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Do Bankers Sacrifice Value to Build Empires? Managerial Incentives, Industry Consolidation, and Financial Performance

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Author Info
William Lang () (Office of the Comptroller of the Currency)
Choon-Geol Moon () (Hanyang University)
Loretta Mester () (Federal Reserve Bank of Philadelphia)
Joseph Hughes () (Rutgers University)
Michael Pagano () (Villanova University)

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Abstract

Bank consolidation is a global phenomenon. It may enhance the value of firms in the industry if, for example, it is driven by scale and scope economies, but skeptics often accuse bankers of sacrificing value to build empires. Using data on bank holding companies in the U.S., we find strong evidence of managerial entrenchment that influences how asset acquisitions and sales affect financial performance. We measure bank financial performance both by Tobin's q ratio and by its failure to achieve its highest potential market value, which we estimate using a stochastic frontier technique. We find evidence of entrenchment at banks with higher levels of managerial ownership, better growth opportunities, poorer financial performance, and smaller asset size. However, when managers are faced with better growth opportunities, they generally appear to have an elastic demand for agency goods (perquisites, shirking, risk avoidance, etc.). With regard to empire building, we find that an increase in asset size achieved by internal growth is associated with better performance at most banks, but an increase in acquired assets is associated with worse performance at banks with entrenched managers. In contrast, a larger amount of sold assets by banks with entrenched management is related to improved performance. We do not obtain this asymmetry between the effect of sales and acquisitions at banks not exhibiting entrenchment: larger sales and larger acquisitions both improve performance, a result predicted by Shleifer and Vishny (1989). Our evidence is consistent with the often cited role of scale economies as a driver of bank consolidation, but it also suggests that the benefits of asset acquisitions are not obtained by entrenched managers, who may be able to resist market discipline to build empires.

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Paper provided by Rutgers University, Department of Economics in its series Departmental Working Papers with number 200117.

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Date of creation: 08 Dec 2001
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Handle: RePEc:rut:rutres:200117

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Keywords: consolidation;

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Find related papers by JEL classification:
G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Capital and Ownership Structure

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

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    Other versions:
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Wim Fonteyne, 2007. "Cooperative Banks in Europe--Policy Issues," IMF Working Papers 07/159, International Monetary Fund. [Downloadable!]
  2. Atul Gupta & Bently Lalatendu Misra, . "Deal size, bid premium, and gains in bank mergers: The impact of managerial motivations," Working Papers 0004, College of Business, University of Texas at San Antonio. [Downloadable!]
  3. O. De Jonghe & R. Vander Vennet, 2007. "Competition versus Efficiency: What drives franchise values in European banking?," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 07/491, Ghent University, Faculty of Economics and Business Administration. [Downloadable!]
    Other versions:
  4. Michael Koetter, 2004. "The Stability of Efficiency Rankings when Risk-Preferences are different," Working Papers 04-08, Utrecht School of Economics. [Downloadable!]
  5. Koetter, Michael, 2006. "The stability of efficiency rankings when risk-preferences and objectives are different," Discussion Paper Series 2: Banking and Financial Studies 2006,08, Deutsche Bundesbank, Research Centre. [Downloadable!]
  6. Koetter, Michael & Wedow, Michael, 2005. "Finance and growth in a bank-based economy: is it quantity or quality that matters?," Discussion Paper Series 2: Banking and Financial Studies 2006,02, Deutsche Bundesbank, Research Centre. [Downloadable!]
  7. Joseph P. Hughes & Choon-Geol Moon, 2004. "Estimating managers' utility-maximizing demand for agency goods," Proceedings, Federal Reserve Bank of Chicago, issue May, pages 320-352. [Downloadable!]
  8. Fatma Cebenoyan & Donal Byard, 2003. "Firms’ Relative Operational Efficiency and Analysts’ Earnings Forecasts," Hunter College Department of Economics Working Papers 302, Hunter College: Department of Economics. [Downloadable!]
  9. Loretta J. Mester, 2003. "Applying efficiency measurement techniques to central banks," Working Papers 03-13, Federal Reserve Bank of Philadelphia. [Downloadable!]
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