As M&A becomes increasingly complex due to cross-border deals, marriage/combination between conventional and Islamic, tri-party merger and such, risk elements also increase. R LAKSHMANAN takes us through these issues.

Over the past decade or so the number of mergers and acquisitions in the Islamic banking industry have steadily increased as Islamic financial institutions continue to: pursue growth opportunities within and outside their geographic location, develop synergies with competition, strive for operational efficiency, bolster capital for scalability or regulatory reasons. In fact Islamic financial institutions have been upping the ante in M&A over the last few years in terms of cross-border deals for e.g. in Malaysia, Pakistan and Turkey; the tripartite merger between Bahrain-based Capivest, Capital Management House and Elaf Bank; the acquisition of retail banking business of Barclays (conventional) in the UAE by Abu Dhabi Islamic Bank, business combination between Bahraini retail and commercial bank BMI Bank (conventional) and Al Salam Bank Bahrain. We now have the possibility of witnessing emergence of a mega Islamic bank in Malaysia with the proposed merger of CIMB Group, RHB Capital and Malaysia Building Society with operations spread across the globe.

The first and foremost question is how different is Islamic M&A in comparison to conventional? Irrespective of whether conventional or Islamic, mergers and acquisitions in general is complex involving several issues such as managing cultural differences of organization and people, dealing with varying styles of leadership, adapting to different strategies, detailed due diligence, considering various valuation methodologies, agreement of payment form for purchase/sale consideration — use of combination of cash/securities, meeting contractual obligation, assessing employee related issues, impact on technology, managing financial and legal risks, analyzing impact of regulatory provisions, reviewing changing macro-economic conditions and last but not least addressing concerns of shareholders, regulators and politicians. Since risks are embedded throughout pre-deal and post-deal stages, above issues must be carefully considered and dealt with to achieve a fully integrated business within set time and cost considerations.

In Islamic M&A, we must additionally consider the following:

• Shariah-related issues between proposed merging or acquirer/target entities such as governance structure of Shariah board taking into account size, depth of knowledge and experience and conflict of interest, Fatawa divergence impacting business for example use of Tawarruq structure, compliance issues that may result in income/profit being set aside for charity and availability of grace period during conversion to Islamic.
• Corporate branding — The new entity’s name and logo should take into consideration its values and positioning across different markets. Organizations must take care not to alienate its existing customers based on corporate brand. An example of successful unified identity creation is by Al Baraka Banking Group, which operates in 15 countries.
• Employees — Availability of qualified and experienced personnel in Islamic finance, training needs and employee turnover must be given due consideration.
• Customers — Does the new set of customers fit target profile of the acquirer such as Muslims and non-Muslims alike and potential impact on customer base due to changes in products/structures?
• Operations/Technology — Time and cost of conversion/integration of conventional to Islamic — this is a key driver for decision making.
• Accounting — Impact of financial statement presentation in line with relevant accounting standards and accounting complexities should not be underestimated. For example, there may be inconsistencies due to adoption of IFRS and AAOIFI standards.
• Regulations — Certain jurisdictions may have separate regulations for Islamic financial institutions which must be thoroughly considered.

Nowadays several organizations are using M&A as core growth strategy. Such organizations are prone to higher risk as they would have to constantly deal with above aspects perhaps in varying form and shape during each transaction.

Ultimately it is not about doing mergers and acquisitions deal by seeing potential value, it is about how successfully M&A deal has worked on several aspects including risk mitigation to have a new and fully integrated business. Otherwise, we will end up adding more to the tally of historically failed deals for not creating lasting shareholder value.

R Lakshmanan is the founder and managing director of Pyramid Specialized Management Consulting. He can be contacted at Lakshmanan@pyramidsmc.com.