Effects of Bank Consolidation on Small Business Lending

1. Effects of Bank Consolidation on Small Business Lending By Gek Peng Yeo

2. Why this topic? • Small business represents half of the private sector economy • Small business – key driver of entrepreneurship and employment growth • Bank consolidation affects small business lending, and economy indirectly

3. Outline • Literature Studies on Bank Consolidation • Analysis • Large Bank vs. Small Bank • Static, Dynamic, and External Effects • Economic and Business Strategy Analysis • Conclusion

4. Literature Studies • Strahan 96 – Small banks owned by large banking companies hold fewer small business loans • Peek, Rosegren 98 – Merger has no effect, in fact, mergers frequently raise the small business lending • Strahan 98 –Organizational diseconomies vs. Size-related diversification

5. Literature Studies • Berger 98 – Small business lending increases following small bank merger • Berger 98 – Static, dynamic, and external effects on bank consolidation • Berger 02- Transactions-based lending vs. Relationship lending • DeYoung 04 – Past, present, and future of community banks

6. Large Bank vs. Small Bank • Mid, small, and rural banks decreases • Large bank increases

7. Avg. Loan Size vs. Bank Size As bank size grows, average small business loan size grows R2 is low at 0.09, but all bank size parameters are statistically significant SBL/TA vs. Size As bank size grows, SBL/TA reduces R2 is low at 0.04, but all bank size parameters are statistically significant Regression Analysis – Bank Size vs. Small Business Lending More parameters needed, but that’s okay

8. Transactions-based Mostly used by large banks Based on ‘hard’ information Financial statement, asset, credit score Relationship Mostly used by small banks Based on ‘soft’ information More importantly, info gathered over time: owner’s reputation, supplier, customer, community Transactions-based Lending vs. Relationship Lending

9. Static, Dynamic, and External Effects • Static – when two banks merge, the merged bank should have the same portfolio of SBL as a similar size bank • Dynamic – based on bank’s goal and specialization, they may restructure and direct to SBL business • External – reaction from other banks and non banks based on merged banks decision

10. External Effects Analysis • 1980 -96 – Non bank share increases • 1987 -93 – Finance companies SBL loan grows faster than bank

11. Economic Analysis Rate • Rate may increase if without external effects • Small business may find it harder to allocate loans D S2 S1 Quantity

12. Business Strategy Analysis • Net interest income inversely proportional with bank size • Service charges inversely proportional with bank size • 1980 – 2001 - ROE for large banks increases, ROE for small banks drops • 2001 - Highest Sharpe ratio at large community banks

13. Business Strategy Analysis

14. Strategic Group Positioning Small Cost Large Mid and Large Community Information

15. Conclusion • Main goal of recent mergers among small banks is to position themselves as large community banks • Large community banks will continue to supply small business lending as long demand continues • Ineffective small banks will exit banking industry • Relationship lending continues unless viable small business credit scoring fully adopted • Effects of bank merger on SBL supply and rate are more important locally

16. Thank You!! High Five!! Class almost over!!