Asian Journal of Empirical Research | Vol 9, Issue 9, September2019

1. INTRODUCTION
2. REVIEW OF LITERATURE
3. DATA AND METHODOLOGY
4. RESULTS AND DISCUSSION
5. CONCLUSION AND POLICY IMPLICATIONS
References

Mergers and efficiency gains: a case of Indian banks

Neeraj Kumar ^a* , Satish Chandra Tiwari ^b , Pooja Choudhary ^c

^a* Department of Economics, ICFAI Business School, Hyderabad, India Corresponding author's email address: satish2bhu@gmail.com

^b Department of Finance, ICFAI Business School, Hyderabad, India

^c Independent Researcher; Dehradun, Uttrakhand, India

ABSTRACT

This paper reflects an attempt to measure the effect of mergers on efficiency of banks in India. Five major merger cases in India during 2000 to 2005 were examined to measure the pre- and post-merger efficiency to achieve the purpose of this study. Secondary data were obtained from bulletins and reports of the Reserve Bank of India (RBI) and Data Envelopment Analysis (DEA) was employed to calculate efficiency. The study found efficiency gains in four merger cases except the merger of the Oriental Bank of Commerce with the Global Trust Bank. The findings of the study suggest that market driven mergers boost and forced mergers lead to a decline in the efficiency of banks.

Keywords: Mergers, Acquisitions, Banks, Efficiency

ARTICLE HISTORY: Received:24-Jun-2019, Accepted: 19-Sep-2019, Online available: 01-Oct-2019

Contribution/ Originality

This study compared the post and pre-merger performance of the Indian commercial banks, particularly the analysis is based on five main mergers of banking industry. The results are mixed in the terms of market driven mergers and forced mergers.

1. INTRODUCTION

Merger and acquisition (M&A) have become a well-liked research topic in the corporate field. Hence, the banking sector has also used M&A to boost its growth and expansion. The issue of merger and acquisition of banks has occupied an important place in the Indian banking system in recent years. The need for M&A in the Indian banking sector has been getting impressive attention. Merger mania is sweeping the equilibrium structure of the Indian banking industry (Barman, 2007). After 2001 some big mergers have happened in the Indian banking industry, such as the merger of IDBI with its banking arm IDBI Bank Ltd., the merger of ICICI Ltd. with the banking arm ICICI Bank Ltd., and the merger of the Global Trust Bank with the Oriental Bank of Commerce (OBC). Globalization, liberalization, market deregulation, and technological change have driven the wave of M&A across the globe. Liberalization and deregulation in India started since 1991-92 and has been a major change in the banking system (RBI, 2008a). Globalization would gain faster speed in the coming years particularly on account of expected opening of financial services under WTO.

M&A gained momentum in the Indian banking industry due to consolidation strategy of the Reserve Bank of India (RBI). The Indian banking sector has been divided into the broad classification of public sector banks, private sector banks, foreign sector banks, co-operative banks, regional rural banks, multistate co-operative banks, local area banks, and many others. Hence, the Narasimham Committee (1991, 1998) has also suggested consolidation of all 27 public sector banks to 3-4 global entities and 5-6 national entities (RBI, 2008a). Table 1 shows the major banking mergers after the 1991 period of economic reforms.

Table 1: Bank mergers in India in the postreform era

Note: ROWB- Restructuring of weak Bank, FM- Forced Merger, VM- Voluntary Merger, ASOE- Achieve Scale of Economies, AOUB- Achieve the Objective of Universal Banking
Source: RBI, 2008b

This study evaluates the impact of M&A on the Indian banking industry. The authors have considered the impact of only five mergers between 2000 and 2005.

Merger of the target bank the Times Bank Ltd. with the anchor HDFC Bank Ltd. in 2000
Merger of the target Bank of Madurai with the anchor ICICI Bank Ltd. in 2001
Merger of the target Benares State Bank Ltd. with the anchor Bank of Baroda in 2003
Merger of the target Global Trust Bank with the anchor Oriental Bank of Commerce in 2004
Merger of the target Bank of Punjab with the Centurion Bank in 2005.

The major objective of this study is to measure the pre- and post-efficiency gains of M&A of the five banks. To pursue the objective the study has been divided into five sections. The first section is the introduction. The empirical survey of literature on M&A in the banking industry has been discussed in Section 2. The procedure of calculating efficiency gains in the Indian banking industry due to M&A has been discussed in section 3. The empirical results have been presented and discussed in section 4. Section V concludes the study and provides noteworthy policy implications.

2. REVIEW OF LITERATURE

The empirical survey of various empirical studies on mergers and acquisitions in the banking industry will be presented and discussed in this section. The wave of M&A has expanded scope for growth, particularly for the Indian banking sector. Walleghem and Willis (1998) measured the cost efficiency of a merger of 19 community banks in the United States. They found that cost efficiency increased in all cases. Garden and Ralston (1999) studied 16 Australian bank merger cases and observed that most of the mergers did not boost efficiency. Only 3 banks reported gains in efficiency. Avkiran (2000) attempted to measure efficiency gains after a merger by applying DEA analysis. He used a small sample of four public sector merger cases. The study found that the efficiency of the acquirer banks more or less remained the same after merger. Liu and Tripe (2002) studied 6 New Zealand bank merger cases and observed that 5 banks showed post-merger efficiency gains. Kim (2004) investigated pre- and post-merger branch efficiency of Canadian banks. They found that almost all merger cases led to efficiency gains. There are many studies which measure merger gains in Asian countries, such as Sufian (2004) which gauged post-merger efficiency in Malaysian commercial banks and found gains in efficiency and performance of banks. Randhawa and Lim (2005) measured the post-merger efficiency in 7 Hong-Kong and Singaporean banks. They reported that large banks benefited more from the merger in efficiency than small banks. Gourlay and Ravishankar (2006) measured merger gains in the Indian banking system. They reported a significant impact of merging on the efficiency of the merged banks. Joshua (2011) measured the postmerger efficiency gains in three Nigerian banks and observed that merger brought efficiency gains in all cases. Rasiah et al. (2014) measured the pre- and post-merger efficiency of Malaysian domestic banks from 2005 to 2009 and found that efficiency grew during the first year after the merger.

Most studies report that M&A have been successful in most Asian countries. However, in other countries the results have been mixed and do not provide a clear picture. Some studies also provide conflicting results of the succession of M&A in the Indian banking industry. To resolve this conflict, section IV empirically examines the impact of M&A in the Indian scenario.

3. DATA AND METHODOLOGY

This section enlightens the methodology applied and the database used. Secondary data were required and extracted from reports published by the RBI. The study utilized two output variables:

i) nterest earned minus interest expanded and ii) noninterest income (Drake and Hall, 2003; Sufian, 2006).

Whereas the input variables used for computing cost efficiency are:

i) fixed assets, ii) staff, and iii) deposits + borrowings.

A nonparametric linear programming based on data envelopment analysis was employed to obtain the efficiency score. To calculate cost efficiency and its components required following procedure due to Kumar and Gulati (2010). We firstly calculated T_E as introduced by Charnes et al. (1978). We assume that there are K banks; to produce M output each bank uses N input.

Where i=1,....K input quantities by x_ni,n=1,....N and m=1,....M output quantities by Y_miwith x_ni>0 and x_mi>0 .

Secondly we calculated cost efficiency by referring to Fare and Grosskopf (1985) and Ferrier et al. (1993).

By solving model (2) we obtain cost efficiency as

Thirdly the study obtains allocative efficiency by dividing cost efficiency of Farrell input-oriented measure of technical efficiency. Thus the allocative efficiency is:

The cost efficiency can be further decomposed as C _ E_i^(CRS )= T_(i )_ E_i^CRSxA_E_i^CRS where the value of C_E, T_E and A_E ranges between 0 and 1. The computer program Data Envelopment Analysis Program (DEAP) developed by Tim Collie has been utilized.

4. RESULTS AND DISCUSSION

To analyze the impact of merger on an efficient performance of anchor bank we have used four distinct measures of operational efficiency. These measures are Cost Efficiency (C_E), Allocative Efficiency (A_E), Technical Efficiency (T_E) and Pure Technical Efficiency (P_E). Table 2 provides the pre- and post-merger summary of the anchor bank (HDFC Bank Ltd.) and the efficiency summary of the target bank (Times Bank Ltd.) before the merger.

The C_E of the target bank before merging is 0.83 which means that C_E has declined by 16.7% whereas the Pure technical efficiency of 0.46 discloses the apathetic health performance of the Time Bank Ltd. before merging. Such low pure technical-efficiency depicts the existence of 53.4% pure technical inefficiency in the target bank. The efficient performance of the anchor HDFC Bank Ltd. is also in line with its target bank. There is about 19.9% cost inefficiency in the HDFC Bank Ltd. before merging.

Table 2: Efficiency performance of HDFC bank ltd