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ESBG response to the ECB consultation on its supervisory approach to consolidation in the banking sector

ESBG response to the ECB consultation on its supervisory approach to consolidation in the banking sector

​​​​ESBG (European Savings and Retal Bianking Group)

Rue Marie-Thérèse, 11 - B-1000 Brussels

ESBG Transparency Register ID: 8765978796-80


Published: 7 October 2020

Submitted: 1 October 2020


>> See .pdf version

 



Dear Sir/Madam,


The European Savings and Retail Banking Group (ESBG) and its members welcome the opportunity to contribute and comment on the work of the European Central Bank (ECB) on the ECB’s supervisory approach to consolidation.

The ESBG appreciates the ECB's initiative to publish a guide that clarifies the current prudential supervisory approach to consolidation in the banking sector. We share the main objectives of improving the applicability of the current regulatory framework by increasing its transparency, offering predictability as well as the adoption of a flexible enough approach to evaluate consolidation transactions on a case-by-case basis. The guide is a step forward in the right direction since it establishes a roadmap on merges and acquisitions by including the treatment of key aspects such as the determination of Pillar 2 Requirements (P2R) and Pillar 2 Guidance (P2G), the bad will or the use of internal models, among others issues. 

We would like to share with you some reflections that we believe will contribute to improve the supervisory approach and, therefore, we hope will be considered by the ECB.


Comments:


1) Paragraph 8, page 3, Section 1.2.1 (Early communication), type of comment: clarification.

It is understood that the ECB is keen to be involved in a banking consolidation transaction asap and before the public information of market participants occurs. In that respect, we would like to mention that parties of a consolidation transaction will have to be compliant with all obligations related to Confi-dentiality Agreements, which might limit the freedom to disclose even the sheer existence of the specific consolidation opportunity (however, this can be addressed in the NDA/CA).

Concise statement why the comment should be taken on board: It reflects the practical implementation of such projects.


2) Paragraph 9, page 3, Section 1.2.1 (Early communication), type of comment: clarification.

It should be taken into account that in an early stage of the process and with respect to the mostly tight time schedules, business plans and integration plans are usually drawn up based on a set of assumptions with a significant degree of uncertainty, which during due diligence can be narrowed down but not elimi-nated. Therefore, the earlier the ECB is involved the less detailed and reliable the provided information might be. Even at signing of a transaction document such business and integration plans may still be, to a certain extent, abstract and high level and mainly reflecting the one-sided management view of the pur-chasing party. These plans will however be refined further in a later stage in parallel to the regulatory application procedure and finalized once the interaction and information flow between the two entities is not restricted anymore. Especially the IT-integration, which requires interaction between both sides and with external providers regarding the planning of necessary changes and developments to close identified gaps in order to establish realistic time plans and milestones.

Concise statement why the comment should be taken on board: It reflects the practical implementation of such projects.


3) Paragraph 1, page 1, Introduction, type of comment: clarification.

We would like to stress that in a microeconomic dimension all these activities pertain to the core func-tions of the banks´ corporate bodies and are to be fulfilled in addition to the business-as-usual activities and other business initiatives and projects. A timely execution - including the time period between sign-ing and closing – is a key success factor for a transaction and it reduces operational risk. Execution risks are inherent to integration projects and in case they materialize, the steering and the management of such risks and of the related mitigation measures is a key task of the project management and the Corporate bodies of the bank(s). We expect that “close supervision by ECB in the implementation phase” does not result in unreasonably excessive, additional workload and/or unplanned regulatory reviews, which could endanger successful and in-time implementation.

Concise statement why the comment should be taken on board: It reflects the practical implementation of such projects.


4) Paragraph 13, page 4, Section 1.2.3 (Implementation phase), type of comment: clarification.

We would like to stress that in a microeconomic dimension all these activities pertain to the core func-tions of the banks´ corporate bodies and are to be fulfilled in addition to the business-as-usual activities and other business initiatives and projects. A timely execution - including the time period between sign-ing and closing – is a key success factor for a transaction and it reduces operational risk. Execution risks are inherent to integration projects and in case they materialize, the steering and the management of such risks and of the related mitigation measures is a key task of the project management and the Corporate bodies of the bank(s). We expect that “close supervision by ECB in the implementation phase” does not result in unreasonably excessive, additional work-load and/or unplanned regulatory reviews, which could endanger successful and in-time implementation.

Concise statement why the comment should be taken on board: It reflects the practical implementation of such projects.


5) Paragraph 30-32, page 9, Section 3.3 (Badwill), type of comment: clarification.

We appreciate that the ECB encourages banks to benefit from the generation of badwill in the frame-work of consolidation transactions, while we do not expect the implementation of any additional regula-tory requirements or limitations beyond the requirement of appropriate accounting treatment of badwill, according to the applicable accounting principles. It might be a rather questionable method to increase provisions without material indication. Should the accounting treatment of risk provisions and charges for integration costs really be different from a so called “goodwill-generating” or “at book value” trans-action? 

Besides, it should be noted that badwill itself does not generate an additional capacity to increase provi-sions or cover restructuring costs. This capacity depends in practice on excess capital/solvency. The ECB should be aware of this because some M&A may generate badwill but no excess capital and thus no capacity to increase provisions.

Concise statement why the comment should be taken on board: It refers to the accounting standards and reflects the practical implementation.


6) Paragraph 31, page 9, Section 3.3 (Badwill), type of comment: clarification.

We appreciate that the ECB encourages banks to benefit from the generation of badwill in the frame-work of consolidation transactions, while we do not expect the implementation of any additional regula-tory requirements or limitations beyond the requirement of appropriate accounting treatment of badwill, according to the applicable accounting principles. It might be a rather questionable method to increase provisions without material indication. Should the accounting treatment of risk provisions and charges for integration costs really be different from a so called “goodwill-generating” or “at book value” trans-action?

Concise statement why the comment should be taken on board: It refers to the accounting standards and reflects the practical implementation.


7) Paragraph 32, page 9, Section 3.3 (Badwill), type of comment: clarification.

We appreciate that the ECB encourages banks to benefit from the generation of badwill in the frame-work of consolidation transactions, while we do not expect the implementation of any additional regula-tory requirements or limitations beyond the requirement of appropriate accounting treatment of badwill, according to the applicable accounting principles. It might be a rather questionable method to increase provisions without material indication. Should the accounting treatment of risk provisions and charges for integration costs really be different from a so called “goodwill-generating” or “at book value” trans-action?

Concise statement why the comment should be taken on board: It refers to the accounting standards and reflects the practical implementation.


8) Paragraph 32, page 9, Section 3.3 (Badwill), type of comment: clarification.

The decision to distribute dividends is usually the result of available resources (profit, capital), the man-agement´s mid-term capital plan taking into account the expectations of the owners and rather not relat-ed to the question regarding a specific origin of the profit.  Furthermore, there should not be any further restrictions for the payments of dividends besides the already existing (legal) regulations.

Concise statement why the comment should be taken on board: It refers to the existing (legal) regula-tions with respect to the distribution of dividends and reflects the practical implementation.


9) Paragraph 33, page 9, Section 3.3 (Badwill), type of comment: clarification.

We appreciate that the ECB encourages banks to benefit from the generation of badwill in the frame-work of consolidation transactions, while we do not expect the implementation of any additional regula-tory requirements or limitations beyond the requirement of appropriate accounting treatment of badwill, according to the applicable accounting principles. It might be a rather questionable method to increase provisions without material indication. Should the accounting treatment of risk provisions and charges for integration costs really be different from a so called “goodwill-generating” or “at book value” trans-action?

Concise statement why the comment should be taken on board: It refers to the accounting standards and reflects the practical implementation.


10) Paragraph 35, page 10, Section 3.4 (Internal models), type of comment: clarification.

1. Among the questions stated in paragraph 35, the situation in which an existing legal entity (the ac-quiring part) might decide to use the models of the acquired entity is not considered, and it should be. That is, in this Guide, all IRB models, from previously existing entities on a merger or from both the acquirer or acquired entity in an acquisition, have to be equal in terms of the requirements in or-der to be used in the new or acquiring entity. The non-existence of differences due to the origin of the models should be clearly stated.

Concise statement why the comment should be taken on board: More guidance for the approach of con-solidating existing internal models is needed.

​2. Shall we understand that for newly authorised legal entities, in case of a business combination, the expectation is that a completely new IRB implementation plan is needed, requiring new applications for the internal models for credit risk? This would take many years and be unnecessarily burden-some when both entities have prior IRB experience (i.e. approved IRB models). In case of existing legal entities it is mentioned that they "may not have the approval to use their internal models for newly acquired exposures." Paragraph 34 mentions that "approvals are not transferable to another legal entity". The two paragraphs seem to be at odds.

Concise statement why the comment should be taken on board: It is important to have more clarity on the expectations for the approach of consolidating the internal models in order to avoid full-fledged roll-out plans that may take years to implement for entities that may already have years of model use experi-ence. The aim shall be, especially when the acquirer has experience with model use, to minimize the need for new applications for approval of the models at the time or for a period  after the business combina-tion.


11) Paragraph 36, page 10, Section 3.4 (Internal models), type of comment: clarification.

The granting of this limited period in which the bank, resulting from the combination, might continue using previously approved IRB models, regardless of the entity that had this permission, should be granted as the general norm if requested by the bank. Furthermore, the period should allow the neces-sary time to complete the integration of information systems and recalibrate or prove the performance of these models. The supervisor shall not impose it to be shorter than two years. Last but not least, the time period should be automatically extended from the moment in which there is a formal pre-application to the date in which a Decision Letter is sent by the supervisor.

Concise statement why the comment should be taken on board: It is important to have more clarity on the expectations for the approach of consolidating the internal models in order to avoid full-fledged roll-out plans that make take years to implement for entities that may already have years of model use expe-rience. The aim shall be, especially when the acquirer has experience with model use, to minimize the need for new applications for approval of the models at the time or for a period  after the business com-bination.

Suggested wording: In such cases, subject to a clear model mapping and a credible internal models rollout plan to address the specific internal model issues created through the merger, as well as other conditions where appropriate, ECB  banking Supervision acknowledges that there will be a limited peri-od of time in which banks, resulting from the business combination, might continue to use the internal models that were in place before the merger. The granting of this limited period, regardless of the entity that had this permission, will allow the necessary time to complete the integration of information sys-tems and recalibrate or prove the performance of the models and won’t be shorter than two years. Addi-tionally, it will be automatically extended from the moment in which there is a formal pre-application (date in which a Decision Letter is sent by the supervisor).  The aim is to avoid an unnecessary supervi-sory burden linked to undue volatility in risk-weighted assets and reduction in risk sensitivity if legal enti-ties temporarily revert to the standardised approach.


​About ESBG (European Savings and Retail Banking Group)

ESBG represents the locally focused European banking sector, helping savings and retail banks in 21 European countries strengthen their unique approach that focuses on providing service to local communities and boosting SMEs. An advocate for a proportionate approach to banking rules, ESBG unites at EU level some 900 banks, which together employ more than 650,000 people driven to innovate at roughly 50,000 outlets. ESBG members have total assets of €5.3 trillion, provide €1 trillion in corporate loans (including to SMEs), and serve 150 million Europeans seeking retail banking services. ESBG members are committed to further unleash the promise of sustainable, responsible 21st century banking. Our transparency ID is 8765978796-80.


 


European Savings and Retail Banking Group – aisbl

Rue Marie-Thérèse, 11 ■ B-1000 Brussels ■ Tel: +32 2 211 11 11 ■ Fax: +32 2 211 11 99

Info@wsbi-esbg.org ■ www.wsbi-esbg.org



Published by ESBG. October 2020.







 

October 2020​




European Supervisory Authorities (EBA-ESMA)