Mergers and acquisitions in Canadian and US banking sector have become a familiar phenomenon. Increasingly, a large number of both international and domestic banks all over the world are today engaging in mergers and acquisition activities. One of the principal objectives underlying these activities in the banking sector is to reap benefits of economies of scale. Essentially, through mergers and acquisitions, banks are able to achieve significant growth in their operations while minimizing their running costs to a considerable extent. Moreover, competition is reduced since mergers eliminate competitors thus depopulating the banking industry.
In definition, a merger connotes the combination of assets and liabilities of two companies to form a single business entity. The term "acquisition" is commonly used when a larger company absorbs a smaller one while merger tends to be used mainly when portraying combination between equal firms. In the banking sector, the key principle underlying acquisitions is to create shareholder value over and above that of the sum of the two banks. This simply means that two banks functioning as a single entity are more valuable than two separate banks. In this regard, stronger banks will buy other banks in an effort to create a more competitive and cost-efficient company meaning that the banks will come together in the hope of gaining a considerable greater market share or reaping the benefits of cost-efficiency.
This study is motivated by the unprecedented processes of financial consolidation that has taken place in Canada and United States. Since 1990s, the volume and number of mergers and acquisitions has increased considerably, and the trend seems to be unrelenting. In fact, the anticipated wave of US banks mergers and acquisitions, led in part by Canadian banks seems to be growing rapidly and the trend is expected to accelerate in 2011 As such, the banking integration seemingly appears far from being completed and is expected to continue shaping Canadian and United State's financial landscape in the coming years. This is of the key interest to this study. First, many of the forces behind mergers and acquisition such as effect of financial globalization and technological change will continue to exist.
Secondly, the number of banks per 1,000 people in Canada and United States is considerably high suggesting that mergers and acquisitions can confer positive benefits. Third, there is still a considerable degree of heterogeneity across United States and Canadian region in terms of the concentration of banks. As in other sectors, mergers and acquisitions in the banking industry has attracted a lot of recognition and attention from both managers and shareholders. Moreover, the central role played by the banking industry in the economy has also ensured additional interests from borrowers, depositors, and policy makers. One of the greatest concerns for executive management is the possible impact of the mergers and acquisitions on the overall market return.
In terms of methodology, mergers and acquisition data concerning Canadian and US banking sector will be collected for the last twenty (20) years. Data analysis procedures will be used to examine the stock market price reaction around the announcement time of M & A for major Canadian and US banks. Specifically, the market stock value-30 days prior to announcement and 30 days past the announcement will be tested in an event study to calculate the abnormal market return. The bench mark used is the S&P 500 index. In this regard, this study will follow two empirical methods: a critical comparison of pre-and post-merger stock performance, or an event-study methodology based on the market stock prices of specific financial market assets-asset performance. Therefore, the first set of study examines the effects of Canadian and US bank mergers by comparing pre- and post- merger performance by measuring market return value.
An important beginning point for this methodology is that recent empirical studies evaluating bank performance have shown that scale economies appear to exist in the United States and Canadian banking sectors. These studies tentatively suggest that higher market return could be expected from banking mergers albeit in the short run. This study is further motivated by the findings of numerous studies comparing pre and post merger performance that have indicated that the potential efficiency gains and market return derived from size hardly materialize. This is of great interest to this study as it largely forms the study hypothesis. As such, a possible rationale for this puzzle could be that higher stock value and efficiency gains could take a longer time to accrue that it is commonly expected. However, the empirical methodologies employed in this study will only focus on 30 days after the merger.
The hypothesis being tested by this study is that the target banks will experience an abnormal market return around announcement of merging and acquisition in the short run.
Paper Organization and Structure
This research paper mainly consists of four main areas: introduction, literature review, question and hypothesis, method and data analysis which will test the hypothesis. While the introduction part broadly introduces the paper, a comprehensive literature review will be carried out to appraise the various empirical studies that have been carried out before on mergers and acquisition in respect to American and Canadian banking sector. Data collection and analysis will be carried out using a statistical software-to test the proposed hypothesis on market stock value before and after the mergers.