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Transforming European Banks: Ready for consolidation

Pier Paolo Masenza, Dr. Philipp Wackerbeck, Christopher Sur, and Felix Becht
November 23, 2021

Europe’s banking market is ripe for mergers and banks should take steps to prepare for more deals

The last 18 months more prominent M&A activity in Europe’s highly fragmented banking market, led by deals in Spain and Italy. Financial institutions should be laying the groundwork in anticipation of more merger activity.

The case for more consolidation was strong even before the onset of the COVID-19 crisis. For years, Eurozone lenders have struggled to earn returns above their cost of capital. Although share prices have been on a positive track in 2021 recovering from a devastating year 2020, they have lagged the wider market and international peers since the 2008 financial crisis, driven by sagging profitability. A combination of zero or negative interest rates, fragmented markets, rare successes in rigorous cost reduction, and steep competition have all translated into a significant drop in banks’ valuation levels since 2008:

Stoxx600 banks average P/Bx development
Ready for consolidation

The pandemic effect – and some help from the ECB

The COVID-19 pandemic has only intensified the pressures on profitability. National governments, the EU, and the European Central Bank (ECB) stepped in with extraordinary measures to shield the economy from the worst of the impact from successive lockdowns.

While most banks recognized the impact of the pandemic on profitability and RWAs, the post-COVID environment is unlikely to offer relief from margin compression across customer segments. Banks will have to radically transform their cost base as part of a wider strategy to address their profitability squeeze and other challenges, including the ongoing threat from fintech and BigTech and implementing effective environmental, social and governance goals. Mergers can ease the pressure by helping to cut costs and achieve scale to better tackle technology investments and become more competitive in certain business lines, in particular in wholesale banking.

The ECB has spelled out its approach to takeovers and publicly reiterated its well-known view that banks should consider cross-border and domestic consolidation. Following a public consultation in 2020, the central bank published a new guide to banking consolidation in January 2021 that provides certainty on how it will assess deals. Among the different technical aspects, two measures stand out and will influence banks’ view on consolidation activity:

  1. Badwill: Banks will be allowed to book an accounting gain if a bank buys another at a price that is below the book value of its assets. This gain can be used to cover integration costs and provisions for bad loans, making the merged entity more sustainable – particularly in the COVID-19 impacted economic environment.
  2. Capital requirements: The ECB will not automatically impose a higher Pillar 2 capital requirement, but instead base it on the actual risk profile of the combined entity by taking an average of both banks’ standalone capital requirements as a starting point.

The recognition of badwill provides a strong incentive to merge and was used in the recent deals in both Spain and Italy. Intesa Sanpaolo’s takeover of local Italian rival UBI Banca generated €2bn in badwill that was used to cover integration costs and accelerate NPL reduction. In addition, the synergies proved to be higher than initially expected. In the case of Caixabank’s takeover of Bankia, the badwill amounted to €4.3bn.

Given low market valuations in Europe, the potential for badwill is great. Across the European banking market, the gap between the book values of European banks and their market values could be as much as €380bn.

We believe the ideal merger would have strong potential for synergies and generate a high amount of badwill:

The pandemic effect

The coming wave

Banking mergers in Europe have been scarce in recent years but picked up in the last 18 months. The region is likely to see more deals in the next 12-18 months, as banks repair their capital ratios, transform for the post-COVID world and need to find credible strategies to earn appropriate returns on equity in the future.

In-market consolidation is more likely than cross-border deals since these domestic tie-ups are usually driven by cost-cutting, such as streamlining distribution networks and central functions. They are generally easier to execute since there are fewer structural constraints and regulatory authorities involved. Meanwhile, the obstacles to cross-border mergers remain, including the slow progress toward a full European banking union and regional deposit scheme.

However, while cross-border transactions offer less cost-savings potential, they provide strategic benefit to banks:

  1. These deals provide scale in technology, which can be a significant competitive advantage in certain business areas and allow bigger investments in innovation.
  2. Cross-border deals still generate cost savings, while they are generally about one-third to a half of domestic deals.
  3. Cross-border transactions provide earnings diversification, potentially making the entity more resilient to national shocks.

These deals are more likely to happen with stronger banks whose domestic markets are already concentrated, and are more likely to be in wholesale rather than retail banking.


Following deals activity within the last 18 months in some Eurozone countries, the stars are aligning for further consolidation in the banking sector. Though domestic mergers are more likely in the short term, stronger banks may contemplate cross-border tie-ups. Either way, banks considering an active role in consolidation should first undertake a thorough analysis of the potential deal in order to minimize risks and maximize value for stakeholders.

Contact us

Pier Paolo Masenza

Pier Paolo Masenza

Partner, PwC Italy

Dr. Philipp Wackerbeck

Dr. Philipp Wackerbeck

Partner, Strategy& Germany

Christopher Sur

Christopher Sur

Partner, PwC Germany

Felix Becht

Felix Becht

Director, Strategy& Germany