Since early 1980s, financial institutions around the world have undergone transformations led by globalisation, deregulation, and privatization, supported by the information technology advancement. Similar developments were found in Singapore banking industry. These are in relation to Mergers and Acquisitions (M&As) that targeted at improving the competitiveness and efficiency of local banks.
Despite the need and importance of reforming Singapore’s banking sector, there are only few of sftudies on valuing the effectiveness and performance of the M&A activities among Singapore’s domestic incorporated commercial banks. Particularly, Merger between Development Bank of Singapore (DBS) and Post Office Savings Bank (POSB) was one of the pioneer bank consolidations with joint-effort from Singapore government.
This study attempts to provide empirical evidence on the performance changes of DBS arising from merging with POSB for the period of 1994-2007, and they will be examined by utilizing the various of financial indicators, financial aggregates during the pre-merger and post-merger period along with other academic researches. The paper lies on one important fundamental question: Did the M&A between DBS and POSB result in the improvement on DBS’s overall efficiency level and performance during post-merger period?
The paper is structured as follows: the next section gives a brief highlights of Singapore banking development, Section 3 reviews related studies and main literature with respect to performance and efficiency of banks, Section 4 traces back the background and history of bank consolidations in Singapore, Section 5 introduces valuation of changes in performance and efficiency between pre-merger and post-merger periods, Section 6 discusses the results of valuation and finally provides concluding remarks to address whether DBS should consider to divest POSB.
(Source: Singapore Department of Statistics)
As shown in figure above, the contribution of financial services industry to Singapore’s economic growth and development is significant, which accounts for approximately 10% to 13% of its national GDP (Gross Domestic Product) for the past decade. It is mainly resulted by the existence of the broadened network of financial institutions, which efficiently providing wide range of services that facilitate domestic, regional and international flow of funds for trade and investments (Tan, 2002).
The development of Singapore as a financial centre was initiated by Monetary Authority of Singapore (MAS) through progressively deregulating its financial structure and removing restrictions of its financial markets since 1960s, aiming to eventually widen the national economic scale (Ngiam, 2002). The milestone of liberalisation in Singapore’s banking sector was the establishment of Asian Dollar Market (ADM) in 1968, and the objective was to attract Asian non-resident deposits to fund the bank’s Asian lending activities (Tan, 2002).
Particularly, the Singapore’s domestic banking sector was tightly regulated and heavily protected until 1997 (Ngiam, 2002), while the entry of foreign banks was restricted to the local banking market since 1971. As stated by David (2007), locally incorporated banks are given green light for its expansion of branching networks, while foreign incorporated full licensed banks accepted prior to 1971 faced restrictions for opening up their new branches. As a result, locally incorporated banks are well sheltered from foreign competitions; and the Singapore’s local banking market was therefore mainly dominated by domestically incorporated commercial banks, despite the potential banking sector that has many international players.
During the outbreak of Asian Financial Crisis 1997-1998, Singapore’s sound economic fundamentals and healthy domestic financial system enabled the industry to weather the crisis comparably well (Chia, 1999). Nonetheless, the lessons learnt from the financial turmoil for the local financial institutions are the need for spurring the establishment of strong incentive structure for consolidating local banks, which would create larger institutions to tackle with future possible crisis and growing competitions. Both the Singapore’s government and the MAS were very much aware of the smaller size of local banks are not able to compete with international banks “in terms of technology, expertise, range and quality of service to customers” (MAS, 1999).
After the incorporation of Monetary Authority of Singapore in 1970, a series of reforms led by MAS has been introduced, such as extra fiscal incentives, removal of exchange control which spurred healthy competitions and boosted the development of financial sector at the same time (Tan, 1997). MAS (1999) subsequently took initiative to review its regulatory policies in 1997 and in 1999, from there a five year programme was introduced, which was meant for liberalising the Singapore’s banking industry even further. The programme has three key characteristics, they are essentially aiming at to develop and strengthen domestic banks: 1) increasing competitions between foreign banks who want to enter the local market, and filtering the weak ones; 2) reinforcing the corporate governance of local banks and attracting talents with strong leaderships to achieve important level of autonomy to make professional management decisions; 3) lifting limit of the foreign investors’ total shareholdings in local banks to the 40 percent (MAS, 1999). With the beginning of deregulation, the MAS had changed its role from regulator to supervisor, aiming to “monitor and differentiate among institutions by giving the stronger and well-managed ones more operational flexibility while maintaining stricter controls on the weaker ones” (MAS, 1998).
Merger and acquisitions may enable banks to access more opportunities on basis of regulatory changes and technological advancement. Berger et al (1999) pointed out that the merger and acquisitions may improve efficiency, market influence, economies of scale, and capacity. Moreover, cost and profit efficiencies can be improved through merger and acquisitions, which would initiate banks to bring in more profits by leveraging on interest spread. According to Prager and Hannan (1998), who found out that merger and acquisitions between banks could create higher level concentration, and in turn lower deposit rate. Berger and Mester (2003) further confirmed Prager and Hannan’s finding and suggested higher revenues than costs can be generated through M&As. The conclusion was on the basis of study on the American banks that exercised M&As, who actually enhanced the quality of outputs in the 1990s in spite of their increased costs, which banks’ profit were eventually improved still by generating more revenues as oppose to costs.
Barth, Caprio and Levine (2001) on the other hand documented for 107 countries, where different regulatory controls that were taken in place in 1999. By analyzing data obtained, Barth, Caprio and Levine (2003) identified, tighter control towards market entry would affect the efficiency level of local banks, increasing both interest rate margins and overhead expenditures.
However, many studies have also argued that merger and acquisitions between banks barely increases efficiency of cost (Canoy et al., 2001) and foreseeable improvement on efficiency is insignificant (Berger and Humphrey, 1994).
So, why do banks still engage in merger and acquisitions? According to Berger et al (1999), the key motivation of bank M&As is to achieve operating and financial synergy. The operating synergy consists of economies of scale as well economies of scope, and merged bank could gain competitive advantage through cost reduction (Kamal, 2010), also it entails reduction in cost for each unit due to an improved size and scale of bank’s operations. Thus, the banks that experienced M&As, can share resources and provide a wider range of services that smaller banks do not have sufficient capital for the costs of provisions.
Government protection and strict MAS supervision have enabled local banks to grow into sound, well-capitalised institutions… The situation is not sustainable. Even if the Government does not liberalise the banking industry, local banks will be unable to maintain the status quo. Globalisation and electronic delivery channels have altered fundamentally the competitive landscape. Further rapid developments in internet banking will enable foreign banks to reach out extensively to domestic consumers, reducing and eventually neutralizing the advantages of an extensive branch network and government protection. (The Straits Times, 18 May 1999 cited in Yeung, 2004)
The liberalisation of local banking market fosters their mergers and acquisitions, whereby economies of scale can be achieved for the continuous expansion and growth of banking industry through consolidations (Yeung, 2004). Singapore government was promoting consolidations of local banks in order to get them ready for stronger competition from foreign banks since mergers between DBS and POSB as well as Keppel Bank and Tat Lee Bank in 1998. DPM Lee once remarked that there “is room for consolidation, but we hope that there will be at least two Singapore institutions… If we succeed in building up two such strong local banks, our financial system will have two pillars of strength and stability” (The Straits Times, 18 May 1999 cited in Yeung, 2004).
In wake of DPM Lee’s speech, the Singapore government is in progress of realizing DPM Lee’s blueprint of merging domestic banks into two “super banks”; and Singapore has experienced few more mergers and acquisitions between domestically incorporated banks (Nick, 2003):
In June 2001, Singapore’s third largest bank, Overseas-Chinese Banking Corporation (OCBC) acquired Keppel Capital Holdings (KCH), which owns Singapore’s smallest bank, Keppel Tat Lee Bank
In August 2001, United Overseas Bank (UOB) was the Singapore’s second largest bank successfully merged with Overseas Union Bank (OUB), and become Singapore’s largest bank in aspect of total assets (Table 1, cited in Nick, 2003).
In 1968, DBS was established by Singapore government, and was then incorporated as Development Banks of Singapore Ltd on 16 July same year (Tan, 2005) with the function of providing credit to all industries and to support new as well as existing industries(Lee, 1990). However, government remains interference and maintains control of bank’s management, despite DBS soon after went for public and listed shares with the SES (Stock Exchange of Singapore) (Lee, 1990). With years of development, DBS’s branches, subsidiaries and representative offices currently operate in Japan, USA, UK, Korea, Hong Kong, Taiwan, Indonesia, Thailand, China, India, Myanmar, Philippines and Malaysia (See Appendix 1).
In 1998, DBS acquired POSB for $1.6 billion (Tan, 2005) and it then become the Singapore’s largest bank in terms of network of branches (See figure above), with total customer base of 3.3 million and total customer deposits of 59.3 billion (Business Times, 25 July 1998 cited in Tan, 2005).
In 1867, POSB was set up by Savings Bank Ordinance and was later turned to one of Singapore’s statutory boards in 1971 (Lee, 1990) with primary function of collecting savings from small depositors in Singapore with a reasonable interest rate to fund national development activities (Tan, 2005). Since then, series of the innovative services were launched, and GIRO payment was and still is the most applicable service that POSB has ever introduced, which is created to allow customers to pay their electricity, water, gas, telephone and taxes bills by automatically transferring required amount from individuals’ savings accounts to a designated account without incurring extra service charge (Lee, 1990).
Nonetheless, POSB was restricted for provision of certain commercial banking services due to its nature as one of statutory boards, and thus POSB’s services were only open for individual residents and non profit-oriented firms or institutions (Lee, 1990). In 1998, POSB has merged with DBS, and POSB has been keeping on providing its own special services, such as POSBkids Account, POSB Passbook Savings Account and MySavings Account (Tan, 2005).
As mentioned earlier, POSB‘s objectives were to target on customer segment of small depositors and offer basic banking services to the general public, and it has the largest coverage of network of branches, ATMs (Table 1) located in diferent estates and shopping malls islandwide.
Over a decade of the develpment, POSB’s savings deposits increased to $11,528 million in the early 1988 from $91 million in 1971, the year that POSB was transformed to statutory board; while its total number of accounts were 3,250,000 as of 1988, increased significantly from 1971, which was only 555,000 (Table 2, cited in Lee, 1990). It means every people in Singapore owns an POSB account (Table 3).
With the all facts and analysis of DBS and POSB’s development, it is seen both DBS and POSB came to a very saturated status and the next question would be what can do and how they can grow further in order to become one of two “super banks”. With global financial liberalization, small banks will not be able to compete and survive in the international arena not even maintaining the status quo. Thus, the Singapore government has taken the big step on 24th of July in 1998 by “marrying” government-linked DBS and state-owned POSB (Yeung, 2004). The original objective of the merger was to initiate DBS to ultilise deposit-riched POSB to grow further and become a dominant banking player regionally (The Straits Times, 25 July 1998, cited in Yeung, 2004). On the other hand, Mr Ngiam Tong Dow, the former chairman and CEO further affirmed DBS’s objective is “to become a regional bank with global reach” (The Straits Times, 20 April 1998, cited in Yeung, 2004).
As shown in the table (Compiled from annual reports of DBS, UOB, OCBC, See Appendix 2, 3, and 4) above, key financials between three major locally incorporated banks at the end of 2007 are indicating that prior to global financial crisis 2008, DBS was ranked as the largest bank amongst three banks, with the highest total income, total assets, customer loans and total customer deposits. However, DBS posted lower than average for ROE, which implies DBS had the weaker ability to generate cash and in turn potentially give investors less returns as compared to the other two.
In terms of ROA and asset turnover, it appears that OCBC were able to better utilise its available assets to generate returns than DBS and UOB, and this was evident by its higher net interest income in comparison of the other two. OCBC also set a higher than required capital adequacy ratio for contingencies. Nonetheless, both DBS and UOB’s capital adequacy ratio were above MAS’s requirement.
On the other hand, DBS had the lowest NPL ratio over UOB and OCBC, and it means lower loan default rate. Both of UOB and OCBC had the lowest cost-income ratio of the three banks and DBS has the highest, which implies that DBS need more recourses than the UOB and OCBC to generate same amount of returns.
Based on the analysis above, DBS has the strong position in the market and its higher customer deposits are the major motivator to its growth. With large pool of deposits, DBS could easily tap into it and repackage it as different commercial banking products; also DBS could utilise its large amount resources for other investments and expansions.
Following the merger between DBS and POSB, DBS became the largest bank in terms of domestic assets, overseas assets and total assets as of 1999.
Merger between POSB has also added value to DBS’s net interest income, and thus doubled operating profit by 13.0% at the of 1998, leading operating profit continues to grow since 1994; However, DBS has ended its continuous growth in net profit in 1997, which dropped down to S$ 336.4 million and S$ 222.7 million in the following year, and the drop was mainly contributed of the increase rate of non-performing loans provided in neighbouring nations (DBS, 1998).
On the other hand, Merger with POSB has indeed increased DBS’s operating expense; but, the operating expenses were very much contributed by the restructuring expenditure of S$73.9 million, and expense-to-income ratio should be only 35.7% without it, instead of nearly 50% at the end of 1998 (DBS, 1998).
By tapping into POSB’s deposits, DBS has taken a remedy measure to Thai Danu Bank’s (TDB) lost in NPLs and the total of nearly 1,000 million were catered for loans to TDB, neighboring nations, Singapore and other nations in 1998 (DBS, 1998), which was doubled as compared to previous year.
Furthermore, Merger between POSB has definitely added value to DBS in terms of total customer loans and customer deposits, and POSB amounted for S$13.4 billion of loans and 28.1 billion of deposits; without this deal, DBS Group’s total customer loans and deposits could have dropped by 2.8% and only grew 21.4% respectively at the end of 1998 (DBS, 1998).
Also, Merger with POSB has lifted DBS group’s total assets to almost 100 billion, and of which POSB amounted for S$29.4 billion of assets. However, drop in profit has led ROA down started from 1997 (DBS, 1998).
In the post-merger period, DBS has improved its net profit and ROE tremendously. Net profit and ROE have notably been increased nearly 8 folds of S$897 million and 8.7% respectively in 1999, and DBS continued a stable growth to S$2,487 million in net profit and average 12.7% in ROE as of 2007. ROE has successfully been maintained as 10% in average from 2000 to 2007.
While for total income, it reached highest level of S$6,163 million in 2007 which is about 5 folds of S$1,876 million in1998. However, DBS has not been able to reduce its operating expenses, leading cost-in-come ratio stablised at 42% in average for as long as a decade.
Customer deposits and customer loans on the other hand, have been doubled since merging with POSB, amounting S$153.6 million in deposits and 108.4 million in customer loans as the end of 2007.
As a lender, DBS has effectively reduced its non-performing loans rate from 11.8% to as low as 1.1% as of 2007 in ten years time, which has been the main driver to its growth of profit, despite high operating expenses.
From the analysis above, DBS has been performing well in all aspects and with a steady pace since the merger with POSB in 1998. DBS has gradually become a dominant banking force in the region.
So, how efficient DBS has become after the merging with POSB? What about the change in efficiency? According to the research that conducted by Lee et al (2008), they found that DBS has scored Total Factor Productivity (TFP) below 1.00, which implies a negative productivity growth from 1995 to 1999, DBS however also saw growth in higher TFP in post-merger period than pre-merger period, reason being merger eliminated the redundancies and such enhanced efficiencies (Lee et al, 2008).
Moreover, DBS scored the highest in Pure Technical Efficiency (PTE), showing DBS was able to produce the higher percentage of output with the given resources, such as labour and customer deposits, and the prevailing technologies (Lee et al, 2008).
Lee et al (2008) further pointed out that the merger with POSB has improved Scale Efficiency (SE), which indicates productivity in operating size and management practices has been improved after the merger with POSB.
Similar results were found by Fadzlan (2006), who has carried out an efficiency research on Singapore banking consolidations based on two models, which are
Model 1, focusing on outputs of Total Loans and Interest Income, inputs of Total deposits
Model 2, focusing on outputs of Non-Interest Income Interest Income, inputs of Shareholders’ equity.
Based on model 1 and model 2 (See Appendix 5, Table 6 and 7), he found that during the pre-merger period, DBS has have scored Overall Efficiency (OE) of 71.1% and 94.77% individually, below the mean score of 88.59% and 91.72% respectively, which suggests that DBS was the least efficient in converting deposits to loans and in utilising its capital resources to generate income. Model 1 further demonstrates OE has been improved during merger period to 88.2% and slipped a little to 75.53% in post-period. Similar results reported by Model 2 as, DBS has improved OE during merger period to 87.4% and then reached peak of 100% in post-merger period.
In addition, both model 1 and 2 suggest that DBS has scored 100% for PTE throughout pre-during-post merger period, implying DSB has fully utilised its operating resources, and no inputs waste was created.
On the other hand, both model 1 and 2 also show DBS has scored the lowest SE during the pre-merger period, and it has been improved since merging with POSB, which model 1 suggests SE was still below the means over the examined periods and hinted although productivity in operating size and management practices for deposits and loans has been improved after the merger with POSB, it was still below industry average; while model 2 has portrayed DBS has scored 100% for SE during post-merger period, indicating full scale of capital resources were utilised for creating returns by DBS.
With all analysis above, DBS has been performing efficiently in all aspects and at a stable pace since the merger with POSB in 1998. DBS is the progress of transforming from small locally-incorporated bank to international bank and a strong regional force, a Singapore’s HSBC.
The merger between DBS and POSB, was seen as the milestone step that taken by Singapore government, leading a series of bank consolidations in the later years. The “marriage” between DBS and POSB was harmonious and it is seen as the foundation and the base for DBS to fulfill its ambition of becoming one of two “super banks” that DPM Lee has ever painted.
As debt is seen as the source of revenue to banks and loans are converted and repackaged from the deposits that contributed from the public. POSB has provided DBS its capital resources accumulated over the years. Although with DBS or POSB alone, Singapore locally-incorporated bank could not compete in the global banking arena, but it can only be realised by combining resources with support by the Singapore government.
Though, the fact that DBS has not been able to convert expected numbers of POSB account holders to DBS, and POSB itself has not been able to improve its profit drastically could have made DBS wonders the days without POSB, DBS has to realise that POSB’s assets are DBS’s source of capital. Despite the concept of POSB that would consume high level of operating resources to serve small depositors which has been negatively limiting DBS Group’s performance, POSB is considered as the important entity to DBS. Without POSB, DBS could lose its foundation to future success and DBS would not come to this far by now. Therefore, DBS should not divest POSB. Instead, DBS put an effort to figure out how to better and more efficiently utilise POSB’s resources and improve POSB’s performance. After all, POSB is like one of DBS’s legs, it takes two legs to move forward or even running, and DBS will stumble without POSB.
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