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    Davis International

    Banking Consultants



    Study prepared by

    Davis International Banking Consultants

    London, England

    December 2003

Note: This study was prepared by Davis International Banking Consultants (DIBC) solely for

    the use of our clients. It should not be relied upon by any third party without DIBC‟s prior

    written consent.

     Davis International

    Banking Consultants


    Over the past decade Canada has evolved a unique but effective public policy for regulating the interaction between banks and insurers. Additional integration in the banking pillar has been denied since the Minister of Finance‟s decision in 1998 against two proposed bank mergers. The 1999 White Paper requires the two major demutualised insurers to remain independent so as to maintain a strong insurance pillar. Tight restrictions on the sale of insurance products to a bank client base have been maintained since their inclusion in the 1992 Bank Act.

Our task in this study is to evaluate the experience of other developed markets specifically

    Europe, the US, South Africa and Australia to determine whether there are good reasons for

    changing this policy by permitting cross-pillar bank/insurance mergers.

    This study will demonstrate that circumstances have not changed since the past review, either in Canada or in these other markets, which would argue for such a policy change. In fact, the arguments against allowing cross-pillar mergers are even stronger now than in 1999.

    While each national insurance market has its own differentiating factors, our exhaustive study of the evidence in these markets points up three possible negative consequences of such mergers which might be relevant for the Canadian market.

    First, a large number of cross-pillar mergers abroad have not only failed to achieve their objectives but also actually produced a threat of contagion to their partners and the national financial system. Profound cultural and structural differences have severely limited planned synergies and led to a large number of subsequent divestitures. Our analysis of the literature and events on the ground indicate that the high point of practitioner interest in these mergers was reached in 1999-2000, and the tide has ebbed since then.

    Second, the growing concentration of economic and financial power among a decreasing number of large financial conglomerates has posed significant issues of systemic vulnerability, customer choice and control for many national governments. In such concentrated markets in Australia, South Africa, UK and other European Union countries, regulators have increasingly responded by banning, implicitly or explicitly, further large mergers.

    Finally, the goal of a strong, independent life insurance pillar in Canada could be seriously threatened by breaking down the barriers between the life and banking sectors. Experience in strong bancassurance markets like Spain, France and the Netherlands indicates that the health of the broker and agency sales forces, as well as the viability of traditional life insurers, has been undermined by the massive shift to bank distribution. Cross pillar mergers have also diminished contestability in concentrated markets by reducing the number of insurer-owned banking affiliates.


    Davis International Banking Consultants



This study by Davis International Banking Consultants (DIBC) (for profile of DIBC see

    appendix C) is submitted in response to the Government‟s Response of June 23, 2003

    requesting comments on a change in the present policy towards mergers between large banks

    and demutualised insurers in Canada.

In December 1998 Finance Minister Martin determined that the public interest would be the

    principle criterion for deciding whether to permit large bank/bank mergers. In 1999 the White

    Paper, Reforming Canada’s Financial Services Sector, essentially applies to the larger

    demutualised insurers the widely held rule applied to the large banks to prevent their take-

    over. To quote the White Paper (page 34),

    As with the widely-held banks, these companies cannot be acquired. Having these

    large demutualized companies widely held will help ensure the maintenance of a

    strong insurance sector.’

The White Paper also did not adopt the recommendation of the Task Force on the Future of

    the Canadian Financial Services Industry to lift the restrictions on the sale of insurance

    products by banks, thus sustaining the 1992 Bank Act limitations which have essentially

    constrained such sales for banks.

The purpose of our study is to evaluate the experience of cross-pillar mergers between banks

    and insurers in other developed markets, in particular since the White Paper was issued, to

    determine whether there is a public policy argument in favour of a change in this regulatory



After a preliminary review of the literature and study of markets outside Canada, we

    determined that the US, Western Europe, Australia and South Africa are the most relevant for

    purposes of comparability with the Canadian market.

We therefore carried out the following research:

    ? an extensive survey of the published literature on bank/insurance mergers outside Canada,

    including statements by regulators, industry groups, competition authorities and consumer

    groups, as well as reports by management consultants, academics, journalists and financial

    analysts. A bibliography of our research is attached as Appendix A. In the text below,

    references are made to the document from which the text is taken.

    ? an analysis of the available data base on such mergers and their outcome. Such data is

    derived from consultant, academic, financial analyst and company sources. The text below

    provides attribution where appropriate for specific charts and graphs.

    ? a series of about 30 in-depth interviews across Europe, South Africa, Australia and the US

    with selected bank/insurance groups as well as regulators, consultants, industry


    Davis International Banking Consultants

    associations, analysts and other industry experts. The body of the study reflects the views

    from many of these expert interviewees.

For background information, we attach as Appendix B a brief summary of the history of

    bank/insurance linkages in the four markets as well as the regulatory response to these

    mergers. Key findings and conclusions from this history and regulatory action compose a

    major element of our study.

A central preliminary finding for this research is that each of the four markets noted above

    including components of the European Union has developed both a unique financial

    industry structure as well as regulatory response to the issues raised by the merger process.

Thus Canada is unique among major markets for its Insurance Business (Banks) Regulations

    in the Bank Act, which severely restrict both the range of insurance products sold in banks

    and the conditions under which they can be marketed. By the same token, Canada is one of

    the few markets which has a thriving, independent insurance sector. Clearly there are different

    means and structures to satisfy the relevant needs of public sector regulators, consumers,

    companies and stockholders.

What is important for our study, however, is whether any aspects of the international

    experience are relevant for policy makers in Canada. To the best of our ability, we have

    attempted to extract what we regard as significant issues from this experience which should be

    considered by Canadian policy makers as they assess the arguments for and against regulatory



We believe that there is no obvious public policy reason for changing the current regulatory

    structure as regards bank/demutualised insurance mergers. Our conclusions can be

    summarised in the three key issues discussed in the balance of this study.


    Davis International Banking Consultants



In the early 1990s many financial institutions and their stockholders in Europe and Australia

    embraced bank/insurance mergers with three strategic objectives in mind:

    ? offering a full range of financial products to their clients;

    ? increasing their capital base for strategic reasons;

    ? achieving revenue and cost synergies in the marketing of retail financial products.

    Figure 1 provides a listing of the major cross-pillar mergers in the European market, where

    the enthusiasm for such bancassurance deals has arguably been strongest.

Figure 1: Leading European bank-insurance mergers and acquisitions (a)

     Subsequent salesDominant banks Insurance partners Country Size*

    KBC (Kredietbank & ABB Belgium 233


    Dexia DVV Insurance Belgium 368

    Rabobank Interpolis Netherlands 393

    SNS Reaal Netherlands 37

    SEB Trygg-Hansa Sweden 141 Trygg-Hansa non-life (sold to Codan) Handelsbanken SPP Sweden 144

    Danske Bank Danica Denmark 247 Danica non-life (to TopDanmark) Nordea (Unidanmark) Tryg Baltica Denmark 67 Tryg Baltica & Vesta non-life (to Tryg Nordea (CBK) Vesta Norway 26 Baltica foundation) Sparebanken NOR Gjensidige Norway 36 Gjensidige non-life not included DnB Vital Norway 55

    DnB Storebrand Norway 55 Failed acquisition attempt Credit Suisse Winterthur Switzerland 689

    Deutsche Bank Deutscher Herold Germany 795 Deutscher Herold (to Zurich) Lloyds Bank Abbey Life UK 334‡ Abbey Life salesforce (to Allied

    Lloyds TSB Scottish Widows UK Dunbar) Abbey National Scottish Mutual UK 284

    Scottish Provident UK

    Halifax Clerical Medical UK 512‡

    NatWest Legal & General UK 649‡ Failed acquisition attempt

    Dominant insurers Bank partners Country Size* Subsequent sales Fortis (Groupe AG) ASLK-CGER Belgium 404

     Generale Bank Belgium

    Fortis (Amev) VSB Netherlands 404‡

    ING (Nationale- NMB Postbank Netherlands 500


    Sampo Leonia Finland 19† Non-life business (sold to If) Swiss Life Banca del Gottardo Switzerland 9† currently attempting to sell Gottardo Allianz Dresdner Bank Germany 434

    AMB BfG Germany 29† BfG (to Crédit Lyonnais) GAN CIC France CIC (to Crédit Mutuel) Axa (UAP) Banque Worms France 5† Banque Worms (to Deutsche Bank) Axa Banque Directe France

    Irish Life Irish Permanent Ireland 36

     Note: former names are shown in brackets

    (a) includes two failed merger attempts 4 ‡ now part of larger group whose assets are shown

    * total assets, US$ billion at end 2002 (source: The Banker) † bank assets only

While several of the mergers have been widely viewed as successful in achieving these

    objectives, a large number have not, as we discuss below. Davis International Banking Consultants


Underpinning these failures has been a cultural incompatibility which undermines

    collaboration and synergies throughout a bank/insurance conglomerate. This incompatibility

    is best articulated in Figure 2, which was reproduced from a Deutsche Bank presentation in

    the early 1990s justifying the decision not to acquire an insurer at the time. In Figure 1 we

    have listed 18 instances in which European banks have acquired insurers; of this total, seven

    have subsequently involved major divestitures. In addition, we have listed 12 banks bought by

    insurers, of which subsequently four have been sold or otherwise disposed of by their

    acquirers. In Figure 3 below, we analyse the divestitures of life insurance businesses by eight

    banks in Europe. Figure 4 lists nine problem bank-insurance combinations in Europe, and the

    accompanying text analyses several transactions in more detail.

Figure 2: Cultural differences between insurers and banks

Banks Insurers

    ? Sale by the institution ? Sale by individual ? Branch offices are expensive ? Intermediary earns his own money ? Daily and personal management ? Management by production ? Reactive ? Proactive ? Short, frequent client contacts ? Long, infrequent client contacts ? Good information on clients ? Little information on clients ? Fixed working hours ? Flexible working hours ? Salaried employees ? Commission-based employees ? Problem solvers ? Product sellers ? Standardised sales approach ? Individual sales approach ? Positive image ? Doubtful image Source: Deutsche Bank

Our conversations with individual financial conglomerates in Europe, South Africa and the

    US have confirmed that these differences range from setting corporate policy to marketing

    operations at the client level. Our research indicates, for example, that such awareness might

    have been a factor in the Citigroup decision to divest itself of the property and casualty unit of

    the Travelers group.

One of the consequences of this cultural divide is the difficulty in practice of achieving the

    cross-selling synergies advertised as the basis for a cross-pillar merger. On the surface, the

    lack of overlap between the bank and insurance customer bases of such a conglomerate offers

    outstanding potential for cross-selling. In practice, however, even the most experienced

    European conglomerates such as Fortis and KBC in Belgium, and ING in the Netherlands,

    have struggled to blend the different cultures in their cross-selling efforts. The result has often

    been a de facto separation of functions: the bank staff sell simple insurance-wrapped savings

    and “tick-the-box” products directly linked to loans, with referrals being made to their

    insurance counterparts for the more complex services. When the bank merges with a

    traditional insurer, the standard solution is to keep the two distribution channels completely

    separate to avoid „contamination‟ of the different delivery channels.


    Davis International ING Group is one of the world‟s largest and most international banking and insurance groups, Banking Consultantswhich has been particularly successful with ING Direct, a telephone-and-internet bank now operating in eight major countries. ING was formed in 1991 when Nationale-Nederlanden, the country‟s largest insurance group, acquired NMB Postbank, the third-largest bank. At the time

    the main purpose was seen as creating a group with sufficient resources to expand successfully internationally. There was little or no expectation that the two businesses would sell each other‟s products. This has subsequently been tried, but without much success.

    Moreover, the merger outraged the Dutch brokerage community, which accounted for some two thirds of Nationale-Nederlanden‟s insurance sales. They threatened to stop selling its

    products if it tried to use its banking outlets to compete with them. The issue was resolved, as it has often subsequently in other mergers, by a compromise which tailors product features to the particular distribution channel.

    While bank staff have been relatively successful in marketing simple retail life products, the reverse has not been true. Across Europe the results of insurance agents selling bank products have been disappointing. A major issue is compensation: the selling commission on banking products is simply inadequate for an insurance sales force in comparison to their traditional product line.

    Hard data on the actual cost and revenue synergies from European cross-pillar mergers is quite thin. Based on projections made at the time of the mergers, cost savings have never exceeded the 5% of combined costs that was promised by Gjensidige NOR in Norway. For the much larger and more strategic acquisition of Dresdner Bank by Allianz, the dominant German insurer, we calculate projected revenue synergies the strategic objective of the

    US$24 billion deal at 2.9% of the pre-merger total, with cost synergies of only 1.0%. On

    balance, merger experience would indicate that such potential synergies are easily dwarfed by the direct and indirect costs of a complex merger.


    As indicated above, roughly one-third of the European cross-pillar acquisitions and mergers listed in Figure 1 have resulted in a subsequent divestiture, either partial or total. In some cases, particularly for non-life businesses, such a divestiture may have been contemplated in advance, given the widespread enthusiasm for buying a life insurer‟s assets under management and the relative profitability of the life business.

    But the number of life insurance businesses ultimately divested is a serious indication of disillusionment on the part of management with their new cross-pillar acquisition. It is highly relevant for Canada, which wishes to maintain a strong Canadian-owned insurance pillar. Finding a buyer for such a divestiture may well require a foreign buyer or disposing of what could be perceived as damaged goods.

    Figure 3 provides a profile of eight major European insurance businesses divested by banks. Several, such as the three UK banks (Barclays, Alliance & Leicester and Royal Bank of Scotland) and ABN Amro, involve the sale of an in-house insurance business to an insurance partner as a result of a decision to outsource the product. BBVA in Spain sold two of its insurance affiliates to foreign buyers, Norwich Union and AXA, in favour of an in-house supplier.


    Davis International Banking ConsultantsOf much greater significance is the divestiture of Deutscher Herold, a major German insurer,

    by Deutsche Bank. Deutsche Bank established its own life insurance company,

    Lebensversicherungs der Deutschen Bank, towards the end of the 1980s. In 1992 it acquired a

    majority stake in Deutscher Herold, a leading life and non-life insurance company, and

    merged its own company into Deutscher Herold a few years later.

However, by the end of the 1990s, the bank no longer regarded it necessary to own an

    insurance company. During the merger discussions with Dresdner Bank in 2000, it announced

    that it would sell Deutscher Herold to Allianz, but that plan was abandoned when the merger

    fell through.

In 2001 Deutsche Bank sold its 75.9 percent stake in Versicherungsholding der Deutschen

    Bank, the holding company for Deutscher Herold, to Zurich Financial Services. The sale also

    included its insurance businesses in Italy, Spain and Portugal, countries where it has

    significant retail banking operations. The total price was ?1.5 billion. Under the agreement,

    Deutscher Herold will continue to be the exclusive supplier of insurance products to Deutsche

    Bank‟s retail banking clients.

Figure 3: European banks selling own life insurance operations

    Bank Details

    Barclays Barclays, one of the UK‟s four largest banks, established its own in-house life insurance subsidiary

    during the 1980s. Unlike several of its rivals, it never acquired a life company. In 2001 it sold its life

    business and also its retail mutual funds operations to Legal & General. It now distributes Legal &

    General branded products through its branches. Alliance & Alliance & Leicester, a former building society, made the same decision as Barclays, selling its in-

    Leicester house long-term savings and investment business to Legal & General in 2001 and then its life

    business to L&G in 2002.

    Royal Bank of RBS established a joint venture company with Scottish Widows to manufacture life insurance

    Scotland products for branch distribution. When Scottish Widows was bought by Lloyds TSB, RBS acquired

    100% of the joint venture. After acquiring NatWest, and thereby becoming one of the four largest UK

    banking groups, RBS sold 50% of both its own and NatWest‟s life subsidiaries to Aviva, a leading

    UK independent life group.

    National NAB established its own in-house life business in the 1990s to provide products to distribute through

    Australia Bank its three UK regional banks. In 2003 it closed this business and now distributes Legal & General

    (UK) products

ABN Amro ABN Amro, the largest commercial bank in the Netherlands, did not follow all its major rivals into

    bank-insurance mergers and acquisitions. It set up an in-house life business but in 2003 sold it to a

    joint venture company established with Delta Lloyd, a local subsidiary of Aviva. This will supply

    products for distribution through ABN Amro‟s branch network. Banco Bilbao BBVA, one of the two dominant Spanish commercial banks, controlled traditional insurers Aurora

    Vizcaya Polar and Plus Ultra. In order to concentrate on its in-house insurer Euroseguros, the group sold Argentaria Aurora Polar to Axa (in stages between 1992 and 2000) and Plus Ultra to Norwich Union.

    Santander After Banco Santander merged with Banco Central Hispano (BCH) to form SCH, it sold BCH‟s 50% Central stake in insurance company Vitalicio in stages to Italian insurance company Generali. SCH is now

    Hispano concentrating on its own in-house insurer. Vitalicio was a joint venture formed by merging

    Generali‟s Spanish insurance interests with those of BCH. Deutsche Bank After establishing its own life subsidiary, in 1992 Deutsche Bank (the largest German bank) acquired

    control of Deutscher Herold, a leading life and non-life company. However, in 2001 it sold Deutscher

    Herold and three foreign life businesses to Zurich Financial Services. Source: DIBC research.


    Davis International In the US, the most notable divestiture has been the flotation by Citigroup of its non-life

    Banking Consultantsbusiness, Travelers Property Casualty, in 2002 following the landmark merger in 1998. Recently the chief executive of Travelers Life & Annuity has suggested that Citigroup might sell his part of the business also.

    As this reversal of priorities shows, bank buyers can change their minds about the value of owning an insurance product provider as often as twice in a decade. For public policy in Canada, as we discuss under paragraph 5.0, this in our view is a significant factor in the effort to maintain a sound Canadian life insurance sector.

    Other divestitures in Figure 1 reversed the original acquisition of retail banks by European life insurers as part of an effort to ensure distribution. In several cases, the choice of banking vehicle has been unfortunate, to say the least. For example, Aachener & Muenchner, a pioneer in German bank/insurance, encountered asset quality as well as marketing problems by acquiring Bank fuer Gemeinwirtschaft (BfG), finally selling it several years ago to SEB in Sweden. Similarly, the decision to acquire Dresdner Bank proved to be disastrous, at least in the short term, for Allianz see section 3.3.1 below.



    In the European market, massive losses suffered by a number of bank/insurance conglomerates have threatened both the viability of the individual institution as well as the national financial system through the contagion process. Some of these threats occurred as a result of the collapse of equity values during the 2001-2003 period, which devastated the balance sheets of those life companies which had invested a major portion of their assets in the equity markets. Others were driven by losses in the property and corporate lending markets suffered by both the banking and insurance arms of the group. Still others have involved mis-selling scandals as banking groups have been hurt by the over-aggressive tactics of insurance companies that they have acquired.

    The bottom line of many of these substantial losses has been to force some of Europe‟s previously well-capitalised financial conglomerates to raise new equity capital on unattractive terms, sell valuable subsidiaries and/or drastically shrink their core businesses to offset operating losses. In markets like the UK and Germany, regulatory authorities were obliged in early 2003 to suspend their solvency rules for the worst-affected insurance companies or take other action to preserve public confidence in the sector.

    Thus in the UK the traditional insurance regulations tying equity market values to solvency ratios were suspended following the 2003 market collapse. In Germany, press reports indicated that two thirds of the German life insurers failed to meet stress tests in 2003. Subsequently, Mannheimer Lebensversicherung became the first German life insurer in many years to fail, and tax regulations were eased to permit insurers to adjust their statutory reporting.

    Figure 4 lists a number of the recent problem bank/insurance combinations in Europe.


    Davis International

    Banking Consultants Figure 4: Problem bank-insurance combinations in Europe

Acquirer Target Comments

    Credit Suisse Winterthur Insurer weakened by falls in equity market Lloyds TSB Abbey Life Heavy losses from mis-selling Lloyds TSB Scottish Widows Insurer weakened by falls in equity market Abbey National Scottish Mutual Insurer weakened by falls in equity market Allianz Dresdner Bank Bank weakened by heavy loan losses AMB BfG Poor performance by bank subsequently sold GAN CIC Poor performance by bank subsequently sold UAP Banque Worms Bank weakened by heavy loan losses Swiss Life Banca del Gottardo Unsuccessful diversification; substantial decline in value Source: DIBC Research

    The most spectacular case of contagion in terms of both speed and size was probably Allianz‟s acquisition of Dresdner Bank. However, Allianz, as Europe‟s largest insurance company, had sufficient resources to absorb the setback. Banks suffering particularly badly

    from insurance acquisitions include Credit Suisse, Commonwealth Bank of Australia and

    Lloyds TSB. In the case of Credit Suisse and Lloyds TSB, they have been forced to sell some

    of their most valuable foreign subsidiaries in order to recapitalise the group.

    3.3.1 Allianz and Dresdner

The acquisition of Dresdner Bank by Allianz in 2001 as a distribution vehicle for retail

    products has encountered massive asset quality problems which have not only forced out both

    the chief executives involved in the original transaction but also threatened the viability of

    Germany‟s leading insurance group with roughly 20% of the market.

    A year earlier Dresdner one of Germany‟s four largest retail banks had announced a merger with market leader Deutsche Bank. The proposed deal, which fell through, would have

    given Allianz about one third of the merged group‟s branch-based retail banking business and

    Allianz would also have acquired its valuable fund management operations. Following the

    collapse of the Deutsche deal, Dresdner subsequently held discussions with Commerzbank,

    another of the country‟s big four, but these were also abortive.

The acquisition of Dresdner by Allianz was expected to enhance the partners‟ strength in asset

    management and expand the sales of Allianz‟s pension and insurance policies through the

    bank‟s network of about 1,200 branches. While this seems to have been reasonably successful,

    the benefits have been overwhelmed by the reduction in value of Dresdner itself. Moreover,

    Allianz already sold its policies through the bank‟s branches, thanks to its existing 21.7%

    stake in Dresdner.

In 2001/2 Dresdner plunged into losses thanks to domestic bad debts and a collapse in its

    investment banking business. It claimed that, “For the USA and Europe, 2001 was the

    banking industry‟s worst year since the Second World War.”

    3.3.2 Credit Suisse and Winterthur

One of the two dominant banks in Switzerland, Credit Suisse bought Winterthur, a major

    insurance company, in 1997. The bank already distributed Winterthur‟s insurance policies

    through its domestic branch network but it made the acquisition to protect its position when it

    appeared that another group might acquire Winterthur.


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