PwC: Global M&A Trends in Financial Services
PwC: Global M&A Trends in Financial Services
Financial services dealmaking remains challenging in the second half of 2024.
By Christopher Sur, Global, EMEA and Germany Financial Services Deals Leader, Partner, PwC Germany
Financial services dealmaking remains challenging in the second half of 2024, although pressure is mounting on industry players to use M&A to transform and grow.
The financial services (FS) deals market is likely to remain muted for the remainder of 2024, marked by continued uncertainty stemming from challenging macroeconomic conditions and geopolitical tensions. In this environment, mega deals, in particular, face obstacles.
Dealmakers should nonetheless remain positive about the medium-term M&A outlook because of many different factors putting pressure on FS players to accelerate their transformations to remain relevant and profitable. Some factors are cross-sector such as digitalisation, sustainability and workforce challenges. In addition, FS has more sector specific factors such as pressure on costs and quality of assets, as well as uncertainty regarding interest rate policies by central banks worldwide—which are all leading to pressure on profitability and equity of FS players.
M&A continues to be an essential part of the transformation journey, especially as organic growth faces severe challenges in the current macroeconomic environment. M&A-related transformation steps may include acquisitions to enhance capabilities and drive future growth through economies of scale and scope. Alternatively, divestitures may help to improve operations and recalibrate business models.
When the market does pick up, we see dealmakers favouring smaller transactions rather than mega deals to undertake transformational change. In part, this reflects the highly regulated and risk-focused nature of the sector as well as the uncertainty within the FS industry. We also expect deal processes to last longer and to be more complex as gaps between buyers and sellers on valuations have created more intense purchase negotiations.
Spotlight on India’s financial services M&A market
Prospects for M&A growth in India’s FS sector and beyond are strong. Underlying factors include the overall outperformance of the Indian economy, together with favourable demographics and rising disposable income from a growing middle class, digitalisation of services, maturing capital markets and government reforms to improve the business environment.
All dimensions of the Indian FS sector remain considerably under-penetrated, including credit, mutual funds, insurance and wealth management. This makes the FS sector an attractive destination for investors and a bright spot for M&A activity. Three main factors underline our optimism about Indian FS dealmaking in the second half of 2024 and beyond:
Adjacent markets: Financial institutions are strategically using acquisitions in adjacent markets to strengthen their capabilities and seize cross-selling opportunities.
Foreign investment: FS companies are exploring foreign investments to bring in cutting-edge technology, global best practices, increased product offerings and improved access to capital for the next level of growth.
Regulation and profitability: FS companies face a pressing strategic need for consolidation and restructuring due to the evolving regulatory landscape as well as a greater focus on profitability and cost optimisation.
In addition to broader government reforms creating a more attractive investment environment, FS regulators in the country are displaying greater openness to financial sponsor investments, acknowledging the significant interest from both global and Indian sponsors in the sector. Private equity (PE) is expected to play a vital role in driving deals within the FS sector. The trend of financial sponsors acquiring controlling stakes and actively managing companies is gaining momentum and is expected to accelerate. One example of such PE activity is the recently completed $1bn acquisition of HDFC Credila, an education finance-focused non-banking financial company (NBFC), by a consortium of PE firms.
In the credit sector, there is a significant opportunity for expansion of debt relative to the size of India’s economy. Demand for both enterprise and retail credit is surpassing current offerings from banks and NBFCs. Private non-bank credit is well-placed to address these gaps. Key trends include banks collaborating with fintechs and adopting co-lending models to broaden their customer base. Additionally, the impact of COVID-19 and stricter regulations has led to a trend of consolidation among troubled and mid-sized NBFCs. Moreover, foreign players are exploring entry into Indian financial markets via the NBFC route, with ambitions to evolve into universal banks.
In the insurance sector, global insurers are entering into joint ventures with Indian companies to expand their operations or enhance their distribution capabilities. In February 2024, Zurich Insurance Group announced the largest investment by a global insurer in a non-life insurer in the Indian market with its proposed $670m acquisition of a 70% stake in Kotak Mahindra Bank’s general insurance arm.
In the asset and wealth management sector, new entrants and established players are both driving robust M&A activity with the aim of broadening market share and enhancing capabilities. Major domestic banking groups are strengthening their asset management divisions, recognising the importance of distribution capabilities for growth beyond major cities. An example is the joint venture between Invesco’s domestic asset management business, Invesco Asset Management India, and Hinduja Group’s IndusInd International Holdings, the promoter entity of IndusInd Bank (India’s fifth-largest private-sector bank).
Key M&A themes for financial services in 2024
Restructuring: FS market participants are seeing signs of a growing deterioration in credit quality. At the beginning of the year, they expected to see restructuring measures, such as divestments of non-core assets or non-performing loans (NPLs) to strengthen balance sheets and improve capital ratios in the banking sector. However, asset appraisals are rather stable and banks are better capitalised than in previous years, which in our view is currently limiting the need for deals as a potential solution for NPL portfolios.
Environmental, social and governance (ESG): Investors are focusing more on ESG criteria when considering investment decisions and determining business strategies. Recent geopolitical tensions have refocused attention from asset managers and insurers on the ESG risks in their private investment portfolios, where there has been less transparency. This will likely lead some to exit certain investments and to revisit their investment strategies and the data they use to evaluate risks.
Digital transformation and technology: Digitalisation and artificial intelligence (AI) remain strategic priorities as FS players need to address consumer expectations and build market position against the backdrop of disruption from fintechs and non-FS companies. We expect that transaction activity in the second half of 2024 will focus on deals (both traditional M&A and strategic partnerships and alliances) to leverage data, implement solutions to rising cybersecurity concerns, drive operational efficiencies, and speed up transaction processes.
Private equity: Investors with increasing specialisation in FS, dedicated FS teams and increasing fund volumes are focusing on FS and FS-related topics, such as insurance brokerage, platforms, fintech, insurtech and regtech. Hence, we expect to see further M&A activity in these areas. However, with PE investors facing pressure on returns due to the higher cost of capital and limitations regarding leverage, a focus on value creation will be more important than ever.
Global M&A trends in financial services
Banking and capital markets (BCM)
Dealmaking activity in the banking sector continued to be sluggish in the first half of 2024 due to uncertainties connected with interest rate developments, changing rules around capital (such as the Basel III Endgame), stricter oversight over mergers by regulators, and potentially increasing risks in loan books, especially around commercial real estate.
To overcome systemic challenges, such as lack of scale and the saturation in some of the segments in which competing banks have comparable business models, some consolidation is likely as a means to grow and leverage scale. Expansion may help banks absorb anticipated increases in costs associated with meeting increasingly complex and tough regulations and higher capital requirements. Furthermore, larger institutions are more likely to have sufficient budgets to invest in technology and customer experience to compete with new market entrants such as fintechs and deep-pocketed consumer brands that are encroaching on the FS industry.
Banking consolidation has long been anticipated but has not yet happened, because of several mitigating factors. These include a scattered regulatory landscape, difficulties integrating legacy infrastructures and realising synergies, and embedded losses in the bank loan and debt securities portfolios of target companies. Given high interest rates, the potential impact of absorbing such embedded losses has led to greater scrutiny from buyers and has made many buyers hesitant to transact. Furthermore, protracted timelines for regulatory approvals for bank M&A create a disincentive for potential buyers, many of whom have instead favoured other, more appealing growth strategies.
Insurance
Overall, the insurance sector remains resilient in a challenging deals environment. M&A activity has not slowed as much as in other sectors, and we expect the following trends and topics to drive deals in the insurance sector in the second half of 2024 and beyond:
Insurance brokerage: We expect broker consolidation to continue in a highly fragmented market. There is increased attention and demand from PE investors acting as consolidators to benefit from economies of scale.
Portfolio optimisation: Insurance corporations continue to divest capital-intensive life and annuity businesses to focus on core products and reduce complexity in their operations. Others are looking to achieve diversification benefits by buying risk portfolios that are complementary to their own. This gives insurers an opportunity to balance the risk-return profile, reduce costs, improve capital efficiency and redeploy capital to core activities.
Competition: New market players are disrupting existing value chains. The emergence of non-traditional competitors, including digital platforms and tech giants, puts pressure on established insurance providers.
Partnerships: Insurance companies are collaborating with insurtechs to leverage digitalisation efforts in areas such as machine learning and AI capabilities.
Asset and wealth management (AWM)
The AWM industry has benefited from a 12-month streak of positive market momentum that has affected organic growth of assets under management (AUM) and top-line performance. The prospect of a slight inversion of macroeconomic conditions, with possible interest rate cuts to come at some point in the future, is likely to trigger further recovery in the business volumes for asset management and life insurance products and consequently drive M&A activity. Below are other factors we expect to lead to further dealmaking in the AWM industry over the coming months:
Scale: The definition of “at scale” is a target constantly moving upward for both asset and wealth managers, given an overall drop of more than ten basis points in operating profits and AUM over the last five years. To mitigate the impact, firms are increasingly exploring strategic partnerships not only for revenue enhancement but also as a means of optimising cost structures.
Technology: As direct indexing and separately managed accounts gain increasing traction in the market as best-in-class offerings for high-net-worth individuals (HNWIs) and institutional clients, asset managers will need to invest in technologies to enable customisation and optimisation at scale. On the distribution side, wealth managers are focusing on developing “digital native” product and service offerings, with a focus on improved business-to-business-to-consumer user experiences that match the expectations and the needs of modern investors.
New geographies: A significant rise in gross domestic product, combined with vigorous equity and housing markets, is expected to produce sizable wealth gains in rising economies such as India, the Middle East and China. These are rapidly becoming the regions with the highest number of HNWIs.
Expansion in the value chain: Insurance products have become more pervasive, triggering intersections between insurance and asset management from both a manufacturing and a distribution perspective.
M&A outlook for financial services in the second half of 2024
Despite a challenging market environment and slower than normal deal activity throughout the FS sector in the first half year 2024, we see potential for an uptick in M&A with an improved deal flow in the next six to 12 months. FS players remain under significant pressure to further transform their business models to meet current and future challenges and create sustained outcomes. M&A can serve as a catalyst for required transformational steps, either by acquiring businesses to drive future growth or by divesting less profitable or non-core businesses to sharpen an organisation’s operational focus.