No. ME/01009
Report under Section 125(4) of the Fair Trading Act 1973 of the Director General's advice, given on 13 February 2001 and 20 February 2001, to the Secretary of State for Trade and Industry under Section 76 of the Act
ADVICE GIVEN ON 13 FEBRUARY 2001
The merger satisfies the gross assets test and (at least in respect of current accounts and ATMs) the share of supply test of the FTA. The ECMR does not apply.
Lloyds TSB Bank plc (Lloyds TSB) is a bank with some 2,250 branches. In the year ended 31 December 1999 its total income was £7,872 million; it had pre-tax profits of £3,621 million and gross assets of £176 billion.
Abbey National plc (Abbey) is a bank with some 750 branches. In the year ended 31 December 1999 its turnover was £3,756 million; it had pre-tax profits of £1,783 million and gross assets of £181 billion.
The parties overlap in the provision of a wide range of banking services in the UK, including current accounts, mortgages, credit cards, other unsecured lending, savings products, life assurance and pensions, unit trusts, and general insurance. They also both have substantial networks of branches and ATMs. There is a minimal overlap between the parties in the SME banking market, where Abbey's presence has been limited to date, although it is known to have plans for expansion and may thus be seen as a potential competitor. The analysis that follows concentrates on current accounts and SME banking services, and on branch and ATM networks. This is not to exclude the possibility of competition concerns involving other banking services, for example through their relationship with current accounts.
The provision of banking services is assessed in this case predominantly on a UK-wide basis. Means of both price competition (such as interest rates and charges) and non-price competition (such as advertising, service levels, and product characteristics) are set at a national level, indicating that a UK-wide market definition is the most useful geographical frame of reference for assessing competitive pressure. Regional or local factors may, however, be relevant in the markets for current accounts and SME banking, where a significant proportion of customers are likely to attach importance to access to branch networks.
The proposed merger would increase concentration in the market for current accounts. The level of concentration, and the change that the merger would bring about, can be measured in several ways. The four largest banks already have a substantial share of the current account market, and concentration would be further increased by the proposed merger. The four-firm concentration ratio in terms of total stock of current accounts, already [in the range 71-73%], would increase to [in the range 76-78%]. Lloyds TSB already has the largest share of this market, at [in the range 21-23%], and the merger would lead to an increment of [in the range 5-6%] (see Note 1). While the parties' market shares in terms of new accounts in the last 12 months are smaller than those for total stock, I consider the latter measure to be more relevant: new business represents only about 5% of the total market, due to the low level of switching and the fact that a high proportion of the adult population already have some form of current account. (Indeed, the distinction sometimes drawn between 'new' and 'existing' business in current accounts is itself an indication of the switching costs that still prevail.)
Another commonly used measure of market structure is the Herfindahl index (see Note 2). Following the proposed merger, the Herfindahl index for the current account market would be around 1650, with the increase brought about by the merger being about 220. Under guidelines used by the US competition authorities (see Note 3), a post-merger HHI between 1000 and 1800 indicates a 'moderately concentrated' market. In this range, mergers producing an increase of more than 100 'potentially raise significant competitive concerns'.
While there are at least 34 providers of current accounts in the UK (see Note 4), a number of whom (particularly internet banks) have entered the market quite recently, the only provider outside the 'Big Four' (see Note 5) with a market share greater than 5% is Abbey. Despite some evidence that new entry and growth by smaller competitors - including some (notably Abbey and Halifax) with quite extensive branch networks and experience of providing personal financial services products - are having a significant effect on the position of the major banks, the four-firm concentration ratio has remained more or less constant in recent years.
This may be largely accounted for by the low levels of switching between current account providers, and the existence of other barriers to entry and expansion. According to a recent survey carried out for the Department for Business, Enterprise and Regulatory Reform, only 6% of customers questioned had switched their current account provider in the last five years (see Note 6). There is evidence to suggest that, if customers of the 'Big Four' choose to switch their account, they are disproportionately likely to move to another of the 'Big Four' and, more generally, that competition for switching customers takes place principally between branch-based banks. In the survey, [details omitted] % of customers gained by Abbey came from 'Big Four' banks, and [details omitted] % of them from Lloyds TSB. Of customers who switched from Abbey, [details omitted] % moved to Lloyds TSB [details omitted] (see Note 7).
The banks are now taking welcome steps to reduce switching costs, by setting new standards in the Banking Code and automating the transfer of direct debits and standing orders via the BACS system by the end of this year. It is, however, an open question at this stage what effect these changes will have. That may depend in part upon the competitive structure of the market.
The limited share of the current account market secured by the former building societies, stand-alone internet banks and other entrants indicates the existence of substantial incumbent advantages in this market. While the lack of a comprehensive branch network may not represent a barrier to entry to direct banking providers, the existence of such a network continues to be one of the most important means of attracting and retaining current account customers, and there might be complementarities between branch and direct banking for a substantial proportion of customers.
In sum, the market for current accounts - the core personal banking service - remains concentrated, and customers face substantial switching costs. There is innovation in the market. Nevertheless, there is a clear possibility that the absorption by Lloyds TSB of Abbey (the largest current account provider outside the top four) would significantly lessen competition.
The combined market share of the largest four banks in banking services to SMEs was [in the range 80-85%] in 2000, of which Lloyds TSB accounted for [in the range 18-20%] (see Note 8). By contrast with personal current accounts, the increment to Lloyds TSB's market share from the proposed acquisition of Abbey would be minimal. Abbey's share of this market is currently no more than 1%, and the banking services that it provides to SMEs are limited in scope, lacking an overdraft facility. Nevertheless, Abbey has recently announced its intention to move to a full banking service in this sector, and publicly stated its intention to achieve a 5% market share within five years. Given the importance of access to a local branch for many small businesses, and the fact that Abbey has the sixth largest branch network, it may be seen as a significant potential competitor in this market, which is currently the subject of an investigation by the Competition Commission.
Notwithstanding the growth of alternative means of access such as telephone and the internet, and the arrangements which some banks (including Lloyds TSB) have made with the Post Office for the handling of some transactions, the importance of traditional branch networks in attracting and retaining customers in both the personal and small business sectors is widely recognised. There appears to be a broad correlation between size of branch network and share of the current account market.
Although the major banks' branch networks have reduced in size in recent years, their combined share of branches has increased (partly through mergers and acquisitions) from 72.6% in 1995 to 74.5% in 1999, with the Lloyds TSB network being similar in size to those of its leading competitors (see Note 9). Apart from the largest four banks, only Halifax and Abbey have more than 5% of the total number of branches.
As a result of the proposed merger, Lloyds TSB would acquire Abbey's network of some 750 branches. Its total share of bank branches would not, however, increase by the same amount in the long term, since it has announced that it would, two years after the merger, begin a programme to 'co-locate' Lloyds TSB and Abbey branches in the more than 600 locations where they are within 0.25 miles of each other. In other words, 600 branches would close. Lloyds TSB estimates that cost savings would be substantial, but that the resulting loss of customers would be minimal.
In 35 of the areas of overlap (i.e. where there are Lloyds TSB and Abbey branches within 0.25 miles of each other) there would be two or fewer competitors' branches following a merger; in ten of these areas there would be only one competitor's branch; and in five of them there would be none. Lloyds TSB has stated that it will maintain, and extend to the Abbey network, its existing commitment not to close the 'last bank in town'.
ATMs play a significant part in customer access to current accounts, providing a range of basic services including (depending on the functionality of the machine) cash withdrawals, balance enquiries, requests for statements and deposits of cash and cheques. Some 90% of the ATMs in the UK are operated by banks affiliated to the LINK network. Since January 2001, none of the major banks charges customers explicitly for the use of ATMs.
Lloyds TSB's ATM network accounts for 16.5% of the UK total. Abbey also has a substantial ATM network, and the proposed merger would create a combined share of 26.4%. Given the extent of affiliation to LINK and the banks' policies on charging, it is not clear that the size of a combined group's own ATM network would have a significant impact on consumers' choice of current account provider. Barriers to entry in the provision of ATMs appear relatively low, and there is potential for growth by other existing providers. I have, nevertheless, considered the possibility that the combined share of Lloyds TSB and Abbey might offer the opportunity to adopt policies in relation to ATMs (whether via LINK or independently) that would be detrimental to consumers. In part because of the adverse consumer reaction to explicit ATM charges, which led to the recent change in the pricing policies of LINK and its members, I do not judge this to be a likely outcome.
The proposed merger would not appear to have any adverse impact in terms of vertical issues.
Lloyds TSB has said that, were the proposed merger to proceed, it would, after two years, begin a programme to 'co-locate' branches, as described above. It estimates that the transaction would result in a loss over four years of approximately 9000 jobs, which it envisages would be achieved with minimal compulsory redundancies. While I recognise the possibility of cost savings and job losses - which are in some respects two sides of the same coin - my advice to you on merger references, in this case as in others, is based primarily on competition grounds.
I have received a number of representations from other banks, organisations representing bank customers (both personal and business) and finance industry employees, and from individual customers and/or shareholders. The issues which they have raised have been taken into account in my assessment above.
The proposed acquisition would lead to the elimination from the market of one of the most significant branch-based competitors to the largest four banks. This gives rise to a clear possibility of a substantial lessening of competition, primarily in the market for current accounts, where it would strengthen the position of what is already the largest provider. Increased concentration in this market must be seen in the context of existing (albeit possibly diminishing) barriers to entry and expansion, and customer inertia characterised by low levels of switching.
Lloyds TSB has said that, in the event of a recommendation that the proposed merger be referred to the Competition Commission, it would be prepared to give undertakings in lieu of reference, addressing both behavioural and structural issues. I have carefully considered the undertakings proposed, but do not believe it is possible to devise undertakings which would address the competition concerns that have been identified in such a way as to remove the need for further investigation of this proposed merger.
I therefore conclude and recommend that you should refer this proposed merger to the Competition Commission.
Further advice given on 20 February 2001 is available here.
Source: Lloyds TSB. More precise figures omitted at their request.
The Herfindahl index, or Herfindahl-Hirschman index (HHI) equals the sum of the squared market shares of all the firms in the market. It ranges from zero (ultra-fragmented) to 10000 (pure monopoly).
1992 Department of Justice and Federal Trade Commission Horizontal Merger Guidelines - available on www.ftc.gov/bc/docs/horizmer.htm
Source: Lloyds TSB submission.
Lloyds TSB, RBS (including NatWest), Barclays and HSBC.
Source: Switching suppliers - a research study commissioned by the Department for Business, Enterprise and Regulatory Reform, November 2000.
Figures calculated by OFT, based on data provided by Lloyds TSB, omitted at the request of the parties.
Source: Lloyds TSB. More precise figures omitted at their request.
Source: BBA Abstract of Banking Statistics 2000 in Lloyds TSB submission.
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