated bank. Other potential benefitsmay include higher marketability of shares, managementteam efficiencies, higher long-term valuation, and possibleprospects that the acquirer might sell out, a situationknown as the ‘double dip.’ According to McCoy et al.(1994), all these enhancements, however, do not accrueunless post-merger projections of cost savings and earningsimprovements do occur as scheduled.On the acquiring side, Copeland et al. (1995) report that
the large premium offered to the acquired often results in adilution of earnings per share causing a decline in the stockvalue of the acquirer’s shareholders. They show that in thecase of friendly mergers, shareholders of acquiring firmsearn small returns that are statistically indifferent fromzero. However, McCoy et al. (1994) argue that wheneverfuture earnings and earnings per share of the consolidatedbank exceed those realized by the separate entities, thestock price of the combined bank will increase, thusfavouring both previous shareholders. In fact, the literaturesuggests that mergers and acquisitions could raise profits toboth parties (acquirer and acquired) in many major ways.They could improve cost efficiency by reducing inputprices, or according to Akhavein et al. (1997), by improv-ing profit efficiency without improving cost efficiency, i.e. ifthe new structure of outputs resulting from the mergerenhances revenues more than costs, or decreases costsmore than revenues. Therefore, in all cases, shareholdersof both parties involved should, theoretically, benefit fromthe merger. Berger et al. (1999) show, however, that therewere some gains from profit efficiency and paymentssystem, but not from cost efficiency. On the other hand,the market power of the merged firm becomes stronger andthe ability to diversify unsystematic risk is higher. Yet,Berger et al. (1999) also observes little improvements inthe services availability and a general increase in systematicrisk associated with more risky, and therefore more costly,leverage. Nonetheless, using a sample of Australian banks,Avkiran (1999) casts some doubt on the efficiency gains(proxied by market share of deposits) of the acquiringfirm following the merger. So, it seems that mega-mergerbenefits are not globally universal.
On another front, in an overview of the results of nine
case studies of large bank mergers that took place in the
early 1990s, Rhoades (1998) demonstrates that five out of
nine mergers displayed, around the announcement date,
stock price increases of the acquiring bank relative to the
market, while four mergers displayed price decreases. In
the case of the target bank, seven out of the nine mergers
for which data were available have displayed increasing
stock prices. Obviously, these findings conflict with other
studies showing a negative reaction to the acquiring firm’s
stock upon the announcement of a merger. Rhoades (1998)
further explains that the selected nine mergers might be of
the type that is most likely to generate efficiency gains,
therefore making them accretive from the market’s point
of view.
The literature also suggests that mergers can have
some effect on bank clients. Postman (1998) claims
that the larger the bank, the higher the fees, and that
none of the realized cost savings in previous mergers
were passed along to customers. Fees were 15% higher
on average for deposit accounts compared to those of
smaller banks, and twice as much as credit union
institutions’ fees. Conversely, bankers claim that con-
sumers, especially travellers and those who commute
across state lines to work, should benefit from larger
nationwide banks because of greater convenience, ease of
cashing checks, and lower fees available through more
efficient organizations. Thus, the exact effect on clients is
not clear yet.
The effect on workers’ morale is not as controversial.
Naturally, every organization has its own personality,
values, beliefs, business approach and other characteristics
which are collectively termed corporate culture. Failing to
understand culture differences and simply imposing the
lead company’s corporate culture would certainly result
in culture clashes, upheavals, and resistance on the part
of the employees of the acquired, thus jeopardizing the
success of the merger. The situation is even more
critical when the acquirer decides to place its key
employees in top management positions for this might
create resentment on the part of the previous top managers
who may refuse to cooperate. Consequently, the acquirer
loses a valuable source of information on the target’s
strengths and weaknesses. Another mistake, as cited by
Krallinger (1998), would be to modify or standardize the
previously adopted incentive compensation plan without
considering the industry conditions and the target’s special
circumstances.
In brief, controversy concerning merger effects on
shareholder wealth remains unresolved. This paper
re-examines the issue in light of the recent wave of
mega-mergers, especially the three major bank mergers
highlighted earlier, which occurred during 1998 in the
USA.
612 S. Elfakhani et al.
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III . DATA ANALYSIS AND TESTINGRESULTS
Merger details
April 1998 witnessed the announcement of three bank
mega-mergers: Travelers Group and Citicorp (Citi),
BankAmerica and NationsBank, and Bank One and First
Chicago NBD. The first two were classified among the
seven biggest mergers to have ever occurred in the history
of US mergers, all of which happened in 1998 (Colvin,
1999). Interestingly, the three deals were announced within
a one week span.
Citicorp is the holding company of Citibank, a major
international banking player, which serves consumer and
corporate customers in the USA and from locations in
nearly 100 countries around the world through thousands
of branches. Travelers, on the other hand, is a diversified,
integrated financial services firm consisting of several com-
panies that produce a number of financial services encom-
passing investment services, asset management, life
insurance and property casualty insurance and consumer
lending. Hence, according to Loomis et al. (1998), the two
institutions almost perfectly complement each other in
terms of product and service offerings.
On 6 April 1998, Citicorp and Travelers Group
announced their plan to merge in a deal worth $70 billion
(and with assets worth almost $700 billion), forming a new
company to be named Citigroup Inc. that would be the
number one financial services company in the world.
Following the merger, each company’s shareholders
ended up owning 50% of the combined company. The
deal was accomplished through a stock swap through
which Citicorp shareholders received 2.5 shares in
Citigroup for each of their Citicorp shares in a tax-free
exchange. The merger was completed on 8 October 1998,
after the deal was approved by the shareholders of both
companies and the concerned regulatory agencies.
The declared main goal was to create one-stop financial
shopping for consumers, offering Citicorp’s strengths of
traditional banking, consumer finance, credit cards, along
with insurance and brokerage services from Travelers and
its units. From another perspective, Citi’s global reach
would automatically render Travelers an international
player, while it benefited from the latter’s strong sales
force in the USA for marketing its checking accounts,
mutual funds, and credit cards and would have a strong
investment banking business. Combining the two com-
panies would also increase the level of diversification by
reducing their dependence on volatile earnings streams,
thereby reducing their level of risk. Eventually it was
expected that the merger would lead to substantial incre-
mental earnings.
The staggering merger of equals between Travelers
Group and Citicorp did indeed affect the banking industry.
Realizing the size of the deal, its reach, and its benefits,other banks and financial institutions had to rethink theirstrategies and to react in order to protect themselves eitherfrom being smashed or swallowed up by competitors, or byfalling into the trap of being neither a niche player nor aglobal one.A week later (on 13 April 1998), BankAmerica
Corporation and NationsBank announced their plan tomerge in a stock-for-stock transaction valued at about$60 billion. This merger of equals provided significantopportunities for revenue enhancement in the absence ofearnings dilution to shareholders. It created a companywith $570 billion in assets and $45 billion in shareholdersequity. Based on the agreement, BankAmerica share-holders received 1.1316 shares of the new company, whileNationsBank shareholders retained their existing shares,which were automatically converted into the shares of thecombined company. The exchange ratio was determinedbased on the relative share price of both companies atthe close of business on 9 April 1998, without any premiumpayment to any of the involved parties. On 30 September1998, following the approvals of the shareholders ofboth companies and of federal regulators, the merger wascompleted.The main impetus behind the NationsBank–
BankAmerica merger was to build an entirely new kindof bank. Combining the strengths of both banks wouldprovide the new company market leadership positions inthe majority of both banks’ business lines, along with astrong market share in nine of the ten largest and fastestgrowing states in the USA. Furthermore, the combinedbank’s size would allow it to spread marketing, adminis-tration, and systems costs over a larger customer base, thusreducing non-interest expenses.On the same day as the announcement of the
NationsBank–BankAmerica merger (on 13 April 1998),another mega-merger, but of a smaller size, was announcedbetween Bank One and First Chicago NBD. Valued atabout $30 billion, this merger of equals resulted in theformation of the largest bank in the Midwest andArizona and the fifth largest bank holding company inthe USA, with operations in selected international marketsin 11 foreign countries. It had more than 2000 bankingoffices nationwide, around $19 billion of common equity,total managed assets of $279 billion and a market capita-lization of approximately $72 billion.
Based on the agreement, common shareholders of FirstChicago NBD received 1.62 shares of Bank One commonstock for each share of First Chicago NBD and each com-pany granted the other a 19.9% stock option. CurrentBank One shareholders ended up owning about 60% ofthe common equity of the new company while FirstChicago shareholders ended up with about 40% owner-ship. On 15 September 1998, the shareholders of bothcompanies approved the merger following the approvals
Mega-mergers in the US banking industry 613
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of the Federal Reserve Board and the Department ofJustice. The combined company hoped to enjoy greatereconomies of scale and skill and to improve its tech-nological capabilities so as to offer customers superiorproducts and services. Moreover, it expected to become astronger player in the financial services industry whilemaintaining its community orientation.
Test design
The literature suggests that consolidation, on average, doesnot lead to significant performance gains or overall share-holder wealth creation (for details see Pilloff, 1996).However, on an individual basis, the acquired firm’s share-holders, in general, are found to realize excess returnsabove what otherwise would be expected. On the otherhand, Mueller (1997) reports that the stock market gener-ally reacts negatively to the acquiring firm’s stock uponannouncement of a merger. The negative reaction is gen-erally attributed to the dilution of earnings per share. Theabove conclusions are tested here for the three selectedbank mega-mergers in order to assess whether shareholdersof both the acquired and acquiring firms realized anyexcess returns. For that, the standard event study approachintroduced by Brown and Warner (1985) is used to ex-amine abnormal returns around the merger announcementdate. The standardized abnormal returns ðARtÞ for eachstock over each day ðtÞ of the event period are estimatedusing the formula:
ARt ¼ ðRt � Rnon-eventÞ=�non-event
where Rt is the stock’s daily return over the event period,Rnon-event is the simple average of the stock daily returnsover the non-event period, and �non-event is the standarddeviation of the stock daily returns over the non-eventperiod. Following Elfakhani (1998), the event period isdefined to be eleven trading days (extending from day �5to day þ5) around the event day, where day ‘0’ is the dayon which the merger is announced; where daysð�5; . . . ;�1Þ are labelled ‘pre’ for pre-event, days ð0;þ1Þare labelled ‘on’ for the on-event period, while daysðþ2; . . . ;þ5Þ are labelled ‘post’ for post-event. Day ðþ1Þis also classified as an event day in order to see if anycorrection took place the following day as a continuationof the market’s reaction to the announcement of the mergeron day ‘0’. The non-event period consists of 20 tradingdays ending at least ten days before the beginning of thepre-event period. The selected non-event period starts on24 February 1998 and ends on 23 March 1998 for all threestocks. In the case of the Travelers–Citicorp merger, 24
February is labelled day �29 and 23 March is labelledday �10, while in the case of the NationsBank–BankAmerica merger and that of Bank One–FirstChicago NBD merger these are labelled day �33 and day�14 respectively, so to avoid the noise created by theTravelers–Citicorp merger. The particular non-event per-iod in these mergers was selected to be short so that divi-dend announcement dates and ex-dividend dates, which arebelieved to have a possible impact on stock prices, areavoided. In addition, other noisy events were avoidedsuch as unexpected increases or reductions in interestrates, sudden announcements of increases or declines infuture earnings of financial stocks, financial crises, etc.The cumulative abnormal returns (CAR) are then com-
puted for the ‘pre’, ‘on’, and ‘post’ event periods, as well asfor the overall event period by summing the daily abnormalreturns over the period of interest. ‘Pre’, ‘on’ and ‘post’event CARs are examined to test if there is any anticipationof the coming event prior to its occurrence, any marketreaction during the on-event sub-period (i.e., days 0 and1) and any delayed market response post to the on-eventperiod. In addition, CAR of the entire event period is alsocalculated so to account for any extended market reactionto the merger announcement.7 Next, the significance of theCAR values obtained is tested using t-statistics, computedusing the following formula:
T ¼ CARi=pn
where, CAR is the sum of abnormal returns ðARÞ over thedesignated event period or sub-period i (where i¼ pre, oron, or post, or overall event period), and n is the number ofdays for the period of the CAR used, such that n is 5 forCARpre, 2 for CARon, 4 for CARpost, and 11 for CARevent.The calculated t-statistic is then compared to the criticalvalue, ejection of the null hypothesis says that significantcumulative abnormal returns are observed.
Results and interpretation
Before undertaking any statistical test, data are first testedin order to determine any econometric problems that maynullify the results. Fama (1976) provides evidence that dis-tributions of daily returns are fat-tailed relative to a normaldistribution, which applies also to daily abnormal returns.Thus, daily returns for both the non-event and event per-iods were tested for normality using the Kolmogorov–Smirnov one-sample test.8 Further, Brown and Warner(1985) find the degree of kurtosis and skewness to be higherfor small sample sizes between five and twenty than for asample size of 50. Thus, kurtosis and skewness of the daily
614 S. Elfakhani et al.
7 It should be noted here that the daily stock returns and S&P returns were computed using their respective closing prices which werecollected from the Wall Street Journal, and from the Internet site of Yahoo.8 This is done, although Malhorta (1996) argues that the t-test is known to be quite robust to departures from normality.
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returns over both the non-event and event periods were
also computed. All these tests were applied to ensure
normality. Moreover, autocorrelation was also tested
between daily returns so as to make sure that serial returns
are uncorrelated. This was done using the Durbin–Watson
statistic (D).9
Table 1 presents the results of testing the returns in both
periods for normality using the Kolmogorov–Smirnov
test, kurtosis and skewness, as well as the results of testing
for autocorrelation represented by the Durbin–Watson
statistic. All tests are conducted for all six securities over
both the event and non-event periods. The same tests are
repeated for the S&P 500 index over the same periods. The
individual securities are labelled with their stock symbol
prior to the merger: TRV for Travelers Group, CCI for
Citicorp, NB for NationsBank, BAC for BankAmerica,
ONE for Bank One, and FCN for First Chicago. Based
on the obtained results, kurtosis was found to be positive in
all cases, except for CCI (over the non-event period) and
FCN (over the event period). This implies that the
distribution of the daily stock returns for every security is
more peaked than the normal distribution, while that of
CCI and FCN is a bit flatter. Skewness was also found
positive except in three cases only (those of CCI and
BAC over the non-event period, and FCN over the event
period). Further, it is worth noting that over the event
period, the distributions of the daily stock returns of
both TRV and CCI, which also had a very high kurtosis,
were found to be more skewed to the right than the other
distributions.
All p-values turned out to be larger than the chosen
significance level, implying that the daily returns for all
securities and for the S&P 500 are normally distributed
over both periods, with only one exception. As a matter
of fact, the daily returns of CCI over the event period have
a p-value of 0.049, which falls slightly short of the 5%
significance. Durbin–Watson values fall within the speci-
fied range (1:41 < D < 2:59 for the non-event period, and
1:36 < D < 2:64 for the overall event period), implying
that autocorrelation is absent. Thus, overall no serious
abnormality or serial correlation problems have been
detected.
Next, we test any return abnormality surrounding the
three merger events using the event study approach.
Table 2 presents the results for testing the null hypothesis
that there are no cumulative abnormal returns (CAR). For
each security, four CAR figures are reported (i.e., pre-
event, on-event, post-event, and the overall event period)
along with the corresponding t-statistic using two different
significance levels, 5% and 10%. Of the four CAR figures,
the ones obtained for the on-event period and the overall
event are of particular interest. The on-event effect is ex-
amined to see the announcement effect on the stock price
and consequently shareholders’ wealth. The overall event is
Mega-mergers in the US banking industry 615
Table 1. Kolmogorov–Smirnov Z normality test, Durbin–Watson test, kurtosis and skewness measures for daily stock returns
Period Statistics TRV CCI NB BAC ONE FCN S&P 500
Non-event Kurtosis 0.5068 70.5802 0.3813 0.7644 0.8296 1.8723Skewness 0.4643 70.6209 0.3858 70.8304 0.1624 0.4604Durbin-Watson 1.6950 1.8690 1.4670 1.7190 1.8490 1.4860Z-statistics( p-value)
0.3750(0.999)
0.8680(0.439)
0.4610(0.984)
0.6240(0.832)
0.4410(0.990)
0.7390(0.645)
0.460(0.984)
Event Kurtosis 7.5797 8.4112 0.9227 1.1746 0.6587 70.2220Skewness 2.4870 2.6307 0.6065 0.6432 0.0113 70.3879Durbin-Watson 2.0680 2.1450 1.8730 1.7670 2.0590 1.8050Z-Statistics( p-value)
1.0850(0.190)
1.360*(0.049)
0.3770(0.999)
0.6360(0.814)
0.5370(0.935)
0.4280(0.993)
0.567a
(0.905)0.484b
(0.973)
* Significant at the 5% levelNotes: TRV, CCI, NB, BAC, ONE, and FCN are the stock symbols of Travelers, Citicorp, NationsBank, BankAmerica, Bank One andFirst Chicago NBD respectively. Non-event stands for the non-event period, which includes 20 observations, extending from days �29 to�10 for TRV and CCI and from days �33 to �14 for the remaining securities. Event stands for the event period, which includes 11observations, extending from days �5 to þ5, where day ‘0’ is the event day. Kurtosis is a measure of the relative peakedness or flatness ofthe curve defined by the frequency distribution. Skewness is the tendency of the deviations from the mean to be larger in one directionthan in the other. The Kolmogorov–Smirnov statistic (K) is transformed into a normally distributed Z statistic, which is reported in thetable with its associated probability value ( p-value) between parentheses. Two Z-statistics and p-values are reported for the S&P 500 overthe event period. The first two figures with a superscript (a) corresponds to the S&P 500 returns around the April 6 event day, while thesecond set with superscript (b) corresponds to the S&P 500 returns around the April 13 event day.
9 More details on these tests can be found in Lee (1993).
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examined to capture any prolonged market reaction. This
can occur if the markets are late in reacting to the merger
news especially if the benefits of the merger are not readily
recognized or are not quite obvious to investors.
Table 2 shows a statistically positive CAR for both the
shareholders of Travelers (the acquirer) and Citicorp (the
acquired) during the on-event sub-period (i.e., days 0
and 1), and overall the event period for Citicorp only.
Therefore, from the acquirer and acquired perspective,
the market’s reaction to the merger was positive in both
cases over the on-event period, therefore benefiting both
firms’ shareholders, which is consistent with Akhavein
et al.’s (1997) argument.
However, investors’ reaction was more positive to the
acquired side since cumulative abnormal returns were
also statistically significant over the overall event period,
thereby benefiting shareholders of the acquired company to
a greater extent. In fact, shareholders of the acquired com-
pany realized a return of about 26% on the announcement
day, as the stock price increased from $142.875 on the last
trade before the announcement up to $180.50 on the event
day. However, shareholders of the acquiring company rea-
lized a return of about 18.7% on the announcement day as
the stock price increased from $61.6875 on the last trade
before the announcement up to $73 on the event day. The
result obtained for the total event period conforms to the
findings of Copland et al. (1995), which claim that share-
holders of the acquired firm are the ones who benefit the
most from the merger.
This market reaction could be attributed to a number of
factors. First, the Travelers–Citicorp deal is a stock swap
between two companies having an almost equal market
capitalization, hence involving a modest premium, reflect-
ing increases in the market’s expectations of higher earn-
ings over the immediate term. Second, the two companies
are quite complementary with very little duplication in
their activities, which would allow them to integrate with
less disruptions and job losses, and with expected increases
in cross-selling opportunities that would enhance the con-
solidated company’s profitability. Third, investors were
quite receptive and enthusiastic to the company’s new
vision where Citigroup was presented as ‘the model of
the financial services company of the future.’10 Fourth,
the surprise element was quite significant because the
announcement of the merger was unexpected. More im-
portant, the market did not expect a merger involving an
616 S. Elfakhani et al.
Table 2. Test of cumulative abnormal returns (car) around merger announcements
Category Company
Pre-eventCAR(t-value)
On-eventCAR(t-value)
Post-eventCAR(t-value)
Total eventCAR(t-value)
Acquirer TRV 71.7628(70.7883)
7.5067*(5.3081)
72.6584(71.3292)
3.0856(0.9303)
NB 1.6012(0.7161)
3.4590*(2.4459)
73.7786(71.8893)
1.2816(0.3864)
ONE 73.0556(71.3665)
71.3870(70.9808)
71.1585(70.5793)
75.6012**(71.6888)
Acquired CCI 70.8882(70.3972)
10.7518*(7.6027)
71.6522(70.8261)
8.2114*(2.4758)
BAC 71.3527(70.6049)
2.2148(1.5661)
73.0528(71.5264)
72.1908(70.6605)
FCN 2.0148(0.9027)
1.2249(0.8661)
71.9237(70.9618)
1.3196(0.3979)
* Significant at the 5% level** Significant at the 10% levelNotes: TRV, CCI, NB, BAC, ONE, and FCN are the stock symbols of Travelers, Citicorp, NationsBank,BankAmerica, Bank One and First Chicago NBD respectively. TRV, NB, and ONE are acquirers, while CCI,BAC, and FCN are acquired companies. Pre-event is the period preceding the announcement of the merger andextending from days �5 to �1 inclusive. On-event is the period extending from days 0 to þ1, where day ‘0’ is the eventday. Day þ1 is included in the on-event period so as to account for any correction resulting from the informationcoming late into the market. Post-event is the period following the merger announcement, extending from days þ2 toþ5. Total event stands for the overall event period made up of 11 observations and extending from days �5 to þ5including day ‘0’. CAR stands for cumulative daily abnormal returns standardized by the standard deviation ofreturns over the non-event period. The t-value is the calculated t-statistic obtained by dividing the correspondingCAR by the square root of the number of days during the specified period (t values are reported in the table betweenparentheses).
10 ‘Watch out for the Egos’, The Economist, 11 April 1998, p. 55.
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insurance and brokerage company (i.e. Travelers Group)
with a money centre bank (i.e. Citicorp), because this type
of merger contradicts the current banking regulations.
Finally, the deal resulted in the creation of one of the big-
gest financial institutions in the world in the largest merger
ever in the history of consolidation.
With respect to the NationsBank–BankAmerica merger,
positive cumulative abnormal returns were observed only
in the case of the acquirer, i.e. NationsBank, over the
on-event period and were significant at the 5% level. This
result contradicts the findings of Mueller (1997), because
the shareholders of the acquired company do not seem to
have benefited from the merger even during the on-event
sub-period. This was the case although the NationsBank–
BankAmerica merger was second only to the Travelers–
Citicorp merger in terms of size, and resulted in the
creation of the first truly nationwide bank in the USA.
Therefore, from the acquired company perspective, at the
time of the merger announcement, the market did not see
any contribution to the creation of shareholders’ wealth.
The acquired BankAmerica’s shareholders benefited
slightly during the on-event period (i.e. days 0, 1) but lost
more post-merger (i.e. days þ1; . . . ;þ5), which is the least
to be expected.
These results can be attributed to a number of inter-
related factors. First, this deal was viewed by some market
analysts as simply a continuation of the previous trend of
mergers.11 Second, the fact that the merger was announced
on Easter Monday, on which market activity tends to be
calm, gives the impression that the merging parties might
have sought to avoid any market overreaction, probably
because they were not so confident in their ability to con-
vince the market of the potential benefits of the merger.
Third, the announcement of two mega-mergers on the
same day, namely NationsBank–BankAmerica and Bank
One–First Chicago NBD, increased investors’ conviction
of the probability of further consolidation in the banking
industry, so they may have shifted their attention to find
other merger prospects. Further, no premium was paid to
the shareholders of the acquired firm, BankAmerica.
Finally, and most important of all, is the fact that
NationsBank and BankAmerica announced their merger
while they were not yet done with the problems of integrat-
ing the investment banks that they had respectively bought
before the merger, namely Montgomery Securities and
Robertson Stephens. Not only that, but the two investment
banks were known in the market to be old rivals, which
would complicate the merger’s potential for success,
because now culture clashes exist between commercial
bankers and investment bankers on one hand, and betweeninvestment bankers themselves.12
In the case of the third merger, Bank One (the acquirer)had a negative CAR in all three sub-periods as well asthe overall event period, which was statistically significantat the 10% level, with some positive (but insignificant)CAR for the shareholders of the acquired firm (FirstChicago NBD). Therefore, the results obtained pertainingto the acquiring company conformed to the findings ofthe majority of the studies in that the merger did not addvalue to the latter’s shareholders, while those pertainingto the acquired company failed to conform, in that itsshareholders did not benefit much from the merger.The absence of significant cumulative abnormal
returns over the on-event and the overall event periodfor the ONE–FCN merger could be attributed to manyfactors. As the deal was announced on the same dayas the NationsBank–BankAmerica merger, investors’attention may have been diverted from the merger asthey searched for other merger prospects. The deal wasalso a continuation of past merger trends in terms ofthe goals lying behind it (i.e. cost reduction, achievingsynergies and so forth), as well as in terms of its sizewhich was half that of the NationsBank–BankAmericamerger.Obviously the above results suggest that there is no uni-
form reaction to merger events between acquirers andacquired firms. These findings related to Canadian stocksare consistent with evidence regarding American stocksreported by Rhoades (1998). More interestingly, in allthree cases we observe a post-event downward adjustmentfor stock prices implying that the market may have over-reacted during the on-event period.Figures 1 to 6 depict fluctuations in each of the six
securities’ daily abnormal returns throughout the eventperiod (Y-axis) against time from day �5 through dayþ5 (numbered 1.0000 to 11 on the X-axis). Obviously, allsecurities’ abnormal returns peaked on the event day (0)assigned the number (5) on the X-axis representing time,except for Bank One whose abnormal returns were nega-tive, because its stock price did not change on the event dayfrom the previous trading day.Having tested for CAR for all three mergers, next the
performance of these stocks is compared with the marketindex (i.e. S&P 500 Index) using parametric and non-parametric tests. The idea here is to ensure that the mergersexamined realized abnormal returns over those returnsearned by the average market. Table 3 presents the findingsof both parametric and non-parametric tests for the non-event period (Panel A) and event period (Panel B). The
Mega-mergers in the US banking industry 617
11 As reported on the Internet site of CNNfn (1998).12 On 19 November 1998, BankAmerica sold Robertson Stephens and kept Montgomery Securities alone. Also, there was someincompatibility between the commercial bankers and investment bankers, as according to Schonfeld (1998), investment bankers relymore on personal contacts and relationships, and are free to assume risks.
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results of the paired t-test in both panels show all pairs hadp-values larger than the 5% significance level. These resultsfail to reject the null hypothesis H0, thus implying that theindividual securities’ performance is not significantly differ-ent from that of the market over both the non-event andevent periods. Nevertheless, four of these securities hadpositive t-values implying that they did outperform themarket (these are CCI, NB, BAC, FCN), while the remain-
ing two (i.e. TRV and ONE), both of which are acquirers,had negative t-values, which means that they had under-performed the market over the event period (although thedifferential performances are statistically insignificant).13
Next, the comparison is repeated using non-parametricnon-distribution specific tests. The Mann Whitney U testand the sign-test compare each of the six securities’ returnswith that of the market represented by the S&P 500 Index,
618 S. Elfakhani et al.
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
0.0000 2.0000 4.0000 6.0000 8.0000 10.0000 12.0000 14.0000
Time
AbnormalReturns
Fig. 1. Travelers abnormal returns (event period)
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
0.0000 2.0000 4.0000 6.0000 8.0000 10.0000 12.0000 14.0000
Time
AbnormalReturns
Fig. 2. Citicorp abnormal returns (event period)
13 The study has also used the New York Stock Exchange Finance Index that includes stocks in the financial industry in order todetermine whether the results are affected by the nature of the index. No discernable difference was found in the results between thefinance index and S&P index when compared to the three mergers. Data for the NYSE Finance index was obtained from the Internet siteof the New York Stock Exchange.
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and the results are reported in the second and third rows ofpanel A and panel B of Table 3. Similar to the parametrictest, none of the results obtained show a statistical signifi-cance, thereby implying that the individual securities’ per-formance is not significantly different from that of themarket over both the non-event and event periods.
IV. CONCLUSIONS
According to analysts, bank mergers should entail signifi-cant cost savings (particularly in the non-interest expensecomponent), and therefore mergers should increase the
wealth of shareholders of both parties involved. Most
studies indicate that shareholders of the acquired are the
ones who benefit most from the market’s reaction to the
merger announcement. In addition, not all mergers suc-
ceed. Overpaying, culture clashes, inadequate pre-merger
analysis and failure of the post-merger integration process
and others often account for the failure of mergers. Of the
seven biggest mergers that have occurred, two took place in
1998 and in particular in the banking industry. These
events provoke attention. Thus, three bank mega-mergers
were selected for further analysis: (1) the Travelers Group–
Citicorp merger that resulted in the creation of one of the
biggest financial institutions in the world, (2) the
Mega-mergers in the US banking industry 619
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
0.0000 2.0000 4.0000 6.0000 8.0000 10.0000 12.0000 14.0000
Time
Abn
orm
al R
etur
ns
Fig. 3. NationsBank abnormal returns (event period)
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
0.0000 2.0000 4.0000 6.0000 8.0000 10.0000 12.0000 14.0000
Time
Abn
orm
al R
etur
ns
Fig. 4. BankAmerica abnormal returns (event period)
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NationsBank–BankAmerica merger was second only to the
Travelers–Citicorp merger in terms of the size of the deal,
and resulted in the creation of the first truly nationwide
bank in the USA, and (3) the Bank One–First Chicago
NBD merger resulted in the creation of the fifth largest
bank holding company in the USA.
Using the event study approach to examine the three
mergers, cumulative abnormal returns (CAR) were calcu-
lated, standardized and then tested over the event period
and three sub-periods. The results indicate that CARs were
significant (at the 5% level) over the on-event period for
both shareholders of the acquired and acquirer in the
Travelers–Citicorp merger, and for shareholders of the
acquirer only in the NationsBank–BankAmerica merger,
while none were statistically significant in the Bank One–
First Chicago NBD merger. Regarding the overall event
period, the only significant results were obtained in the
case of Citicorp, the acquired in the Travelers–Citicorp
merger. Based on these findings, it is obvious that there is
no uniform market reaction and that each merger stands
on its own merits. In all three mergers, however, there was
a post-event downward share price adjustment implying
620 S. Elfakhani et al.
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
0.0000 2.0000 4.0000 6.0000 8.0000 10.0000 12.0000 14.0000
Time
Abn
orm
al R
etur
ns
Fig. 5. Bank One abnormal returns (event period)
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
0.0000 2.0000 4.0000 6.0000 8.0000 10.0000 12.0000 14.0000
Time
Abn
orm
al R
etur
ns
Fig. 6. First Chicago NBD abnormal returns (event period)
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that the market may have over-reacted to the merger
announcements. These results confirm that conflicting
findings regarding who benefit from mergers are not reallyconflicting. One should go deeper into the analysis to
appreciate the values generated from each merger.
On another front, the giant step that Travelers Groupand Citicorp undertook by defying the existent regulatory
barriers between insurance and brokerage companies onthe one hand, and banks on the other hand, increased
the chances for the repeal of the Glass–Steagall Act, par-
ticularly considering that the Federal Reserve ChairmanAlan Greenspan supports the idea along with other regu-
lators and Congressmen. Adding the globalization effect tothe fall of the Glass–Steagall Act along with bankers’ con-
tinuous search to increase their fee-based income, mergers
involving commercial banks and the highly lucrative non-bank companies such as investment banks, insurance
companies and others, will be most likely to occur. Thiswill eventually lead to the creation of huge ‘one-stop finan-
cial supermarkets,’ thereby putting an end to the era of the
‘Four Pillars’ (i.e. banks, insurance companies, investmentbanks and trusts) which have so far dominated the finan-
cial world.The sampled data were not without limitations. Despite
the fact that the objective was to study individual merger
events, the sample size was small to draw general con-clusions. Another limitation is that the net wealth effect
for the combined company’s shareholders was not com-puted, leaving room for further investigation on the
merger’s net wealth effect for the new consolidated entity
in the long run. Furthermore, the Travelers–Citicorp deal
had an international dimension to it not present in theother two sampled mergers and was between a bank anda non-bank financial institution. This event deservesfurther investigation as an independent case study toanswer the question: Do bank and non-bank mergersalways result in significant stock revaluation or is this spe-cific only to the USA? Finally, Rhoades (1998) also talksabout some of the cost-cutting benefits from bank mergeractivities. If this is so, why were such benefits not reflectedin the stock prices of the two other bank–bank mergersexamined here? and if such benefits really do accrue, whydo post-merger large banks not cut their costs before themerger?14 Until the answers are known to these questions,it is not clear why banks do merge.
ACKNOWLEDGEMENTS
This study builds on the MBA project work of one of theauthors, Rita Ghantous, and the supervisory work of theremaining two authors. The authors thank the participantsof the European Financial Management Association heldin Scotland in May 2000 for their helpful comments. Allremaining errors are the authors’.
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Mega-mergers in the US banking industry 621
Table 3. Security performance versus market performance using parametric and non-parametric paired samples tests
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