The NatWest Takeover Battle Jim Mahar St. Bonaventure University This Version: April 2002 First Version: April 2001 I would like to thank Erin Bergstrom, Rebecca Eschler, Ryan Ferguson, and Chris Mickelson for their help on this case. Of course all errors are mine and mine alone! This case deals with the Takeover of National Westminster Bank. During late 1999 and early 2000, the company was the target of two unsolicited takeover bids. The resulting takeover battle was one of the hardest fought in recent years. Valuation of any synergy created by the deal was of paramount importance, as the bidders did not want to bid too high yet both sides wanted to win the bidding war. Banking Industry The banking industry in the late 1990s can be categorized by three major trends: Deregulation, Technological innovation, and Globalization. These trends combined to induce a consolidation in the industry that knew no borders. The mantra heard in corporate boardrooms and analyst conference calls was “bigger is better.” The rationales for this were largely twofold. On the operational side, banks believed that only by being larger than the competition could they take full advantage of the economies of scale and economies of scope that the technology revolution was offering. Thus, from an operational point of view, by getting larger, banks hoped to reduce their expense ratios while enjoying greater market power, thereby earning a higher net interest margin. On the marketing side of the business, banks also felt that bigger was better. Deregulation in the US and elsewhere had made the buzzwords of "relationship banking" and "cross-selling" more than academic musings. To bank executives everywhere, these words represented the keys to winning back some of market share that banks had been losing to equity markets and other financial intermediaries. (Tables I and II) Table 1 Relative Share of Total Financial Intermediary Assets (in Percent) US Data 1960 1970 1980 1990 1994 1999 Depository Institutions Banks 38.6 38.5 37.2 30.4 28.6 22.6 S&L (Mutual Savings) 19.0 19.4 19.6 12.5 7.0 4.3 Credit Unions 1.1 1.4 1.6 2.0 2.0 1.6 Total Depository 58.7 59.3 58.4 44.9 37.6 27.5 Institutions Insurance Companies 24.0 19.1 16.0 16.4 17.6 14.9 Pension Funds Private 6.4 8.4 12.5 14.9 16.2 18.7 Public (state and local) 3.3 4.6 4.9 6.7 8.4 11.0 Finance Companies 4.7 4.9 5.1 5.6 5.3 3.7 Mutual Funds Stock and Bond 2.9 3.6 1.7 5.9 10.8 17.2 Money Market NA NA 1.9 4.6 4.2 6.0 Total 100.0 100.0 100.0 100.0 100.0 100.0 Source: US Board of Governors, Flow of Funds Table 2 Relative Share of Total Financial Intermediary Assets (in Percent) UK Data 1913-1995 1913 1930 1939 1950 1960 1970 1980 1990 1995 Banks 64 60 55 65 40 30 31 33 28 Building 4 8 12 9 12 18 22 17 11 Societies Insurance 32 31 32 26 30 28 23 23 30 Companies Pension NA NA NA NA 14 16 18 25 27 Funds Investment NA NA NA NA NA 7 4 3 3 Trusts Finance NA NA NA NA NA 1 1 1 1 Companies Total as % 71 99 109 112 106 131 129 251 310 of GDP Source: The Complete Finance Companion It was in this environment that National Westminster Bank PLC of England, a bank with takeover and diversification plans of its own, became the acquisition target of two smaller banks in late 1999. The ensuing battle lasted five months and ranks as one of the most famous takeovers in recent history. The participants A. National Westminster. In the late summer of 1999, National Westminster Bank PLC of England (NatWest) was the fourth largest bank in the UK. The bank had a rich history that could be traced back, at least indirectly, to 1658 when Smith’s of Nottingham was founded. The current version of the company had come into existence in 1968 when National Provincial and Westminster banks merged. Partially as a result of a lack of a clear strategic plan, the firm had hesitated on several occasions, and even reversed paths on some issues. The firm had earned the reputation of being poorly managed and the company’s stock had suffered as a result. In spite of NatWest's poor stock performance, the firm was still very much a household name because of their 1700 branches, their former ownership of NatWest Towers, and their sponsorship of the UK Cricket Championships the firm was still very much a household name. Due in part to their suffering stock price, management had decided that that to remain a viable player (and not be taken over themselves) they had to grow. On September 3, 1999 they announced a merger with Legal and General for approximately L10.75 billion. It was hoped that this merger would allow NatWest to sell Legal and General’s Insurance products and services to NatWest’s larger client base. The news of this merger upset many NatWest stockholders who saw it as further proof that NatWest was being managed poorly and triggered more selling of the stock, which proceeded to fall by 26% over the next three weeks.1 B. Bank of Scotland While significantly smaller than NatWest, the Bank of Scotland (BOS) also had a long history that could be traced directly back to its founding in 1695 by Act of the Parliament of Scotland. It was from this history that the Bank could lay claim to being the first bank to issue paper currency. Throughout most of its history, the bank had earned a solid reputation. However, in recent years the Bank had not lived up to its reputation. While technologically competent, the firm had suffered a 2 million-pound loss, as well as a loss of reputation, after public outcry forced the dissolution of a planned joint venture with evangelist Pat Robertson. Following this debacle, the firm publicly announced they would continue with international expansion plans. C. Royal Bank of Scotland The Royal Bank of Scotland (RBOS) could trace its history back to 1727, but it was probably most known for its consistent innovation. From offering what amounted to the world's first overdraft in 1728, to being one of the most technologically advanced banks in 1999, the bank had prided itself on a strong management team and its willingness to try new things, including being pioneers in ATMs, personal lending, and telephone banking. The firm grew both through acquisitions as well as internal growth. Some of the acquisitions had already made Royal an international player with the largest being the 1988 purchase of Rhode Island based Citizens Bank. At the time of the first bid, Royal had 650 branches and had earnings of over a billion pounds. 1 NatWest Takeover: a chronology. BBC, February 10, 2000 http://news6.thdo.bbc.co.uk/hi/english/business/newsid_626000/626198.stm Table 3: Operating Statistics of the participants involved * NatWest Royal Bank Bank of Scotland (RBOS) Branches 1730 650 325 Employees 64,400 22,000 21,000 Annual profits 2.142bn 1.21 bn 1.01bn Assets 186bn 75bn 59.8bn EPS 0.97 0.88 0.44 P/E 12.25 9.27 12.51 Shares Outstanding 1.67bn 891.83mn 1.24bn Market cap on 9/22/99 17.3bn 10.2bn 8.62bn Market cap on 9/24/99 22.66bn 11.4bn 9.3bn Market cap on 3/10/00 19.84bn 7.26bn 6.89bn Ticker symbol on LSE NWB RBOS BSCT Incorporation year 1968 1727 1695 CEO David Rowland George Matthewson Peter Burt * Profits, assets, and market capitalizations in pounds. The Battle On September 24, 1999, the Bank of Scotland (BOS) launched a hostile bid for NatWest. This bid was partially the result of the price drop following already poor performance and NatWest's Legal and General merger announcement. It was also a part of a strategy by BOS that they had to grow to survive in an increasingly concentrated world financial industry. The bid was for 20.8 billion pounds (or 1250 pence per share). This bid was notable for several reasons. First it was hostile. Hostile bids, although not unheard of, were relatively rare in the late 1990s and even more so in Europe. Secondly, the bid was from the Bank of Scotland, which was a much smaller firm. The Bank of Scotland was roughly a third of the size of NatWest (see table 3). Finally, NatWest was already in the midst of acquiring Legal and General. NatWest immediately brushed off the offer by saying the offer was inadequate, from an inferior organization, and that they intended to remain independent. The initial market reaction to the Bank of Scotland’s bid was an immediate jump in value of NatWest’s stock by roughly 30% to 1350 pence per share. (See Figure 1) This price was well above the offer price of 1250 pence and signaled the markets belief that other bids would be forthcoming. Where these other bids would be coming from was uncertain. The most commonly rumored firm was Royal Bank of Scotland who by various analysts was seen as another hostile bidder or as a white-knight ready to save NatWest (and NatWest’s management) from the BOS. Additionally, there were even rumors of a Pac-man defense where NatWest would launch a hostile bid at its smaller rival. With NatWest's stock price above the offer price, management of both sides went public in an attempt to win shareholder approval for their plans. The public relations onslaught was one of both positive and negative campaigning; each side attacked the other side while advocating their own plans. The Bank of Scotland argued that NatWest was poorly managed and that the combined firms would save upwards of a billion pounds per year by making use of the Bank of Scotland’s information systems and closing select branches. While the Bank of Scotland looked for ways to take over its large target and change the operations of the bank, NatWest looked for ways to remain independent. Deciding that no single strategy would work, the Board of Directors launched a shotgun defense where they tried many things at once. On October 8, two weeks after the first announcement of a bid, NatWest's Board of Directors ousted CEO Derek Wanless (although he was allowed to step down) and replaced him with the well-respected Sir David Rowland, the former Chairman of Lloyds Insurance. Rather than being the final shot in the battle, Rowland's hiring signaled an escalation of the struggle for the bank. On October 11, Rowland announced that NatWest was abandoning the Legal and General Bid. On October 27 NatWest implicitly admitted that critics were correct and that the firm did have too much fat in their operations. Rather than let the BOS win, NatWest announced their own cost savings plans that included layoffs, as well as selling off of non-core assets. While in many ways mimicking the plans of Bank of Scotland, NatWest still took every opportunity to belittle the BOS and to tell whoever would listen that the bank was not for sale and that even if it were, the bid was insufficient, and that BOS could never manage such a large firm. While NatWest and the Bank of Scotland battled publicly, Royal remained quiet. Officially they waited. However, behind the scenes, Royal’s analysts and Investment Bankers scurried to value NatWest and decide whether to launch their own bid. In England, as in most countries, the government must approve any takeover. The rational for requiring governmental approval is to assure that shareholders are treated fairly, and to prevent anti-competitive merges from taking place. In England, the government's OK makes the bid official and begins the official clock. The deal must now be settled within the next 60 days. Since any bid must be open for a minimum of 14 days, the last day a bid could be altered is day 46. (Table 4) Table 4: Regulatory steps for a takeover These are the steps that a company must take if it wants to take over another, as laid down by the Panel of Takeovers and Mergers: Once a firm intention has been announced, the company making the offer must post an offer document to all shareholders within 28 days. At least 50% of all shareholders must return their acceptance forms, backing the offer, by the 60th day after the company's mailing. If fewer than 50% agree, the offer cannot go ahead and the bid has to lapse. Since any revised offer has to be capable of being open for 14 days, the last date the company can revise its bid is day 46 (14 days before the 60-day deadline). The target company may want to put up arguments against the takeover. It is entitled to do so, and the company making the offer is entitled to have seven days in which to react. So the last date in which the target firm may put up its arguments is day 39 (seven days before day 46). Source: http://news.bbc.co.uk/hi/english/business/default.stm On November 25, 1999, two months after the Bank of Scotland first announced plans to take over NatWest, the smaller bank received governmental approval and the sixty-day clock was started. The deal now needed to be done by mid February. On November 27, the initial bid 1250 pence bid was raised to 1457 pence per share plus a probable 120 pence dividend from the savings that the merger would create. The 1457 bid would be made up of cash and notes for 190 pence plus 1.75 shares of the Bank of Scotland (valued at 724 pence) plus a 120 pence dividend. NatWest again countered that the offer was insufficient and that they were not for sale. This bid, and the government's approval of the deal, forced Royal into more public action. After two months of studying NatWest, Royal decided to make a friendly offer for the larger firm. However, NatWest maintained its stance and said that it was not for sale. Royal was now faced with a decision: should they walk away from the potential deal, or should they enter into a potentially expensive bidding war with the Bank of Scotland for a firm that was roughly three times the size of either of its suitors and that did not want to be taken over? The decision did not take long. On November 29, 1999, Royal launched a hostile takeover bid for NatWest. The bid, which was worth 1590 pence per share, allowed shareholders to convert each NatWest shares into .968 shares of Royal Bank stock. At the heart of the valuation was how much synergy existed between the companies. Synergy, which is notoriously difficult to estimate and has been the cause of many firms overpaying in deals, is the idea that two firms are worth more together than the sum of their combined independent values. One of the main sources of value in this deal was the cost savings that would arise from the deal. Royal felt that they could squeeze 1.18 billion pounds of savings per year from the combined firms through a series of layoffs and asset sales. The Bank of Scotland similarly felt that money could be saved, but they were not quite as optimistic. They believed that approximately 1.02 billion pounds would be saved annually. However, the savings were not guaranteed and there was considerable risk of being overly optimistic. NatWest's management figured that its own cost savings plan would shave 525 million from expenses. Since each side was offering roughly the same amount as the other, any decision would be more than just a simple pound and pence decision. Thus, all three sides continued to actively court shareholders’ votes. Top executives visited major shareholders in what was comparable to an IPO roadshow. Indeed, some even traveled to America to speak with institutional investors once it was found that a large block of shares was in US investors’ hands. There were now two hostile bidders going after the same prize. After Royal’s bid cleared regulatory hurdles, both sides repeatedly tried to increase their bids. Interestingly, this had little effect because as both of the offers were partially for shares of the bidder, and the bidder raised the offer, the value of the outstanding shares fell in value dragging down the value of the offer. (Figure 1) As the battle raged on and the campaigning continued, the stock prices continued to fall. The price declines were part of the larger industry-wide decline caused by rising interest rates, however, it soon became apparent that it was more than just rising rates, but that the market was saying that things were not going as well as had been originally hoped. This is shown in the industry-adjusted performances of the participants, which was decidedly negative over the course of the takeover battle. Consistently, as one side got an upper hand in the bidding war, that bank’s stock fell by more. This was widely reported as evidence of a “Winners curse.” Further, since the bids were at least partially in shares, the value of NatWest also fell. The fact that the market prices did not rise dramatically strengthened NatWest's resolve to keep fighting. They continued to resist the bids, and announced their plan to return 6.5 billion pounds to shareholders. This payout would take the form of both a buyback and a dividend. They intended a 3.5 billion-pound share buyback to occur immediately and ten they hoped to sell non-core assets and segments and return 3 billion in proceeds to shareholders and cut jobs to generate cost savings that would allow for a 31.9 pence dividend per share. In addition to the planned disbursements to shareholders, they constantly disclosed various reasons why either takeover would be detrimental to current NatWest shareholders. Due to BOS' 60-day clock, their final bid had to be submitted on January 31. While not significantly higher than previous bids, the new bid gave NatWest shareholders a variety of options that had the basic effect of increasing the cash portion on the deal. This gave the shareholders the option of reducing their exposure to the banking industry while generating cash. (Table 5) The final bids of each side were quite similar in value. Therefore, NatWest shareholders needed to consider the allocation of the offers between cash and stock and the proposed strategies once the takeover was complete. A week of intense debate followed BOS's deadline. While shareholders officially had two weeks to consider the offers, it soon became apparent that Royal was gaining the upper hand with institutional shareholders. On February 11, the Bank of Scotland admitted the battle was lost. On February 14, NatWest gave up the fight and admitted that Royal had the votes to acquire the larger bank. Victory was sustained because Royal was able to gain the support of many of NatWest’s largest shareholders. However, the market was not happy with the deal and Royal's shares fell. Some of the market's apprehension came from the daunting challenges of making the deal work. The combining of the two banks, the personnel, the computer systems, as well as marketing and cost cutting that would be necessary to make the deal work, would be challenging to any firm, but especially so to a firm that had just acquired a much larger rival. Table 5: Summary of Bids for NatWest Date Bank of Royal Bank NatWest Share Scotland Price Sept. 24, 1999 Stock 1.6 @ 706.5 pence per NatWest share Loan** 120 pence per share Value per share 12.50 pounds 10.46 pounds Nov. 27, 1999 Stock 1.75 @ 724.5 pence per NatWest share Loan ** 190 pence per share Value per share 14.57 pounds 15.18 pounds Nov. 29, 1999 Cash 305 pence per share Stock .968 @ 1328 pence per NatWest share Value per share 15.9 pounds 15.18 pounds Jan. 27, 2000 Loan ** 110 pence per share Cash 190 pence per share Stock 1.75 @ 660.5 pence per NatWest share Value per share 14.56 pounds 12.34 pounds Jan. 31, 2000 Cash 356 pence per 400 pence per share share Stock 1.75 @ 620 pence .968 @ 1002 pence per NatWest per NatWest share share Special Dividend* 70 pence per share Value per share 14.41 pounds 14.40 pounds 11.88 pounds Note: - 100 pence are equivalent to 1 pound * The Royal bid on January 31st included a special dividend of 1 pound per share payable by 2003, which was equivalent to 70 pence on the valuation date ** Special stock units or a cash alternative Table 6: A summary of the significant events in the saga to acquire NatWest Event Date Event Description 1 Sept. 3, 1999 NatWest announces plans to pursue a merger with Legal & General 2 Sept. 22, 1999 NatWest share price down 26% as shareholders express concerns over L&G deal 3 Sept. 24, 1999 BoS begins hostile bid for NatWest 4 Oct. 6, 1999 NatWest ends its merger attempt with L & G 5 Oct. 8, 1999 CEO Derek Wanless is fired and replaced by David Rowland 6 Oct. 27, 1999 NatWest plans to cut jobs and sell off businesses as part of its defense 7 Nov. 2, 1999 Andersen Consulting questions BoS's savings estimates 8 Nov. 25, 1999 BoS gets clearance to bid 9 Nov. 27, 1999 BoS raises offer 10 Nov. 29, 1999 RBoS bid turns hostile after friendly negotiations with NatWest fail 11 Dec. 17, 1999 RBoS's bid is cleared 12 Dec. 20, 1999 NatWest's first official response to RBoS bid urges shareholders to remain independent 13 Jan. 20, 2000 BoS increases its revenue estimates for NatWest if it gains control 14 Jan. 25, 2000 NatWest closing defense issued, promises to return 3.5bn pounds to shareholders 15 Jan. 27, 2000 BoS increases its bid again 16 Jan. 31, 2000 Both RBoS and BoS increase bids 17 Feb. 11, 2000 BoS admits defeat by RBoS 18 Feb. 14, 2000 NatWest surrenders to RBoS Stock Value in Pence 09 /0 1/ 09 199 0 200 400 600 800 1000 1200 1400 1600 /0 9 8/ 09 199 /1 9 5/ 09 199 /2 9 2/ 09 199 /2 9 9/ 10 199 /0 9 6/ 10 199 /1 9 3/ 10 199 /2 9 0/ 10 199 /2 9 7/ 11 199 /0 9 3/ 11 199 /1 9 0/ 11 199 /1 9 7/ 11 199 /2 9 4/ 12 199 /0 9 1/ 12 199 /0 9 8/ Date 12 199 /1 9 5/ 12 199 /2 9 Figure 1 A 2/ 12 199 /2 9 9/ 01 199 /0 9 Stock Price Movements 5/ 01 200 /1 0 Figure 1 A: Closing stock prices for participants in NatWest takeover battle. 2/ 01 200 /1 0 9/ 01 200 /2 0 6/ 02 200 /0 0 2/ 02 200 /0 0 9/ BOS 02 200 /1 0 6/ 02 200 0 NATWEST /2 3/ 20 00 RBOS Figure 1 B Bank Index Adjusted Returns 30 20 Percentage Abnormal Return 10 NatWest 0 RBoS BoS 9 9 9 9 9 9 9 9 9 0 0 0 0 9 9 9 9 9 9 9 9 9 0 0 0 0 19 19 19 19 19 19 19 19 19 20 20 20 20 1/ 5/ 9/ 3/ 7/ 0/ 4/ 8/ 2/ 5/ 9/ 2/ 6/ /0 /1 /2 /1 /2 /1 /2 /0 /2 /0 /1 /0 /1 09 09 09 10 10 11 11 12 12 01 01 02 02 -10 -20 -30 Date Figure 1 B: Bank industry adjusted returns for NatWest, Royal Bank of Scotland, and Bank of Scotland. Return equals bank's return - average return for all other publicly traded UK banks. Some questions that must be examined in the post merger evaluation: a) How did synergy enter the valuation process? Its b) Why do you think that NatWest tried so hard to maintain independence? c) The best defense is often taking away the reason for the takeover. Did NatWest try this? Was it successful? d) Do you think that managerial incentives played a key role in this case? How? e) Describe and discuss the possible takeover defenses that NatWest could have employed as an attempt to remain independent? f) Why did Royal wait and delay their entry into the contest? g) Explain what is meant by the "winner's curse" and its role in this case. h) What role did regulators play in the dealings? i) Discuss the role of institutional shareholders in the case. j) What impact did the merger have on the financial industry? k) If you were a manager in the banking industry, what would you do to gain market share? Why do many feel that cost cutting is so important in the industry? l) Briefly explain what has happened after this case. m) Examine the deal through the eyes of various stakeholders. Can you identify winners and losers?
Pages to are hidden for
"The NatWest Takeover Battle Jim Mahar St Bonaventure University"Please download to view full document