Risk and Customers Key Considerations in Mergers

See related sidebar: First State Bank Discusses Its M&A Experience

"May you live in interesting times." The way the financial services industry is being battered lately, it seems as if this ancient Chinese curse was custom-made for today's banks.

Over the course of just two months, the world saw some of the most prestigious financial services firms left to die (see: Lehman Brothers), while others were compelled by the federal government into hurried unions in an effort to keep the economy afloat. After being sucked into the vortex of bad mortgages, Charlotte, N.C.-based Wachovia ($764.4 billion in assets), considered a bastion of customer service, found itself at the center of an "acquisition triangle" between New York-based Citi ($2.1 trillion in assets) and San Francisco-based Wells Fargo ($609 billion in assets), which ultimately claimed Wachovia as its prize. J.P. Morgan Chase (New York; $2 trillion in assets) became the new owner of Washington Mutual (Seattle) and its failed portfolio. Charlotte-based Bank of America ($2.7 trillion in assets) stepped back into the investment banking space with its acquisition of Merrill Lynch (even after BofA CEO Ken Lewis said he'd had his fill of that kind of banking). Most recently it was announced that Pittsburgh-based PNC ($146 billion in assets) would acquire National City (Cleveland; $150.4 billion in assets). And the list will go on, say experts.

What's most striking about these marriages is that, unlike traditional mergers, the recent spate of government-backed acquisitions leaves the acquiring banks with little time to do their homework -- including analysis of the systems integration and staffing implications of the deals. The potential for risk exposure, then, is greatly amplified. "These are shotgun weddings," says Sean Drewitt, strategy and transformation consulting leader with Paris-based CapGemini. "A lot of the preplanning and due diligence can't take place. They're finding out a lot [about the acquired assets] after the fact."

Jim Gahagan, global industry executive for financial services with Columbus, Ohio-based business process integration provider Sterling Commerce, definitely sees a distinction between the current mergers born of necessity and traditional unions. "A lot of the past mergers were very calculated, strategic plays," he explains. "This is a different climate. It's a reaction to liquidity. The rate at which this change happened and the volume of mergers occurring at one time is a big difference."

But whether a bank acquires another under duress or a merger occurs for more practical reasons around synergies and cost savings, there are several best practices banks should keep in mind to make the process less painful. BS&T contacted a number of institutions, including J.P. Morgan Chase and Bank of America, that have been involved in recent deals for their input on the current M&A environment, but all declined comment. However, the experts who help financial institutions through these lengthy integration projects have several tips to facilitate a more seamless union.

Do Your Homework

While the speed with which many of today's megamergers are occurring doesn't permit the most careful evaluation, due diligence nonetheless is vital to any successful merger plan. The acquiring banks must keep up their efforts to attempt to see what it is they are inheriting. "I can't over-emphasize homework and due diligence," says Thomas McAllister, industry principal with SAP's (Walldorf, Germany) financial services group.

McAllister was once a bank CIO and has been involved in his share of M&As while in that role. "I knew as a CIO well in advance that we were going to buy someone," he relates. "Today it's happening so fast. You still have to do the due diligence so you don't bring more risk into your own systems."

McAllister points out that with advances in technology, the available information on an acquisition target is better organized. "From a systems perspective, the information is a lot better today, especially around the financials, because the technology is so much better," he says.

Even so, there is always risk whenever two organizations' IT systems are brought together, stresses Michael Lloyd, chief scientist with RedSeal Systems, a Redwood City, Calif.-based company that develops security risk management software for vulnerability management and compliance audits. "The main worry for banks in a merger is whether it's a financial risk," he says. "You look at toxic assets as an acquiring bank. But the same is true in networking. You can take over a toxic network, too. The problem is that the security stance can vary enormously from bank to bank. If you take over a bank with less-mature processes and technologies, you take on their IT risk as well."

To mitigate such problems, Lloyd notes, more and more banks are establishing due diligence teams for the IT side. "IT due diligence has to be looked at in the same way as financial due diligence," he asserts. "If there's a security problem at the acquired bank, then it becomes your security problem." To help customers with these tasks, Lloyd adds, RedSeal offers technology that can map the defenses on a bank's network and automate the discovery of IT risk.

Of course risk assessment doesn't end when the merger is official, notes Bob Metzler, senior consultant and managing director with Charlotte, N.C.-based Project Managers, which provides change management services. "You have to do a continuous risk assessment," he says. "Many times, banks focus on the day they convert, but they haven't allowed sufficient time to understand the risk."

To sharpen their M&A focus, suggests Eric Bass, the lead for the financial services business consulting practice at Devon, Pa.-based SMART Business Advisory and Consulting, organizations should form some kind of merger management office (MMO). "A bank must understand that to gain the benefits of an acquisition in a reasonable amount of time, ... execution on a merger needs to be a core competency of the bank," he says, adding that few banks traditionally exhibit this strength. But even if a bank doesn't come into an acquisition with a long-established M&A department, Bass explains, an MMO is vital to providing a sense of cohesion and leadership throughout the merger process.

Team Effort

Tony Viola, VP with Patni Computer Systems (Mumbai), adds that an M&A team facilitates communication among the various departments involved in the integration. "What we've seen as important with regard to orchestrating these transactions is the M&A team and its ability to communicate with the key constituents in the organization -- business and IT," he comments.

Open communication, however, isn't always possible, notes Fred Cohen, group VP with Patni, who says things can really get dicey for both the acquiring bank and its target during the "quiet period" between the announcement of the merger and the closing. "The most difficult time is the quiet period," he explains. "This is before communication can flow because regulations state that both banks must still operate as separate entities. It's a period of uncertainty and lack of direction."

The prevailing uncertainty during the the quiet period, Cohen continues, can drive employees to begin looking for work elsewhere. "Staff in both banks begin spending time thinking about their careers," he relates. "People tend to leave in shifts: first it's the experts, then it's those people who may not have a huge stake in the merger but have a lot of knowledge. So the faster a bank can produce solid financial information and communicate its plan, the better." Cohen notes that Patni is working on developing tools to streamline the quiet period, but he declines to elaborate.

To minimize this kind of uncertainty, Sterling's Gahagan says, it should be clear from the beginning of the M&A process who is in charge of integration. So in addition to establishing an MMO, it is also wise to install someone to oversee the entire process, he advises. "The CEO will appoint a merger 'czar' who will make big decisions on things like which platform to move to in the future," Gahagan notes. "It's really important for everyone in both organizations to know who's in charge during the merger, especially on the technology side."

IT and Culture

Michael Cantor, VP and IT strategy, enterprise architecture and security practice leader at CapGemini, stresses that a bank cannot leave it to the IT department to make all the decisions around which platforms stay or go. "One of the most common mistakes I've seen during mergers is thinking the IT department can determine which platform will become the go-forward platform," he relates. "IT can't make the decision to shut a system down [even though] many times it becomes an IT problem. It should be decided by the business side because they do the process changes."

Colleen Smith, managing director of software-as-a-service initiatives with business application infrastructure software provider Progress Software (Bedford, Mass.), also emphasizes the business side as the key decision maker in any kind of merger-related activity. In fact, she says, it is during mergers that the degree to which a bank's business and IT sides are aligned really makes a difference. "The typical disconnect between business and IT can move more to the forefront during a merger," Smith explains. "Look at what the business requirements are and what will be required going forward as you make these decisions. The challenge for the [surviving] CIO is to present the IT strategy from a business point of view."

Sometimes, despite a bank's best efforts, the application rationalization process can still become political. "Sure it's political," says SAP's McAllister. "You're dealing with people who have pride of ownership. Now they're wondering if they should be sending out resumes." The most sophisticated system doesn't always win out, he notes. "As with anything, sometimes you have to make concessions."

Although there is no M&A tool kit that will allow banks to pull off their IT integrations without a hitch, there are technologies and methodologies that can make things easier than in the past.

Nuts-and-Bolts Tech Integration

"Having structured metrics in place from Day One is vital," says CapGemini's Drewitt. "The CapGemini Accelerated Solutions Environment [ASE] is a methodology that speeds all the aspects of an integration -- IT and culture," he claims, explaining that the ASE provides banks with metrics to quantify the actual value of an application or cost center and to help them develop strategies.

Also, the fact that more banks are adopting a service-oriented architecture (SOA) significantly helps when merging IT systems, according to Sterling's Gahagan. "Organizations that have adopted SOA tend to be more adaptable and nimble in how they perform a migration," he observes. "It makes things much easier than doing individual migrations."

Sterling also provides its own solutions to help ease merger-related IT integration. The company's Connect:Direct product is point-to-point file transfer software for data delivery of files within and between enterprises. And Sterling's Multi-Enterprise Finance Gateway (MEFG), an SOA-based integration platform, can be used to help move the migration along, according to Gahagan.

Of course the integration has to start somewhere, and how that is done and by whom is key to determining the process' success. According to Charles Gavin, a partner in the financial services practice at Diamond Management & Technology Consultants (Chicago), a costly pitfall for banks during the IT integration phase is putting too much separation between "business as usual" initiatives and merger integration initiatives.

"Look across 'business as usual' and integration and assign the appropriate workers across the products," he says. "Sometimes banks assign the people they know they will keep to 'business as usual' projects and will put more temporary workers or third parties on the integration job. You won't always get the best results this way. So look at your portfolio in totality and prioritize across both types of initiatives and come up with the right mix of resources."

The Customer Conundrum

Not to be forgotten amid all the M&A hubbub are the customers. "A merger is an imposition to the client," states Patni's Cohen. "You'd better do it right and make sure it's seamless; otherwise people will just walk out."

Diamond's Gavin says customers should be core to a bank's merger integration strategy. "Retaining customers is a challenge," he acknowledges. "Historically the focus in M&As was on shareholder value. Now, with the speed of these new mergers, there will be even more pressure to focus on the customers. You have to earn their trust -- take advantage of the merger to improve the customer experience and establish a customer-centric culture. So banks should focus their integration strategies around the customers."

This is about more than how many products customers have with the bank -- it's about the personal relationships, says CapGemini's Drewitt. "Say a commercial bank acquires an investment bank," he offers. "If you're a high-net-worth individual with the investment bank and your adviser doesn't like the new organization, the business moves with the adviser; so you need to see who owns the relationships, too."