The Anglo File: Alliance & Leicester-Bank of Ireland Merger Could Face Shareholder Opposition

The proposed merger looks good on paper. But A&L shareholders might feel they're getting sold off cheap.
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LONDON -- The difficulty with the proposed merger of Britain's

Alliance & Leicester

and

Bank of Ireland

may not be of the usual variety -- convincing pesky regulators on either side of the Irish Sea. Instead, it may be persuading Alliance & Leicester's shareholders they're not being sold off cheap.

Alliance & Leicester and Bank of Ireland confirmed on Monday that they are in talks over an $18 billion merger. Based on the respective market capitalization of the two institutions, Alliance & Leicester would likely own 45% of the merged company, while Bank of Ireland would own the remaining 55%.

At first glance, the potential deal makes sense, something the market quickly recognized. Alliance & Leicester shares jumped 6.8% to 929.5 pence, while Bank of Ireland rose 3.8% to 1,281 pence. Bank of Ireland's

(IRE)

ADRs were up 4 1/8, or 5.2%, at 83 5/8.

From Bank of Ireland's perspective, the deal is really the only kind it could have done. A similar move on the Continent would entail massive problems in terms of culture and regulation and a large dilution in earnings.

The deal would also allow Bank of Ireland to merge the operations of Alliance & Leicester with those of

Bristol & West

, another British building society the Irish institution bought in 1997. The branch networks don't overlap very much, and so most of the savings would come from cutting back-office and head-office operations. As such, cost savings are not expected to be massive, totaling around $325 million.

The revenue implications of the deal, which would be the first between European institutions inside and outside the eurozone, are also compelling. The Bank of Ireland's expertise in the euro and its large range of financial products will certainly benefit Alliance & Leicester's corporate and retail customers.

As always, there is the need to soothe the fears of the regulators. The problem here is which of the regulators, the

Central Bank of Ireland

or the U.K.'s

Financial Services Authority

, would be the principal overseer, or how the responsibilities could be split.

There's also the question of whether the Irish authorities would be happy to watch over 20% of the country's domestic banking market under the joint control of a British bank. The French, who resisted the takeover of

Credit Lyonnais

by foreign interests, don't have a monopoly on corporate nationalism.

Ah, There's the Rub

Should the institutions manage to hammer out an agreement that would satisfy the authorities, there is still the more important task of getting shareholder approval of the deal, which may be a bit harder than convincing the authorities.

John Aitken, banking analyst at

Rabo Bank

, said if he were an Alliance & Leicester shareholder, he would be "fairly cheesed off." Certainly, the deal looks to benefit the Bank of Ireland shareholders the most. A merger between Alliance & Leicester and another British entity would have brought a higher price for the mortgage bank.

According to

Goldman Sachs

, the pro-forma group could earn pretax profits of around $2.3 billion. On a combined market cap of $18.5 billion, this would imply a 1999 price-to-earnings ratio of less than 12 times. Assuming a P/E of 15 times, which is more in line with the sector's 2000 multiple of 15.5 times, then 45% of the theoretical combined new entity's value would imply an upside of 30% for Alliance & Leicester's share price.

"This has all the flavor of a cozy deal," says Rabo's Aitken. Indeed, and the friendliness of the merger is what the two institutions are banking on. Under the terms of the demutualization of Alliance & Leceister two years ago, the British government gave the mortgage bank protection from any hostile bid for five years, unless it involved itself in a hostile bid for another organization.

While this deal looks as though it would preserve Alliance & Leceister's five-year protection status, it is almost certain to be tested by other large U.K. banks.

Although there hasn't been a successful hostile takeover in Europe's banking sector, there have been a number of attempts, for example

Lloyds TSB's

bid for

Standard Chartered

. Lloyds is literally itching to put its huge amount of excess capital to work and may see the bargain price at which Bank of Ireland is picking up Alliance & Leicester as, quite simply, intolerable.

If Alliance & Leicester shareholders feel disgruntled by the cheapness of the deal, they may opt for a more expensive offer, something that is sure to appear. The respective management teams have obviously considered this possibility and indicated they might be prepared to return some of the combined $2.9 billion surplus capital to the shareholders through a share buyback or special dividend.

No doubt the management at Bank of Ireland and Alliance & Leicester are busy patting themselves on their backs. However, they will find that Alliance & Leceister's shareholders have the last word.