ECB published a guide that sets out the supervisory approach to consolidation in the banking sector. The guide was finalized post a consultation process, which ended on October 01, 2020. ECB also published a feedback statement for the comments received on this guide. As part of the supervisory approach, ECB will use certain tools to facilitate sustainable consolidation projects. Such projects must be based on a credible business and integration plan, improve the sustainability of the business model, and respect high standards of governance and risk management. The guide addresses key issues such as Pillar 2 capital requirements of the combined entity, treatment of badwill (the difference between the re-evaluated book value of a bank and the price the acquirer pays), and permission for temporary use of the already approved internal models.
The guide covers the overall approach to the supervisory assessment of consolidation projects, the supervisory expectations regarding consolidation projects, the supervisory approach to key prudential aspects of the consolidation transaction, the ongoing supervision of the newly combined entity, and the application of this framework to consolidation transactions involving less significant institutions. Banks under resolution do not fall within the scope of the guide. The guide clarifies the following:
- ECB will not penalize credible integration plans by setting higher Pillar 2 capital requirements. Furthermore, during the application process, it will communicate to banks an indication of the capital levels the combined bank will need to maintain.
- Supervisors expect the profits stemming from badwill to play their role as capital of the combined bank. This means that banks are expected not to pay out, in dividends, profits stemming from badwill until the sustainability of the business model has been firmly established. ECB expects the acquirer to take advantage of a relatively low acquisition price to increase sustainability.
- ECB will accept temporary use of the existing internal models, subject to a strong roll-out plan.
The approach taken is founded on the baseline case whereby a bank subject to the Single Supervisory Mechanism (SSM) intends to acquire the control of another bank subject to the SSM. These principles remain valid with the necessary adaptations in all other cases, even when a non-bank or non-SSM bank is involved. All cases involving the proposed acquisition of a bank subject to the SSM fall under the common procedures of ECB and the relevant national competent authorities. Past experience shows that there is no “one size fits all” approach when it comes to banking sector consolidation. Consequently, a case-by-case approach based on proportionality in the application of these principles should be expected. ECB encourages parties considering consolidation to engage with supervisors early on. This will allow ECB to give preliminary feedback on such projects.
Keywords: Europe, EU, Banking, Basel, Proportionality, SSM, Regulatory Capital, Internal Model, Pillar 2, Dividend Distribution, ECB
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