‘Bank mergers in India has resulted in increased efficiency’

Chennai, Feb 21,2023: Mergers of banks in India has resulted in increased efficiency for the acquirers or the merged entity and higher shareholders wealth for the acquiree banks, as per a research paper published by the Reserve Bank of India (RBI).

“The expected benefits of mergers and acquisitions (M&As) in financial institutions worldwide, including in India, are cost reduction, profit maximisation, and gains through portfolio or geographical diversification,” the paper, authored by Snehal S. Herwadkar, Shubham Gupta, and Vaishnavi Chavan, notes.

According to the research paper, data envelopment analysis (DEA) suggests that the efficiency of acquirers improved post-merger due to an increase in scale or productive capacity.

Financial ratio analysis, which compares the pre- and post-merger performance of acquirers, reinforces the findings of efficiency analysis. These results are robust even after controlling for industry-wide impact.

The event study analysis employed for bank mergers between 2019-2020 indicates an increase in shareholders’ wealth of the acquiree banks.

The three authors in their study identified geographical diversification and greater focus on interest earnings as a source of income as the key factors behind post-merger improvement in bank efficiency.

“Our findings, using the non-parametric technique of data envelopment analysis, suggest that mergers, on an average, improved the efficiency of acquirers – both in the short-term (1 year and 3 years since merger) and medium-term (5 years since merger). A more nuanced analysis suggests that this improvement was due to increased scale of productive capacity (scale efficiency). These findings are supported by a financial ratio approach, where the pre-merger financial performance of acquirers is compared to that in the post-merger period,” they said in their paper.

“The event study approach, employed for mergers during 2019-2020 where adequate data is still not available, suggests that mergers resulted in an increase in shareholders’ wealth of the acquiree banks, while the share price of acquirer banks witnessed a temporary blip,” the paper notes.

According to the paper, banking mergers in India have been, on an average, beneficial to the banking sector as the financial performance and efficiency of acquirers improved post-merger.

The study found that the mean technical efficiency of acquirers increased from 90.88 in the pre-merger period to 93.80 three years post-merger, and 94.24 five years post-merger.

A deep dive into factors that may have led to efficiency gains identifies post-merger geographical diversification and improvement in the share of interest income as the significant factors, the study states.

The evidence so far, thus, suggests that mergers have been an effective tool of efficiency improvement in the Indian banking sector. Mergers have provided avenues for increasing the scale of operations, geographical diversification, and adoption of more efficient business strategies, the authors concluded.