THE ANALYTICS OF MULTIBANKC
HOLDING COMPANY BEHAVIOR
GREiGORY EDWARD BOCZAR
A DISSERTATION PRESENTED TO THE GRADUATE
COUNCIL OF THE UNIVERSITY OF PLORIDA IN PARTIAL
FULFILLMENT OF 'HE REQUIREMENTS FOR THE DEGREE OF
DOCTOR OF PHILOSOPHY
UNIVERSITY OF FLORIDA
Gregory Edward Boczar
There are many individuals who have assisted in the com-
pletion of the dissertation. Speciial mention needs to be made of the
assistance provided by Professor Ralph H. Blodgett, the chairman of
my dissertation committee. He was a steady source-of encouragement,
advice and tolerance. His willingness to smooth over some of the
obstacles to getting an education was essential to my getting this far.
I am appreciative of the support in various forms provided
by the Board of Governors of the Federal System. Thanks go to Bob
Creller and Joe Holmes for very competent programming assistance.
Several of my colleagues were most generous with their time and advice
including Steve Rhoades, Bud Talley, Art Fraas and Bob Lawrence.
Steve Rhoades especially forced me: time and again -to clarify my
thinking and to improve my writing. The Research Library at the
Federal Reserve Board always provided professional service beyond the
call of duty. Both Ann Marie-Martin and Judy Back deserve special
mention. Statistical and clerical assistance were competently provided
by Anita Barley, Gloria Battle, Jackie Rupp, Ronnie Mc~illiams and
Lucy Nelson among others. Typing of numerous drafts was done by
Janet Breen, Ann Marie Cowan and Joan Albamonte.
The person who deserves the most, thanks is my wife Marilyn.
She has helped in every conceivable way assuming family responsibilities
so that I could work, acting as a sounding board- for my ideas, and
encouraging me when I was discouraged.
TABLE OF CONTENTS
LIST OF TABLES**--***************** ..................... .........v~~,iii
LIST OF FIGURES............,~ .....n ,n x
1. PURPOSE AND DESIGN OF THE STUDY....................,.....,... 1
Purpose of the Study.............. .,................ ... 1
Design of the Study: A Homogeneous Population. ,......... 1
Design of the Study: The Extreme Instance. ............ 5
Design of the Study: Decisions and Independent.,
Decision Makers...................................., 7
Organization of the Study. ....,......., .,,........... 7
Definitions and Terminology. ...............,,, .......... 8
2. A HISTORICAL AND LEGAL REVIEW OF BANK HOLDING COMPANIES....., 11
Historical Review Up to 1956.......................... 11
Regulation of Bank Holding Companies............. ..,,, 14
Banking Act of 1933 ............,............. ..,.,, 14
The Bank Holding Company Act of 1956. ............. ,. 16
The 1966 Amendments................................, 18
The 1970 Amendments.................................. 20
Development of Bank Holding Companies After 1956....... 21
3. A CRITICAL REVIEW OF THE LITERATURE. ..........;............. 28
A Selective and Critical Review: An Aid to
SModel Building............... ........,..,....,....o. 28
Fischer: Bank Holding Companies. ...........,,...... 28
Lawrence: The Performance of Bank Holding Companies.....; 31
McLeary: Bank Holding Companies--Their Growth
and Performance...............................o, 34
Weiss: Bank Holding Companies and Public Policy........., 35
Talley: The Effects of Holding Company Acquisitions
on Bank Performance...,................ .~............. 36
Piper: The Economics of Bank Acquisitions
by Holding Companies. ...............;.............. 38
Possible Efficiencies of the Holding Company Structure.. 41-
Schweitzer: Economies of Scale ald Holding Company
Upson and Jessup: Returns from Bank Ho'lding Companies... 43
Alhadeffs: Recent Bank Mergers.........................., 44
The Relative Standing of,Banks.........;.,.........o... 45
Summary ..........,...............o.,..... .....~..o~nn, 46
4. BANK HOLDING COMPANIES: PROFIT MAXIMIZERS OR SIZE
MAXIMIZERS ........... ,.............................. 48
External Expansion and Profit Maximization. ........... 49
The Alternative Hypothesis: Size Maximization. ........ 50
Profit Maximization Versus Size Maximization. ......... 52
Application of the Profit Maximization Hypothesis..... 53
5. A MIODEL OF LEAD BANK STATUS............................... 55
Definition of Lead Bank Status........................ 55
The Set of Potential Lead Banks.....................;.. 56
Lead Banks and Chains................................. 58
The Time Framework of the Study. .................... 59
A Framework for the Empirical Model...............,, 60
The Regulatory Position. ..........,.................. 61
Individual Bank Characteristics....................... 62
Environment. ............. ............. ............. 67
The Statistical Model. ..........,,.................. 69
6, THE DETERMINANTS OF LEAD BANK STATUS. ................... 78
Interpreting the Probit Statistical Model............. 78
The Likelihood Ratio Test............................. 79
A Stepwise Testing Procedure..........;................ 80
The Results for Single Predictors..................... 81
The Results for Several Predictors.................... 85
7. .A MDDEL OF HOLDING COMPANY ACTIITY....................... 93
The. Profit Maximization Hypothesis and Holding
Company Activity..............,..................... 93
Measures of Holding Company Activity............ ...... 94
The Dependent Variable and Tobit Analysis............. 96
Metropolitan Markets..............................;... 97
The Time Period. ................... ................... 99
A Framework for the Explanatory Variables............. 102
The Regulatory Environment. .......................... 102
Expected Profitability of the Market.................. 103
The Snowball Effect. ................... ............... 106
Alternative Measures of Explanatory Variables......... 108
The Model of Holding Company Activity. ................ 108
8. THE DETERMINANTS OF HOLDING COMPANY ACTIVITY .............. 109
Interpreting the Tabit Statistical Model.............. 109
The Results for Single Predictors..................... 111
The Results for Several Predictors. ................. 120
9. CONCLUSIONS FOR CASE ANALYSIS AND DIRECTIONS FOR
FUTURE RESEARCH. ......... .............. ............. 130
A Sumrmary of the Results................. 130
Conclusions for Cases Analysis........................11
Directions for Future Research. ................... .... 134
APPENDIX............. ................. .'.................... .... 135
BIBLIOGRAPHY. ............... ................................. 139
LIST OF TABLES
1.1 Multibank Holding Companies in Florida as of
December 29, 1972...................................... 3
1,2 Deposit-Size Distribution of Banks in Multibank
Holding Companies as of December 29, 1972............ ... 4
1.3 Population, Personal Income, Deposits and Banks in
Florida, 1960-1972................................ ... 7
2.1 Registered Bank Holding Companies: Number, Number of-
Banks and Branches, and National Share of Offices
and Deposits, 1956, 1960, 1965............,........ ........ 22
2.2 Offices and Deposits of Banks Affiliated with
Registered Bank Holding Companies, 1965-1970. ........... 24
:2.3 Percentage of Banking Offices in Each State and
Percentage of Deposits in Each State Held by
Registered Bank Holding Companies, 1965 and 1970......... 25
6.1 Identification of Variables with Means and Standard
6.2 ~Probit Model of Lead Bank Status Using Single Predictors... 83
6.3 Probit Model of Lead Bank Status Using Two Predictors...... 86
6.4 Final Equations for the Model of Lead Bank Status.....;..... 88
6.5 Correlations Between Variables in Model of Lead Bank
6.6 The Probability of Lead Bank Status........................ 91
7. 1 Holding Company Proposals Denied or Abandoned, 1963-1972.. 95
7.2 Metropolitan Banking Markets in Florida. ................... 100
7.3 Multibank Holding Company Activity in Florida,
8.1~ Identification of Variables with Means and Standard
Deviations. ............. ..............................112
8.2 Tobit Model of Holding Company Activity Using
Single Predictors................................. .115
8.3 Tobit Model of Holding Company Activity Using Two
8.4 Tobit Model of Holding Company Activity Using
Three Predictors...********************************* 124
8.5 Final Equations for the Model of Holding Company
Activity*********************-........,....... ............ 125
8.6 Correlations Between Variables in Model of Holding
Company Activity....,................... ................ 127
8.7 The Probability of Activity and the Expected Value of
Activity. ..........*************************************** 129
A. 1 The Set of Potential Lead Banks..............,,..... ........ 135
A.2 Decisions Mhde by Potential Lead Bank Through
December 31, 1972...................................... 137
LIST OF FIGURES
5. 1 A Straight Line Fit with Regressian Model. ................ 71
5.2 .Homoskedasticity about the Regression Line................, 71
5.3 Normal Distribution of Dosage Thresholds....... ........... 74
5.4 Cumulative Distribution of Insects Killed.................- 74
5.5 The Probit Line for Lead Bank Status...................... 76
8. 1 The Tobit Line for Holding Company Activity. .............. 110
Abstract of Dissertation Presented to the
Graduate Council of the University of Florida in Partial
Fulfillment of the Requirements for the Degree of Doctor of Philosophy
UKE ANALYTICS OF MULTIBANK
HOLDING COMPANY BEHAVIOR
Gregory Edward Boczar
Chairman: Ralph H. Blodgett
Major Department: Economics
Multibank holding companies have developed rapidly since
1965. The purpose of the study is to explain the behavior of these
companies--their formation and expansion. The study is limited to
formations and acquisitions in Florida for the last decade. By
restricting the study to a single state, it is possible to control for
a number of significant differences among holding companies. Also,
Florida is an especially ideal state for study because it has experi-
enced more growth of holding companies, population, personal income
and bank deposits than any other major state.
By way of introduction to the recent upsurge of holding
contmpany growth, the historical and legal framework of multibank hold-
ing companies is described. A critical review of the scholarly
literature on holding companies is also undertaken. Both the
historical and legal review and the review of the literature provide
information on the motivation and behavior of multibank holding
companies. A profit maximization hypothesis is selected as the
appropriate analytical framework because the hypothesis is more
workable and somewhat more consistent with the facts than its chief
rival, the size maximization hypothesis.
In order to explain empirically the behavior of multibank
holding companies, a model of lead bank status and a model of holding
company activity are developed and tested. The probit statistical
technique rather than the more conventional regression approach was used
-to test the model of lead bank status because the dependent variable
only takes the value of zero or one. The explanatory .variables for
the model of lead bank status fall into three categories: regulatory
position, characteristics of the bank and environment of the bank.
It was not possible to measure the regulatory position of the Board
of Governors of the Federal Reserve System because of the lack of
overt actions by the Board. In terms of an individual bank's
characteristics, the amount of correspondent business done by the bank
and the absolute size of the bank proved to be significant determinants
of lead bank status. No evidence was found to support the idea that
banks with declining market shares tend to anchor holding companies..
Also, lead banks cannot be characterized as either wholesale- or
retail-oriented nor are they especially successful in gaining loans
in general. In terms of the environment of a bank, the relative
importance of a bank's market as a financial center had a favorable
influence on lead bank status. Finally, if relatively few banks in
the recent past have affiliated with holding companies, a bank is
more likely to become a lead bank than if: a substantial portion of the
banks in the market have come under holding company control.
The model of holding company activity was tested using the
tobit statistical method. The tobit method is appropriate because the
dependent variable does not take on negative values, having a lower
limit of zero. The explanatory variables for the model of holding
company activity are divided into three categories: regulatory
environment, expected market profitability and a snowball of ect. The
regulatory attitude of the Federal Reserve Board toward holding company
activity in a market is measured by the level of market concentration.
As postulated, concentration had a dampening effect upon the amount of
activity in a market. In terms of expected market profitability, both
current market profits (income as a proportion of capital of asset) and
deposits per capital or per bank had a significant positive influence on
holding company activity. The level of per, capital personal income was
found to have a positive and highly significant effect on holding
company activity. Neither population per bank nor short term (two-year)
changes in population, personal income or deposits have a systematic
influence on holding company activity. Some evidence was found to
support the contention that holding company activity tends to snowball
PURPOSE AND DESIGN OF THE STUDY
Multibank holding companies have developed rapidly in the
United States since 1965. This activity by bank holding companies has
been concentrated in a dozen unit-banking and limited-branching states.
The most active state has been Florida. In.1965 there were six multi-
bank systems in Florida which controlled 55 banks. By December 1972,
there were 27 bank holding companies which controlled 280 banks. In
terms of number of multibank systems and in terms of number of affiliated
banks, Florida currently ranks first in the nation.
PurPose of the Study
The purpose of the study is to explain the formations of, and
acquisitions by, multibank holding companies. In order~ to understand
the factors which influence holding company formations, a model of lead
bank status is developed and then empirically tested. In order to under-
stand the factors which cause holding companies to be more active in one
market than another, a model of holding company activity is developed
and then empirically tested. Both models are developed within the frame-
work of a profit maximization hypothesis.
Design of the Study: A Homogeneous Population
A recent study of multibank holding companies concluded:
It is almost impossible to make an unqualified statement
concerning the structure, organization, or operation of
holding companies which will fit all situations. Bank
holding companies, as they have developed in this country,
tend to reflect the special circumstances of their
organization and their location. The' factors which
brought them into existence have differed over time,
as have the financial requirements of the localities
or regions in which they operate. Given a banking system
with striking differences in bank size, operating powers,
management philosophies, supervisory status, and tradi-
tions,' it is not surprising that bank holding companies
are found to differ significantly one from the other.
...It [the above] makes difficult the task of the
analyst who seeks absolutes....1
Because of this wide diversity among bank holding companies, the usual
ceteris Dalibus assumptions are not satisfied in a general study of
In order to control for the significant differences among
holding companies, the study is restricted to formations and acquisi-
tions in Florida for the last decade. By limiting the study to one
state, we control for differences in banking traditions and management
philosophies which appear to vary from one state to another and from
one region to another.2 Of course, all holding company banks in the
study will be subject to the same state banking laws.
In addition, there are no striking differences among Florida
holding companies in terms of total deposits controlled nor in terms of
number of banks controlled. .(See Table 1.1.) The size distribution
of affiliated banks is similar among holding companies except for the
billion dollar First :National Bank of Miami, the lead bank for Southeast
Banking Corporation. (See Table 1.2.)
In order to have a more homogeneous population, the study is
limited to the banking activities of multibank holding companies. Thus,
1' Carter H. Golembe and Associates, The Future of Registered Bank
Holding Companies (Washington, D. C.: The Association of Registered
Bank Holding Companies, 1971), pp. 35-36.
2 Ibid., p. 29.
Multibank Holding Companies in Florida
as of December 29, 1972
Rank Name and Location of Holding Companies of Banks Deposits
1 Southeast Banking Corporation, Miami 18 1,517. 2
2 Barnett Banks, Jacksonville 36 .1,245.9
3 Florida N/B, Jacksonville 31 1,167.0
4 First at Orlando, Orlando 25 1,075. 3
5 Atlantic Bancorporation, Jacksonville' 20 855.9
6 First Financial Corp., Tampa 9 682. 3
7 First Florida Bancorp., Tampa 24 646. 8
8 E11is Banking Corp., Brandenton 15 529.4
9 Consolidated Bankshares, Ft. Lauderdale 8 505.0
10 Exchange Bancorporation, Tampa 10 478.9
11 United Bancshares, Miami 6 493.8
12 City National Bank Corp., Miami 3 441.5
13 Pan American Bancshares, Miami 9 436. 9
14 Charter Bankshares, Jacksonville 9 341. 9
15 Broward Bancshares, Ft. Lauderdale 4 304. 3
16 First State Banking Corp., Miami 5 247.7
17 Florida Commercial Banks, Miami 5 :243.8
18 First Bancshares, Boca Raton 6 224.6
19 American Bancshares, North Miami 6 191.3
20 .Palmer Bank Corp., Sarasota 4 167.3
21 First National Bankshares, Pompano 4 166.7
22 Combanks Corporation, Winter Park 5 131.5
23 Citizens Bancshares, Hollywood 5 113. 6
24 Central Bancorp., Miami 2 107. 1
25 Community Banks, Seminole 5 89. 4
26 Florida Bancorp, Pormpano 3 80.3
27 Jefferson Bancorporation, Miami 3 77. 3
Source: Florida Bankers Association; Board of Governors of the Federal
a Rank is based on total deposits as of December 29, 1972.
Deposit-Size Distribution of Banks in Multibank
Holding Companies as of December 29, 1972
Number of Banks in
Each Size Classb
Greater 100 25 .
than 500 to 500 to 100
1 -- 9
Ranka Name of Holding Company
1 Southeast Banking Corp.
2 Barnett Banks
3 Florida National Banks
4 First at Orlando
5 Atlantic Bancorporation
6 First Financial Corp.
7 First Florida Bancorp.
8 Ellis Banking Corp.
9 Consolidated Bankshares
10 Exchange Bancorporation
11 United Bancshares
12 City National Bank Corp.
13 Pan American Bancshares
14 Charter Bancshares
15 Broward Bancshares
16 First State Banking Corp.
17 Florida Comrmercial Banks
18 First Bancshares
19 American Bancshares
20 Palmer Bank Corp.
21 First National Bankshares
22 Combanks Corporation .
23 Citizens Bancshares
24 Central Bancorp
25 Community Banks
26 Florida Bancorp
27 Jefferson Bancorporation
classes are in terms of $millions of deposits.
Florida Bankers Association; Board of Governors of the Federal
one bank holding companies and the nonbanking activities of multibank
holding companies are excluded from the study. Furthermore, no Florida
bank holding company appears to be a purely financial holding company;
that is, a company which acquires and holds bank stock solely for
investment purposes. Also, there are no Florida companies which have
grandfathered banking subsidiaries in other states.
By concentrating on the period from 1963 through- 1972, the
study will cover a period of sustained holding company activity by
newly-formed or newly-active holding companies. During this time
period the statewide bank holding companies were very active with the
exception of the Florida National Banks.1
Design of the Study: The Extreme Instance
As indicated above, Florida has recently experienced more
holding company activity than any other state. In terms of population
growth for the last decade, Florida was the fastest growing major state
in the U.S. and was second only to Nevada among all states. During the
past decade, Florida had the greatest percentage increase in personal
income of any major state and was second only to Nevada among all states.2!
For the period from 1960 to 1972, deposits of Florida banks increased by
406.'4 percent which is the highest percentage increase in total deposits
of any major state. More banks were opened in Florida from 1960 to 1972
1One researcher in studying holding company acquisitions nationwide
found a considerable difference in the results of his model by dividing
the population into growth-oriented and non-growth-oriented bank holding
companies. R. Charles Mayer, A Model of the Determinants of Registered
Bank Holding Company Acquisitions, Doctoral Dissertation, Graduate School
of Business, University of Pittsburgh, 1971, p. 100.
2 Florida Banking and Its Largest Banking Institutions, Allen C. Eving
& Co., Jacksonville, Florida, 1972, pp. 5-6.
than in any other state. Finally, Florida is by far the most underbanked-
state in the country.1
What we have is a cluster of events which can be characterized
as an ~ext~reme instance. In an extreme instance, the variables of
interest are subject to major shifts. In this study, there are large
changes in holding company activity, population, personal income, bank
deposits and number of banks in a short period of time. (See -Table 1.3.)
The extreme instance is a way of approximating a controlled
experiment. Even if the cateris 2811MEs assumption cannot be strictly
enforced, nonetheless the cetera will be relatively small when compared
to the large changes in the variables of interest. Thus, the extreme
instance provides the researcher with a nearly perfect situation to
In order to generalize from the extreme instance, the behavior
observed must accurately reflect the properties of the system and not
In general, as long as (1) the system responds in a
systematic and controlled fashion rather than in an
erratic and disorganized manner and (2) the actions
were taken as a result of deliberation rather than
spontaneously without calculated intent, the stress
created by the extreme instance can be assumed to be
producing a characteristic response
1 Florida's population per banking office was 12,738 in 1970. The
next least banked state was Illinois with a figure of 9,216.
2 The entire discussion of extreme instances is taken from Oliver E.
Williamson, The Economics of Discretionary Behavior: Managerial
Objectives in a Theory of the Firm (Englewood Cliffs, N.J.: Prentice-
Hall, Inc., 1964).
3 Ibid pp. 87-88.
Source: Bureau of Economic and Business Research, University of.
Florida; Office of Business Economics, U.S. Department of Commerce;
Board of Governors of the Federal Reserve System; Florida Bankers
Design of the Study: Decisions and Independent Decision Makers
The study is designed to explain the decisions made by bank
holding companies. The decision makers may be top management and/or
the owners of a possible lead bank or of a holding company. It is
assumed that the decision makers are independent, i.e., that with a
population of k banking organizations there are k independent sources
of decision making.
Organization of the Study
Chapter 1 presents the purpose and design of the study. A
number of terms are defined.
Population, Personal Income, Deposits, and Banks
in Florida, 1960-1972
Chapter 2 provides a brief history of the growth of multibank
holding companies. The legislation affecting bank holding companies is
Chapter 3 consists of a critical review of recent scholarly
work on bank holding companies.
Chapter 4 considers the profit maximization and size maximi-
sation hypotheses. The profit model is found to provide a useful
framework for analysis.
Chapter 5 presents a model o~f lead bank status. Both an
individual bank's characteristics and a bank's environment are thought
to influence a bank's decision regarding lead bank status. The profit
statistical model is used to. test the model.
Chapter 6 presents the empirical results for the model.of
lead .bank status.
Chapter 7 presents a model of holding company activity. The
regulatory environment, expected market profitability and the snowball
effect are thought to determine the level of holding company activity
in different metropolitan markets. The tobit statistical model is used
to test the model.
Chapter 8 presents the empirical results for the model of
holding company activity.
Chapter 9 summarizes the results of the study and discusses
the implications of the study for case analysis. Areas for future
research are suggested.
Definitions and Terminology
Terms used in the study are defined below.
A bank holding company is defined as any company (or trust)
which owns or controls 25 percent or more of-the stock of each of two
or more banks.1 Such companies are regulated by the Federal Reserve
Board and must register with it.
In this paper, the term "bank holding company" always refers
to.a multibank holdiing company which is registered with the federall
Reserve Board.2! The terms "group banking" and "multibank system" are
used as synonyms for the term "bank holding company".
Chain banking refers to the ownership of controlling interest
in two or more banks by an individual or informal group of individuals.3
It is important to distinguish chain banking from bank holding
companies or group banking. Chains are subject to individual control
while groups are subject to corporate rule. A group customarily has
some form of central management while a chain typically does not. Also,
groups are frequently headed by a major metropolitan bank while chains
rarely have such an arrangement.
1 Ordinarily corporations have no inherent power to hold stock in
another corporation. Some state laws permit the acquisition of bank
stock by corporations; other states restrict or prohibit the acquisition
of bank stock. A useful summary of the state laws on this matter are
provided in Bank Holding Company Facts, Association of Registered Bank
Holding Companies, Washington, D.C., 1972.
2 The only exception is Florida National Banks (formerly the DuPont
Trust) which was not required to register with the Federal Reserve
Board until passage of the 1966 Amendments. In this study Florida
National Banks is treated as if it became a registered bank holding
company when the Bank Holding Company Act of 1956 was approved.
The term "controlling interest" is deliberately vague. For a dis-
cussion of the problems involved in defining chain banks see Jerome C.
Darnell, "Chain Banking," National Banking Review, vol. 3 (March,1966),
* 10 -
The lead bank of a holding company is the bank which the
management of a holding company designates as the lead bank. The lead
bank is generally the largest affiliate and it is' usually located in
the same city as the headquarters of the bank holding company. Fre-
quently there are officers and directors common to the lead bank and
the holding company.
Holding company activity refers to decisions favoring holding
company formations and acquisitions. The formation of a bank holding
company requires the appr-oval of the Board of Governors of the Federal
Reserve System under Section 3(a)(1) of the Bank Holding Company Act,
as amended. The acquisition of a bank by a holding company must be approved
by the Board of Governors under Section 3(a)(3) of the Bank Holding Company
Act, as amended.
A HISTORICAL AND LEGAL REVIEW OF BANK HOLDING COMPANIES
The Bank Holding Company Act became law in 1956. The statute
did not appear to have much immediate effect upon holding company
activity nationwide or in Florida. However, in 1965 there began a
significant upsurge in bank holding company activity and in 1966 the
Act was amended in a way which encouraged a further surge of interest
in these companies. By way of introduction to these recent events, a
brief historical review is undertaken.
Historical Review Up to 1956
The beginnings of the holding company framework of operation
are to be found in the early history of American banking. During the
first half of the nineteenth century many of the multiple office systems
closely resembled bank holding companies. Examples of institutions which
resembled holding companies would include the First and the Second Bank
of the United States and later several state branching systems in the
Midwest. At the turn: of the century, several bank holding companies were
formally incorporated in` the Northwest.1
Bank holding companies developed rapidly in the decade of the
twenties. Nearly all the major systems which registered as a result of
thie Bank Holding Company Act of 1956 were organized from 1928 to 1930. 2
Gerald C. Fisher, Bank Holding Companies (New York: Columbia University
Press, 1961), pp. 4-8.
W. Ralph Lamb, Group Banking (New Brunswick, N.J,: Rutgers University
Press, 1962), pp.. 82-83.
The rapid expansion of group banking in this. period cannot be attributed
to any single factor but rather to diverse and complex factors.
...One would have to consider: the farm depression
and the failure of small rural banks; the general
consolidation movement in many other industries;
the "snowball effect" as one bank holding company was
formed and banks organized others to maintain their~
competitive position, correspondent business, and
prestige; the restrictions on branch banking and the
belief that the laws would soon change; and the
investor's eagerness tolpurchase stock, including
holding company shares.
Perhaps the most important of these diverse factors was the
restrictions on branch banking. As metropolitan areas grew, the larger
institutions, which usually are located downtown, became less convenient
sources of banking services as compared to suburban banks.
Congestion which existed in all major cities made
banking at a single office, usually located in the
business district, very difficult. In addition,
retail as opposed to wholesale banking was growing-
in importance and many bankers wished to adjust 2
their facilities to meet this new market pattern.
One way for a large unit bank to adjust to a new market pattern was to
organize or to join a holding company.
The economic, regulatory and psychological conditions cited
above had resulted in ninety-seven groups -by 1931. These groups con-
trolled 978 banks and 1,219 branches, and they held 22 percent of the
loans and investments of all commercial banks.3 However, the rapid
Gerald C. Fischer, American Banking Structure (New York: Columbia
University Press, 1968), p. 95.
Fiecher, Bank Holding Companies, pp. 23-24.
U.S., Congress, House, Committee on Banking and Currency, Control and
Regulation of Bank Holding Companies, 84th Cong., 1st sess., 1955, p. 33.
growth of bank holding companies ended with the beginnings of the great
depression of the 1930's.
The 1930's constituted a period of retrenchment for bank
holding companies. The depression forced a drastic reorganization of
the banking structure. By the end of 1934 the number of commercial
banks had dropped to about 15,400 as compared to nearly 29,000 in 1920.1
Data released by the Federal Reserve Board for 1936 showed fifty-two
groups operating 479 banks, a decline of roughly 50 percent from the
number of groups and affiliated banks in operation in 1931.
The depressed state of the economy, the relaxation of legisla-
tion restricting branch banking and the general antagonism toward holding
companies in general severely curtailed interest in group banking well
into the next decade. As a result, the position of groups relative to
commercial banks in general showed little change between the mid-1930's
and 1948. In 1937 these firms controlled 7 percent of the banking offices
and 11 percent of the bank deposits of all commercial banks. These figures
were almost unchanged in 1948.2
During the early postwar- period, 1947-1953, the growth of bank
holding companies largely paralleled the expansion of comm~ercial banking
in general. The proportion of U.S. offices and deposits controlled by
bank holding companies remained essentially unchanged.3
1 Comptroller of the Currency, Annual Report (Washington, D.C.:
Government Printing Office, 1964), pp. 7-8.
2Fischer, Bank Holding Companies, pp. 35-37.
Thomas R. Piper, The Economics of Bank Acquisitions by Registered Bank
Holding& Companies (Boston: Federal Reserve Bank of Boston, 1971), pp. 47,49.
There was a marked acceleration in the expansion of bank
holding companies between January 1954 and June 1956. This increase in
the growth rate of group systems was dominated by the acquisitions of
Transamerica (later Western Bancorporation) and the Marine Midland
Company.1 Two major reasons for the spurt in growth for this 2-1/2
year period were: the fear of restrictive federal legislation and the
efforts to rebuild Transamerica following the sale of its interest in
Bank of America.2 .
Regulation of Bank Holding Companies
Commercial banking in the United Stat'es has been subject to
regulation and supervision by federal and state authorities since the
1780's. However., since the bank holding company itself is not a bank,
it did not come under state or federal banking laws. The rapid expan-
sion of bank holding.companies in the 1920's stirred congressional
interest in establishing some degree of federal regulation of group
banking. After extensive hearings by the House and Senate over a three
year period, the Banking Act of 1933 (Glass-Steagal Act) was passed.3
Banking Act of 1933
The Banking.Act of 1933 granted the Federal Reserve Board limited
powers to regulate holding company affiliates. A holding company, affiliate
1 A list of all 340 acquisitions made by holding companies between the
end of World War II and December 31, 1967, is provided in Piper, pp. 18-26.
Fischer, Bank Holding Companies, pp. 39-42.
The full text of the Banking Act of 1933 is contained in the June 1933
issue of the Federal Reserve Bulletin.
was defined as any organization which controls the majority of the stock
of a Federal Reserve System member bank.1 A firm which fell within this
definition must obtain a voting permit from the Board of Governors to
vote the stock of a subsidiary which is a member bank. Before granting
a voting permit, the Board of Governors considered the financial condi-
tion of the applicant and the general character of its management.2
There were several obvious weaknesses in this Act. First,
registration was not required of systems composed. of only nonmember
state banks and it was possible for some groups to control their banks
without obtaining a voting permit. Second, the statute did not attempt
to regulate the formation or expansion of bank holding companies. Third,
group systems were permitted to continue investing in nonbanking enter-
The banking authorities sought the enactment of regulatory
legislation to supplement the bank holding company provisions of the
1933 Act. Recommendations of the regulatory agencies in the 1940's asked
for a curb on the further expansion or formation of groups. After 1950,
the position taken by the federal supervisory agencies moderated because
in many instances the groups were performing valuable service in upgrading
the management and condition of affiliated banks.4
1"Banking Act of 1933," Federal Reserve- Bu--lleti vol. 19 (June, 1933),
2 "Federal Reserve Act Digest," Encyclopedia of Banking Laws (Hartford,
Conn.: Lamont Cross & Company, 1964), pp. 8-9.
Fischer, American Banking Structure, pp. 103-104.
Lamb; ppt 177-193. Also, refer to Benjamin J. Klebaner, "The Bank
Holding Company Act of 1956," Southern Economic Journal, o.2 Jnay
1958), pp. 313-326.
- 16 -
The Bank Holding Company Act of 1956
The Bank Holding Company Act of 1956 was intended to accom-
plish several objectives: (1) to define bank holding companies; (2) to
prevent holding companies from acquiring banks across state lines; (3)
to control the formation and expansion of multibank systems within
their "home"' states; (4) to preserve the historical separation between
the suppliers of money and the users of money.l
A bank holding company was defined in the Act as any company
which owned or controlled 25 percent or more of the stock of two or
more banks or which controlled in any manner the election of a majority
of the directors of two or more banks. Companies falling within the
statutory definition were required to register with the Board.of Governors,
to disclose prescribed information in reports to the Board, and to submit
to examination by the Federal Reserve System.
The Board's consent was required before a bank holding company
could be formed, before a bank holding company could acquire over 5 per-
cent of the voting stock or substantially all the assets of any bank,
or before two bank holding companies could merge. In deciding whether
to.grant approval for these actions, the Board was required to consider
the following factors:
(1) the financial history and condition of company
or companies and the banks concerned;
(2) 'their prospects;
(3) the character of their management;
(4) the convenience, needs, and welfare of the
communities and areas concerned; and
(5) whether or not the effect of the acquisition
or merger or consolidation would be to expand
the size or extent of the bank holding
1 William F. Upshaw, "Antitrust and the New Bank Holding Company Act: Part
II," Monthly Review, Federal Reserve Bank of Richmond (March, 1971), p. 3.
- 17 -
system involved beyond limits consistent
with adequate and sound banking, the public
interest, and preservation of competition
in the field of banking
The first three factor pertained to the organization's solvency,
asset condition, capital and operations, thus continuing the underlying
concern for depositors reflected in the 1933 Act. The last two factors
represent a significant departure from earlier legislation. For the
first time, concern is shown for the competitive health of the banking
industry. It is recognized that the acquisition of a bank involves
important nonsafety-oriented considerations such as the expected effects
on banking competition, the possible introduction of new services at the
acquired bank, and changes in its lending behavior and pricing policies.2
Under the 1956 Act, a registered group was prohibited from
engaging in any business other than banking, managing banks, or providing
certain services to subsidiary banks. The holding company law also deals
with intra-system transactions, restricting lending and credit operations
of groups.3 The restrictions placed on intra-system dealings made it
difficult for bank holding companies to perform the function of facilitating
loan participation and other joint credit transactions. In fact, the
1956 legislation effectively made it easier for correspondent banks than
for holding company affiliates to take joint action.4
"Bank Holding Company Act of 1956," Federal Reserve Bulletin, vol. 42
(May, 1956),. p. 446.
2 nFederal Laws Regulating Bank Mergers and the Acquisition of Banks by
Registered Bank Holding Companies," Economic Review, Federal Reserve Bank
of Cleveland (January, 1971), pp. 20-21.
S"Bank Holding Company Act of 1956," Federal Reserve Bulletin, vol. 42
(May, 1956)-, p. 448.
SGeorge R. Hall, "Bank Holding Company Regulation," Southern Economic
Journal, vol. 31 (April, 1956), p. 344.
- 18 -
The Board of Governors in its annual report to Congress in
1958 discussed the regulation of holding companies. The Board had
encountered substantial difficulty in balancing "convenience and needs"
and "competitive impact" considerations, both of which the Board is
required to consider in passing upon applications. To compound the
problem, the terminology used in connection with the question (of
"competitive impact" was imprecise. Another problem of the 1956 Act
involved the severe restrictions placed on intra-system loan partici-
pations. In order to correct the problem, the Board recommended repeal
of the restrictions. The report also recommended that one bank holding
companies come under regulation and that several exemptions of organiza-
tions from the holding company law be repealed.1
The 1966 Amendments
The enactment of the 1966 Bank Holding Company Act Amendments
satisfied several of the Board's recommendations for changes in the law.
Several categories of exemption from the Act were repealed; nonbusiness
long-term trusts were brought within the coverage of the Act; the stan-
dards and antitrust procedures made applicable to bank mergers by the
Bank Merger Act of 1966 were made applicable also to bank holding company
cases; and the provisions of Section 6 of the Act, which restricted inter-
subsidiary loans and investments, were repealed.2
The Amendments of 1966 clarified Congressional intent with
respect to the relative importance of convenience and needs factors
1 "Report Under the Bank Holding Company Act," Federal Reserve Bulletin,
vol. 44 (July, 1958), pp. 776-796.
2 Amendments to Bank Holding Company Act," Federal Reserve- Buletin.,
vol. 52 (July, 1966), p. 966.
- 19 -
and considerations involving competitive impact. The Board was directed
not to approve:
(1) Any acquisition...which would result in monopoly,
or which would be in furtherance of any combina-
tion or conspiracy to monopolize or attempt to
monopolize the business of banking in any part of
the United States, or
(2) Any other proposed acquisition...whose effect in
any section of the country may be substantially
to lessen competition, or tend to create a monop-
oly, or which in any manner would be in restraint
of trade, unless it finds that the anticompetitive
effects of the proposed transaction are clearly
outweighted in the public interest by the probable
effect of the transaction in meeting the conven-
ience and needs of the community to be served.1
Contrary to the wishes of the Federal Reserve Board, the 1966
legislation continued to exempt one bank holding companies. Beginning
in 1968, a dramatic surge in the growth of one bank holding companies
stirred Congressional interest in bringing these companies within the
purview of the Act. By the end of 1968, seven of the ten largest com-
mercial banks in the United States had formed one bank holding companies.
A year later the list included 43 of the 100 largest banks.2
The most important factor motivating banks to adopt this
form of organization was the fact that one bank holding companies were
not subject to regulation and therefore were able to engage in any non-
banking activity. The increasing costs of funds in 1968 and 1969 and
the competitive disadvantage of the interest ceilings imposed by
Regulation Q encouraged banks -to organize these companies because a
bank holding company could issue commercial paper,.just as any ~other
1 Ii. pp. 967-9 68.
2 nThe 1970 Amendments to the Bank Holding Company Act: One Year Later,"
Business Conditions, Federal Reserve Bank of Chicago (December, 1971)
- 20 -
corporate borrower. Another factor stimulating change was the growing
investment by banks in data processing equipment and personnel. The
one bank holding company structure allows for the establishment of a
subsidiary which may adopt wage and personnel policies needed to
attract specialized personnel and the subsidiary is well suited to
marketing excess machine capacity. Also, the organization of a
holding company is one, and perhaps the only, method owners of banks
may use to insulate themselves against litigation attacking their
right to enter new areas not specifically authorized by statute.1
The 1970 Amendments
The Bank Rolding Company Act Amendments of 1970 expanded the
coverage of the Act to include a company that controls only one bank.
Other provisions of the 1970 legislation include an expansion of the
Board's authority to determine that a company controls a bank and a
prohibition against tie-in arrangements whereby a bank extends services
to a customer upon certain conditions.2
The 1970 Act revised Section 4(c)(8) of the Holding Company .
Act under which bank holding companies may acquire interests in non-
banking activities. The legislation provides that such activities may
be approved if they are determined by the Board to be ''...so closely
related to banking as to be a proper incident thereto....u3
William F. Upshaw, "Antitrust and the New Bank Holding Company Act:
Part III," Monthly Review, Federal Reserve Bank of Richmond (April,
1971) pp. 4-6.
2 'Bank Holding Company Act Amendments of 1970," Federal Reserve
Bulletin, vol. 57 (January, 1971), p. 29.
3 Ibid., p. 31.
- 21 -
The Board is also authorized to differentiate between an activity
comlmenced de novo and the acquisition of a going concern.1
Development of Bank Holding Companies After 1956
After passage of the 1956 Act, it was expected that holding
companies would expand substantially. The growth of multibank groups,
however, closely paralleled the general development of the banking
system in the period from 1956 to 1965. At the end of 1956 there were
49 separate bank groups registered with the Board pursuant to the~ Act.
For year end 1960, there were 42 distinct registered companies and
five years.1later there were 48 multibank systems. The share of U.S.
total deposits held by subsidiaries was little changed for the period;
7.5 percent ia 1956 compared to 8.3 percent in 1965. Similarly the
ratio of holding company offices to all commercial bank offices changed
by less than 1.0 percent, with groups possessing 6.7 percent of all
banking offices at the end of 1965. (See Table 2.1.)
Since the end of 1965, holding companies have expanded sub-
stantially. Many factors contributed to the increase in holding company
activity. The abolition in 1964 of the 2 percent federal tax penalty
imposed on companies filing a consolidated tax return was one contributing
factor. 2 Another possible consideration was that the holding company
idea had finally come of age. This was suggested by the Board's approval
1 For a good explanation of the 1970 Amendments see Donald L. Kohn and
John F. Zoellner, "The Amended Bank Holding Company Act," Monthly Review,
Federal Reserve Bank of Kansas City (May, 1971) pp. 11-20.
2 Ed Tyng, "New Moves to Form Holding Companies Seem Likely Now that
Tax Penalty is Dead," Journal of Commerce, April 7, 1964, pp. 1, 24.
in April 1966 of three holding company formations by New York
Registered Bank Holding Companies: Number,
Number of Banks and Branches, and National Share
of Offices and Deposits, 1956i.1960, 1965
December 31 December 31 December 31
1956 1960 1965
Number of holding companies 49 42 48
Number of banks 428 426 468
Number of branches 783 1,037 1,486
Holding company offices as
a percentage of all banking
offices 5.8 6.2 -6. 7
Total deposits (millions of
dollars) 14,843 18,274 27,560
Total deposits of holding
companies as a percentage of
deposits of all banks 7.5 8.0. 8.3
- 2 -
a Numbers are for separate bank groups. There were
bank holding companies, in 1956, for example, but in
holding company controlled another.
four cases one
Source: Unpublished Federal Reserve Board data; Federal Reserve
Bulletin, June -1961 and August 1966.
The three companies were BT New York Corporation, Charter New York
Corporation and -Security New York Corporation. The New York groups
had total deposits of over $8.2 billion which is approximately 30
percent of the total deposits figure for all registered companies
at the end of 1965.
The 1966 Amendments (enacted in July of 1966) contributed to
the dramatic increase in holding company activity. Repeal of the
restrictions upon loan participation and the sale of loan paper
certainly encouraged the activity. The 1966 amendments also clari-
fied the applicability of the antitrust laws to banks and required
the Department of Justice to challenge the Board's decisions upon
holding company applications within thirty days of approval. The
formation or acquisition is thereafter permanently immune from anti-
trust attack except under the monopolization provisions of Section 2
of the Sherman Act.1 No longer were bank holding companies haunted by
the possibility of future challenges of their past actions by the
Department of Justice.
As shown in Table 2.2, there has been a steady increase in
the number of multibankc holding companies from 1965 to 1970. At the end
of 1970, holding companies controlled .11.8 percent of the banking
offices as compared to 6.7 percent of the offices in 1965. The per-
~centage of deposits controlled by holding companies nearly doubled
during this five-year period, with holding companies possessing 16.2
percent of U.S. deposits at the end of 1970.
Table 2.3 provides a state-by-state summary of the development
of multibank holding companies between 1965 and 1970.2 Unlike the
1"Amendments to Bank Holding Company Act," Federal---. Resere Buleti,
vol. 52 (July, 1966), p. 967.
2For a similar summary which uses the years 1956, 1962 and 1969,
see Golembe, pp. 7-10.
End of Number of Number of Banking Offices Deposits ($ millions)
Year Companiesa Banks Number % of U.S. Total % of U.S.
1965 48 468 1,954 6. 7 27,560 8. 3
1966 58 561 2,363 7.8 41,081 11.6
1967 65 603 2,688 8. 6 49,827 12..6
1968 71 629 2,891 8. 9 57,634 13. 2
1969 86 723 3,397 10. 1 62,574 14. 3
1970 111 895 4,155 11. 8 78,064 16. 2
a Separate bank groups only; if a subsidiary bank is also a registered
bank holding company only one is included in the total.
Source: Federal Reserve Bulletin, August issues from 1966 through 1971.
aggregate data of Table 2.2, which may suggest a broadly based advance
Ln holding company activity, the state data indicate that much of the
growth has taken place in a small number of states. Of the 34 states
and the District of Columbia in which registered bank holding companies
operated in 1970, seven states showed a decline' in holding company
offices as a percentage of total offices between 1965 and 1970, and
19 states noted an increase of less than 10 percent: The only areas
reporting an expansion of 10 percent or more of banking offices were
Alabana (13.7), Colorado (13.6), District of Columbia (12.8), Florida
(25. 7), Maine (42.7), New Jersey (12.2), New York (17.7), Ohio (10.6)
and Virginia (21.1). Florida and Colorado are unit-banking states while
Alabama, New Jersey, New York and Ohio are limited-branching states.
Although Maine and Virginia are classified as statewide-branching states
1 Benton E. Gup, A Study of Banking Structure (Occasional Report Series,
Vol. 2, No. 3; Tulsa, Oklahoma: University of Tulsa, 1970), pp. 38-54.
Offices and Deposits of Banks Affiliated with
Registered Bank Holding Companies, 1965-1970
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the statutes do not favor statevide-branching (although it is possible)
and the dominant structure is of the limited-branching variety.1 The
increase for the District of Columbia is due to the registration of
Financial General Corporation pursuant to the Bank Holding Company Act
Amendments of 1966.
In terms of deposits, 10 states showed holding company deposits
declining or remaining constant and in 16 states holding company control
of deposits rose by less than 10 percent from 1965 to 1970. The following
states had an increase of holding company deposits of 10 percent or more:
Alabama (16.0), Colorado (29.2), District of Columbia (11.4), Florida
(38.5), Maine (41.2), Missouri (23.7), New Jersey (16.8), New York (17.7),
Ohio (11.5) and Virginia (21.1). Except for the District of Columbia,
all of these states prohibit or make difficult statewide-branching.
Since the end of 1970, multibank holding companies have rapidly grown
in Texas (unit-banking) and Tennessee (limited-branching).
SFor example, in Virginia an organization can achieve- statewide
branching only by merger. The mergered bank loses its branching priv-
ileges. (Individual banks may branch countywide, more or less.) In
addition, only banks in existence for 5 years or more may be acquired
by merger. Because of these limitations on statewide-branching ,
~Virginia organizations have generally formed holding companies. Affi-
liates of holding companies do not lose- their branching privileges and
affiliates are not required to have been in existence for at least
A CRITICAL REVIEW OF THE LITERATURE
In the preceding chapter the history of the bank holding
company movement was reviewed. In this chapter the scholarly litera-
ture on bank holding companies is reviewed.
A Selective and Critical Review: An Aid to Model Building
The review of literature will cover empirical studies of multi-
bankr holding companies since 1960.1 In the course of the review, we will
attempt to determine the characteristic operating policies of bank
holding companies. In order to determine if the results of the empirical
studies are reliable, the review of literature will be critical as well
as descriptive. The entire review of literature is designed to assist
in subsequent model building.
Fischer: Bank Holding Companies
An obvious starting point is Fischer's monograph on bank
holding companies. -Fischer- surveyed holding companies by means of
questionnaires and interviews to determine their organizational and
operational practices. .He found that most multibank systems employed
legal counsel and accounting and tax specialists. The headquarters of
the holding company did some, central purchasing and advertising;
SThe one exception is the Alhadeffs' study of bank mergers which was
published in 1955.
- Z8 -
- 29 -
operations specialists were made available to subsidiary banks; and
there was a considerable amount of committee activity.1
The lead bank of the holding company encouraged the less
active subsidiary banks to modernize by adopting the practices of the
lead bank. Almost without exception, the lead banks encouraged the
affiliated banks to emphasize consumer credit. (Consumer loans yield
a considerably higher rate of return than other types of loans and they
are subject to a number of cost savings if uniform systems and proce-
dures can be followed by all members of the bank holding company.)2
In the course of his interviews, Fischer found multibank
systems fully involved in the supervision of portfolios with special
assistance provided to affiliates in managing their cash positions.
The bank holding company actually participated in very little personnel
coordination or development despite claims to the .contrary.3
In unit-banking and limited-branching states, correspondent
banking is an important source of interbank service flows. Many of the
ways in which a depository bank aide its correspondents are very similar
to the services provided by a bank holding company. Because of the
similarity of services, many multibank holding companies have consolidated
correspondent accounts while having the lead bank or the holding company
itself provide subsidiary banks with specialized services.4
Fischer, Bank Holding Companies, pp. 86-87.
Ibid., pp. 87-92.
SIbid., pp. 94-98.
hid., p. 105.
- 30 -
Fischer observed that entry of a .bank holding company into a
rural community had .no effect on the general level of interest rates
although the new affiliate often stirred the competitive spirits in the
community as one bank remodeled or provided a drive-in facility and
other banks countered with innovations of their own.1
The research by Fischer is subject to several critidisms.
The review of operating policies of multibank systems is based upon
questionnaires and interviews. Information gathered by these means is
exposed to the problem of respondents giving good reasons as opposed to
the real reasons for operating policies. Also, there are difficulties
in classifying, and generalizing from, the information obtained from
questionnaires and interviews.
In Fischer's 1961 study, most of the holding companies surveyed
had been in existence since the late 1920's. One may wonder whether the
results of the study reflect the operating policies of the newly formed
or newly active multibank holding companies of the late 1960s.
As Fischer is well aware, he may be criticized for attempting
to generalize from a very diverse sample.2 His sample of holding com-
panies includes old and new groups, large and small .groups, groups which
operate in unit-banking, limited-branching, and unlimited-branching
states. The' sample includes states where the holding company movement
is in an advanced stage (Minnesota) and states where holding company
activity had yet (in 1961) to begin a sustained movement (Ohio).
Ibid., p. 130
2This criticism may be applied in varying degrees to all the works
surveyed in this chapter. Of course, there are multivariate statistical
methods (not used by Fischer) which would control for some of the
different characteristics of bank holding companies.
- 31 -
Because of these extreme differences, the behavior of the bank holding
companies sampled is very diverse. As a consequence, Fischer is unable
to make strong statements concerning holding company behavior because
of the wide differences in behavior observed.
Lawrence: The Performance of Bank holding Companies
The first rigorous study of bank holding company behavior was
done by Lawrence. In the study he employed the before-and-after method
of analysis in order to isolate the impact of holding company affilia-
tion upon certain performance variables. This method of analysis was
applied ~to the acquired bank and a comparable nonaffiliated bank. The
use of paired bank comparisons permitted Lawrence to hold constant all
relevant local market conditions.1
The acquired banks were essentially similar to the paired
independent--banks in terms of pre-affiliation performance variables with
the only exception being due to balances as a proportion of total deposits.
A possible explanation for this difference is that banks with relatively
large due to balances are reluctant to affiliate with a holding company
from fear of losing correspondent business upon affiliation.2 Additional
reasons for a reluctance to affiliate may be a lesser need on the part
of the bank for correspondent-type services, from a holding company and
the ability of the bank to possibly anchor a holding company itself.
1 For a good discussion of the paired bank methodology, see Piper,
2 Robert J. Lawrence, The Performance of Bank Holding Companies
(Washington, D.C.: Board of Governors of the Federal Reserve System,
1967), pp. 15-16.
As for post-affiliation performance, acquired banks were much
more active than the paired independent banks in making loans. The
difference in the proportion of assets devoted to loans.is both statis-
tically significant and quantitatively significant. Lawrence reported
that "the result for the loans-to-assets ratio is one of the strongest in
the entire study--the subsidiaries of bank holding companies have on the
average a loans-to-assets ratio that is more than 5 percentage points
higher than the ratio for the independent banks."' Lawrence also found
that holding company banks had a higher percentage of their assets in
the obligations of states and political subdivisions and lower percentages
of their assets in U.S. Government securities and cash plus due from
balances.2 After affiliation, subsidiary banks were found to be much
more aggressive than the independent banks in seeking out consumer
instalment loans. The subsidiaries' ratio of instalment loans to assets
was 3.15 percentage points higher than the ratio of paired independent
In the Lawrence study, holding company banks do not appear..to
have any competitive advantage over nonaffiliated banks. The average
growth rates of affiliates were not superior to the growth rates of
the independent banks. The earnings of subsidiary banks were not signi-
ficantly different from the earnings of the independent banks. Also,
there was no evidence of operating efficiencies as measured by the
operating ratio (operating expenses divided by operating revenue).4
Ib d., p. 17.
SThis result is confirmed by other studies which employ less rigorous
measurement techniques. See, for example, Golembe, p. 49.
SLawrence, pp. 21-25.
No one to date has substantially improved upon the Lawrence
research although it is subject to some criticism. The paired bank
approach used in the study assumes that the actions of the paired bank
are independent of the operating changes of the acquired bank. One may
question this assumption since the banks are in the same market.
Both a strength and a weakness of the study is the sharp
differences among the banks in the study:
The selected banks include large and small banks,
banks in standard metropolitan statistical areas
and small towns, banks in all sections of the
nation, subsidiaries of large and small holding
companies, lead and on nead banks, and unit and
From such a diverse sample, Lawrence may be justified in making general
statements about holding company behavior. However, it can be argued
that the univariate statistical method (t-test on difference of means)
employed by Lawrence did not adequately control for the sharp differences
in the banks sampled. It is possible that the extreme' differences among
the banks actually reduced the significance of some of the statistical
tests. Instead, if Lawrence had controlled for the differences in, say,
the size, location, length of affiliation and branching characteristics
of the banks sampled by using a multivariate statistical method, he may
have found that holding companies affiliates were, say, more efficient
or more profitable than independent banks,2
Ibjid., p. 12.
SLawrence did divide the sample into two groups on the bases of
location, size of holding company, size of bank, and length of .acquisi-
tion. These divisions did not yield more significant results. However,.
the sample was divided on the basis of one- characteristic at a time.
Also, the divisions were very rough; e. g., a bank was either a large
bank or a small one.
- 34 -
McLeary: Bank Holding Companies--Their Growth and Performance
Bank holding companies in the Sixth Federal Reserve District
(Atlanta) were studied by Mc~eary. His study was a replication of the
Lawrence research, with the sample consisting of holding company affil-
iates in Florida, Georgia, and eastern Tennessee. McLeary employed a
paired bank method in analyzing performance variables- after affiliation. 1
Four performance variables of affiliated banks were found to be signifi-
cantly different (in the statistical sense). Subsidiary banks .generally
charged lower interest rates on loans, carried fewer U.S. Government
securities and more state and local obligations relative to assets, and
had a higher percent of their deposits in demand accounts than did
The McLeary study has several serious deficiencies. There
is no economic justification for excluding western Tennessee which is
not in the Sixth Federal Reserve District. McLeary failed to take
account of differences among the three states included in the study.
Florida is a unit-banking state while Georgia and.'Tennessee permit
limited-branching. In 1960 Georgia prohibited the formation of bank
holding companies or the further expansion of existing holding companies.
Florida and Tennessee place no restrictions on holding company activity.
Also, bankers in Florida and Tennessee have reacted differently to the
possibility of adopting the holding company structure. The beginning
of sustained holding company activity in Florida occurred in 1966. The
SMcLeary realized that a before-and-after study is needed to determine
rigorously whether operating differences observed are due to changes
following affiliation or are due to the fact that 'holding companies
acquired banks with certain performance characteristics.
2 Joe W. McLeary, "Bank Holding Companies: Their Growth and Performance,"
Monthly Review, Federal Reserve Bank of Atlanta .(October, 1968), p. 137.
- 35 -
take off for holding company activity in Tennessee occurred at least
three years later.1 The McLeary study covered holding company subsid-
iaries in existence at the end of 1966.
Weiss: Bank Holding Companies and Public Poliev
Weiss studied holding company structure and performance in
the New England states of Maine, Massachusetts and New Hampshire. He
found that the holding companies expected to be consulted by affiliated
banks on matters such as changes in dividend policy, establishment of
branches, or other factors that affect earnings. Most holding companies
in the study discouraged correspondent relationships with banks outside
the system in order to minimize the non-earning assets of subsidiaries. 2
In general, the acquired banks' loan to deposit ratio increased
in the post-acquisition period. Also substantial shifts occurred in the
composition of the acquired banks' non-loan assets in the post-acquisi-
tion period. The acquired banks generally reduced their holdings of
U.S. Government securities and their holdings of currency plus due from
balances -relative to total assets. The affiliated banks increased their
holdings of state and 1ocal government obligations. In the majority of
holding company acquisitions studied, Weiss found a decrease in consumer
instalment loans as a .proportion of total loans~. Earnings performance
and the growth of capital accounts for the acquired banks seemed unaffected
In Florida, holding companies' share of total deposits of the state
went from 22.4 percent in 1965 to 38.4 percent in 1969. The comparable
figures for Tennessee are 2.6 percent and 8.2 percent.
2Steven J. Weiss, "Bank Holding Companies and Public Policy," New
England Business Review, Federal Reserve Bank of Boston (January/February,
1969), pp. 18-19.
- 6 -
by holding company affiliation.1 None of Weiss' results were subjected
to statistical tests because the number of banks in the study was
Weiss discussed several factors which appeared to influence
holding company behavior. He contended that the holding company struc-
ture was particularly attractive to center city banks that lacked the
legal power to branch into growing suburban areas... Also, he suggested
that adoption of a holding company organization may be motivated in
part by a desire to increase the size of a single banking organization.
In the case of Maine, Weiss found that the aggressive activity of one
holding company had been an important factor contributing to an upsurge
of interest in holding companies by other Maine bankers.2
Talley: The Effects of Holding Company Acquisitions on Bank Performance
The Lawrence research was updated by Talley using a larger and
different sample of acquired banks for the period from 1966 through 1969.
In reviewing the portfolios of the banks in the study, Talley found that
the acquired banks tended to switch out of governments and into.state
and local obligations and loans, particularly consumer loads. *In com-
paring the mean difference of affiliated banks versus independent banks
before affiliation with the mean difference after affiliation, Talley
1 Ibid., pp. 21-22.
2 Ibid., pp. 9-15. Situations similar to the one in Maine have occurred
in other states. For example, in New Mlexico "the obvious success and
Lapressive growth record of Bank Securities has apparently triggered
action on the part of four or five bank groups that are reported in the
process of forming bank holding companies." "Bank Breakthrough in New
Mlexico," Burroughs Clearing House, vol. 54 (September, 1970), p. 25.
observed an increase in the subsidiaries' ratio of loans to assets of
3.85 percentage points.1 As measured by the mean change in the differ-
ence method, the subsidiaries' ratio of consumer loans to total assets
increased by 1.60 percentage points.2 Both results are statistically
significant at the .01 level.3
Talley suggested that the portfolio changes found may be due
to the holding company structure which permits affiliates to be located
in diverse locations thereby lowering risk to the system as a whole.
Also, acquired banks can expect assistance from other affiliates or the
holding company in the event of liquidity problems. In addition, the
portfolio changes may be due to headquarters replacing conservative
management with more aggressive~, profit-oriented management.4
Bank holding company affiliation did not result in statistically
significant changes in the capital, prices, expenses or profitability of
acquired banks with one exception. Other operating expenses as a per-
centage of total assets was significantly higher for acquired banks.
One plausible explanation for this higher expenses ratio is that the
acquired banks paid significant management fees to their holding companies.
The only major difference from the Lawrence study was that Talley did not
SThis result is observed in other research. For example, Piper, p. 129.
Also see Irving Schweiger, "Reply to Chicago Banking: A Critical Review,"
Journal of Finance, vol. 17 (October, 1962), p. 424.
2 Lawrence in his study excludes single payment loans from the consumer
instalment loan category. Talley includes single payment loans in his
consumer loan category.
Samuel H. Talley, The Effect of Holding Company Acquisitions on Bank
Performance (Washington, D.C.: Board of Governore of the Federal Reserve
System, 1972), pp. 8-9, 16.
SIbid., pp.' 9-10.
find that banks acquired by holding companies increased their service
Talley's study is subject to the criticisms applied to the
Lawrence paper; namely, the assumption of independence implicit in the
paired bank method and inadequate controls for a very diverse sample.
It is possible that Talley's conclusion that holding company affiliation
did not have a broad impact on the performance of acquired banks is
invalid because his univariate method of analysis did not adequately
adjust for differences among the banks studied.
Piper: The Economics of Bank Acquisitions by Holding Companies
Recently, Piper has done extensive research on the profit-
ability of bank acquisitions by holding companies. He found that
affiliation with a holding company was not associated, on average, with
any important increase in bank profitability over and above that exper-
ienced by banks generally. Furthermore, there was little evidence of
superior growth by the acquired banks.2
Piper also considered the question of whether the acquisition
programs of holding companies are profitable.3 An acquisition was judged
profitable if earnings per share of the holding company were higher in
1967 as a result of the acquisition. Piper .omitted from the analysis of
profitability any favorable impact on the holding company's stock resulting
1Ibid., pp. 10-13.
Piper, p. 161.
3 It is quite possible that a bank may not be exceptionally profitable
either before or after acquisition and still be a profitable addition to
the holding company. Such would be the case if a bank were acquired by
a holding company at a bargain price.
- 39 -
from the acquisition activity itself. Also omitted were any increases
in the earnings of the parent company resulting from fees paid to it
by the acquired bank.1 Piper found that the 102 acquisitions studied
.were breakeven investments, on average, and they did not result in higher
earnings per share for the holding companies involved.2 There was a
definite tendency for acquisitions during the period 1946-1958 to be
less profitable than those completed during the period 1957-1967.. In
the second period from 1957 to 1967, holding companies acquired -banks
that had excess capital that either could support further bank expansion
or could be reallocated to other, more productive uses in the system.
Holding companies that were active in acquisitions during the 1957-1967
period were also more aggressive in theirluse of long term notes and
In considering the motivations for holding company behavior,
Organizers and managements of bank holding companies
seemed motivated by two primary considerations: (1)
the prestige and increased lending capacity of a
large regional banking group and (2) beliefs, un-
substantiated by a substantial accumulation of
research, that scale economies and improved manage-
nent would offset premium prices paid for banks and
would permit profitable expansion by acquisitions
Piper, pp. 216-219. The omission of management fees paid to the
parent company is questionable. Both Lawrene and' Talley report signi-
ficant increases in other expenses for acquired banks. These other
expenses are very likely management fees.
2Piper has assumed that the growth prospects- of the bank and the
holding company were equal beyond 1967. He also assumed that the holding
company's policies with respect to the existing system were unaffected
by a change in its acquisition activity.
Piper, pp. 224-225.
Ibid., p. 252.
- 40 -
With regard to the considerations of prestige and large
lending limits, none of Piper's own research provides support for such
a contention.- The fact that the acquisitions studied by Piper were
at best a breakeven proposition for the holding companies involved
does not lead to the conclusion, which is implicit in the consideration
of prestige, that holding companies are not profit maximizers. One
may propose that for acquisitions made during the 1946-1956 period the
holding companies involved were overly optimistic; i.e., they incorrectly
estimated the future stream of earnings from their acquisitions. For
the 1957-1967 period, Piper actually found that holding company acquisi-
tions were, on balance, profitable.2
With respect to the unsubstantiated belief in scale economies,
Piper states that in almost all acquis-itions by holding companies, scale
economies were probably negligible since the size of the firm was in-
creased but plant size was not increased. Piper cites research by Bell
and Murphy which shows that the greater labor requirements of branching
offset the economies of acale which permit specialization in many
banking functions.3 Piper.is comparing a holding company system to a
branching system which seems inappropriate. A more appropriate basis
Piper appears to be strongly influenced by Reid's study of mergers
involving large banks. See Samuel R. Reid, Mergers, Managers and the
ESSESSI, @iew York: McGraw-Hill Book Co., 1968), Chapter 10.
2The sixty-seven acquisitions analyzed during the second eleven-year
period had a mean profitability index of 1.07. The breakeven point was
1.0. See Piper, p. 224.
3 Ibid., p. 256. The reference is to Frederick W. Bell and Neil B.
Murphy, Costs in Commercial Banking: A Quantitative Analysis of Bank
Behavior and Its Relation to Bank Regulation (Boston: Federal Reserve
Bank of Boston, 1968).
(if one proposes to test the arguments for efficiencies as expressed by
advocates of the holding company structure) is to compare unit banks
operating independently with unit banks operating within a holding
Possible Efficiencies of the Holding Company Structure
Conceptually, returns to scale refer to the percentage change
in physical output resulting from simultaneous and equal percentage
changes in the employment of each input. Thus, the advocates of
holding company efficiencies are not really claiming economies of
scale as this term is strictly defined. Rather, the emphasis is on
economies of vertical integration for the multibank holding company
(the multiplant firm).1 The Bell and Murphy research does not test
this claim. The use of the operating ratio by Lawrence and Talley as
a rough-and-ready measure of operating efficiencies is very rough.
It must be said that the case for economies of vertical
integration accruing to the multibank holding company is most convincing,
a 211211. Holding companies .have a greater ability to tap major money
markets than do individual banks. The credit of the parent organization
is usually stronger than that of individual units, so the parent can nego-
tiate better terms. A large organization can recruit better talent because
of the fringe benefits, salary structure and additional possibilities of
advancement. The holding company vehicle permits pension and profit
sharing plans, as well as other fringe benefits, to be uniformly applied
to all units in an efficient program. Coordinated advertising programs
1 The formation of a multibank holding company may be viewed as the
positioning of a layer of management on top of a group of semiautonomous
may be applied to all units. The bond portfolio of all units can be
administered more expertly by a central department. Centralized uniform
accounting can provide vital help in efficient operations and assist in
financial planning and budgeting. A centralized auditing program can
be beneficial to subsidiary banks both as a management tool and as a
means of supplementing director's examinations.1 Note that these argu-
ments for group efficiencies are based upon a fundamental economic
principle. Large markets promote the increased division of labor and
the increased division of labor makes possible a more efficient use of
Schweitzer: Economies of Scale and Holding Company Affiliation
Schweitzer has conducted the only research to date which
directly examines the question of efficiencies in m~ultibank systems.
In the research, he specified and estimated a cost function for banks
which stressed their dual function as intermediaries and payments
clearinghouses. The results of the study suggest that there are economies
of holding company affiliation. Schweitzer concluded:-
On the holding company question, it appears that .-
there are cost savings to be achieved through
affiliation with a holding company group, and
particularly with one of the two large Ninth
District groups. But these savings accrue prin-
cipally to banks in the intermediate size ranges.
1 Eugene H. Adams, "Economy, System Changes Require States to Modernize
Bank Structure," American Banker, etme ,17,p 1
2 Although Adam Smith used the pin factory to explain this principle,
nonetheless the principle may be extended to the modern multiplant firm.
It should also be noted that the problems of a limited supply of manage-
ment services are less press-ing for registered bank holding companies
because federal statutes require relatively homogeneous components for
- 43 -
from $3.5 to $10.0 million and from $10.0 to $25.0
million total assets.1
These conclusions can only be termed suggestive. One may
question~ whether Schweitzer's use of only two independent production
functions adequately reflects the variety of output produced by banks.
Also, data on the factor ptices for labor and for demand deposits were
not available for estimating the cost function.2
Upson and Jessup: Returns from Bank Holding Companies
Research by Upson and Jessup bears upon the question of the
profit orientation of holding companies. (Recall that Piper stated
that holding companies have a prestige and size orientation.) They found
that the earnings of multibank holding companies and the valuation of
these earnings were very favorable. The researchers created a price
index of holding company stocks for the period from 1957 to 1971 for
companies with over $500 million in group deposits after -1960. Share
prices between 1957 and 1971 increased almost 200 percent ~(about 8 per-
cent, compounded annually). For the same period, Moody's common stock
price index for banks outside New York City increased about -117 percent
The behavior of the holding company indez is attributed to
the management policies of these companies which have resulted in divi-
dends growing more rapidly for holding companies than for individual
banks. This greater growth of dividends basically reflects real growth
1 Stuart A. Schweitzer, Cost and Production in Banking: The Case of the
Ninth Federal Reserve District, Doctoral Dissertation, Department of
Economics, University of Minnesota, 1970. Cited in Golembe, p. 59.
Stuart A. Schweitzer, "Economies of Scale and Holding Company Affilia-
tion in Banking," Southern. Economic Journal~, vol. 38 (October, 1972),
SRoger B. Upson and Paul F. Jessup, "Returns from Bank Holding Companies,"
The Bankers Magazine, vol. 155 (Spring, 1972), pp. 60-61.
in earnings per share because the holding companies have typically
not increased their dividend payout ratios over the time period.1
Upson and Jessup also developed a more comprehensive. measure
of performance than the price index of holding company stock by com-
bining price and dividend information into total rates of return. This
measure includes both dividend income and capital gain or loss and
allows for the timing of receipts and outlays. Using this measure of
performance, a complete matrix of returns for the shares of holding
companies was calculated. For the period from 1957 to 1971, the average
return for all holding periods was 11.2 percent, compounded annually.2
The results of the research by Upson and Jessup demonstrate that holding
company profits, on average, have been very favorable. The results also
imply that holding .companies are profit oriented.3
Alhadeffs: Recent Bank Mergers
Research by the Alhadeffs is relevant t'o the study of holding
company behavior. In analyzing bank mergers, which occurred in the
early 1950s, the researchers hypothesized that uneven rates of growth
among banks were a major reason for the observed increase in bank mergers.
The Alhadeffs wrote: "The very rapid growth of the past decade has created
stresses and maladjustments owing to uneven rates of growth of different
Ibid., pp. 61-62.
2 Ibid., p. 62. The returns are approximately symmetrical around the
overall mean of 11.2 percent. There are relatively few negative returns
and no negative, returns appear ~for holding periods of longer than two
Note that Piper looked at holding company profitability in terms of
earnings per share for a selected set of acquisitions while Upson and
Jessup considered the returns to the entire holding company system in
terms of share prices and in terms of their comprehensive measure of
banks."1 If a merger is not an acceptable solution to a lagging growth
rate--which is usually the case in unit-banking states and often the case
in limited-branching states--then a bank may decide to organize or to
join a holding company in order to remedy a record of poor growth.
In the same study, the Alhadeffs reported that mergers oc-
curred in clusters and gave two reasons for the merger clusters:
Banks which have not yet begun to acquire other
banks begin to do so in simple imitation of the
initiators. A pattern of acquisitions which is
desirable for the initiators can be equally
desirable for the imitators. The clustering is
also explained by the defensive reaction of non-
participating banks to the acquisition activities .
of the initiating banks. Once mergers have begun
in an area, the relative standing of the, other
banks is either actually or imminently threatened
and a retalitary merger is the surest way to
maintain a threatened position.2
The merger clusters cited by the Alhadeffs appear to have an analogue
Ln the snowballing of holding company; activityy which was observed in
The Relative Standing of Banks .
In explaining the clustering of~nergers, the Alhadeffs
mentioned a' bank's concern for its relative standing in the market.
A bank's concern for its relative standing is quite understandable if
its relative position declines because of a movement of customers to.
other banks. The Alhadeffs pointed to an indirect effect of a decline
in market standing. A decline in market standing is accompanied by a
1 Charlotte P. Alhadeff and David A. Alhadeff, "Recent Bank Mergers,"
Quarterly Journal of Economics, vol. 55 (November, 1955),- p. 512.
2- Ibid., p. 518.
See Chapter 2, p.12 and this chapter, p. 36,
relative (and possibly an absolute) loss of deposits which often causes
an increase in the capital to deposit ratio which reduces the leverage
on the bank's earnings.1
Related to the question of relative standing is the. fact
that a bank possesses a supply of highly specialized resources, namely,
banking knowledge and experience. These specialized resources are
relatively fixed in the near term so these resources may be viewed as
involving a type .of fixed cost.2 It is advantageous for the bank to
attempt to spread these fixed costs (of specialized resources) over
additional units of output because, other things being equal, average
costs decline as fixed costs are stretched over added output. Of course,
the ability of a bank to spread out fixed costs is a function of its
ability .to expand. It should also be noted that a bank's knowledge and
experience increases over time, thereby augmenting the bank's capacity
for production. With the passage of time, lacklustre growth can result
in a serious underutilization of resources.3
The empirical studies consistently found that holdihg company
affiliates have altered their portfolios in a manner that should increase
returns. Cash, due from balances and' U.S. Governments have been reduced
and a larger part of the portfolio has been devoted to local and state
1Alhadeff, p. 516.
Note that if a bank forsakes its accumulated knowledge and experience
and seeks to acquire a completely different kind of knowledge and exper-
ience, the opportunity costs will be high.
3 The emphasis here is upon the human resources of the bank. Since the
provision of banking services is labor intensive, this emphasis seems
- 47 -
obligations and to loans, especially consumer loans. Many holding
companies provided correspondent-type services such as portfolio
analyses, accounting services and guidance on operational matters.1
The parent often charged the subsidiaries .fees for the services provided.
Also, banks were thought to be very sensitive to their relative position
in a market. Those banks whose relative positions were threatened--
for example, downtown banks in a unit-banking state--may be attracted
to the holding company structure as a way to improve their market
standing. Holding company growth has occurred in .spurts perhaps because
independent banks have frequently reacted to the aggressive actions of
holding companies by organizing or joining a holding company. The evi-
dence is inconclusive on the question of whether holding company affil-
Lates are more efficient than comparable independent banks. Holding
companies appear to have operated very profitably, especially in the
last decade or so.2
For a recent discussion of the range of services provided by holding
companies see Robert J. Lawrence, OperatinR Policies of Bank Holding
Companies--P-art 1 (Washington, D.C.: Board of Governors of the Federal
Reserve System, 1971).
2 A recent study of holding company performance was conducted by Golembe
and Associates. The study was not reviewed because the empirical work
is poorly done. A paired bank method is used on an after-acquisition
basis only in an attempt to analyze holding company behavior. The before-
acquisition analysis was never done using rigorous statistical tests..
There are only 16 and 22 group banks for the two post-acquisition dates.
The tests applied for the post-acquisition dates are biased since some
group-banks were paired with more than one independent bank. To confirm
the results of the paired bank approach, Golembe analyzed national data
for all insured banks and all affiliated banks as of December 31, 1968.
This use of aggregated data for a single point in time without the
benefit of any statistical tests is unacceptable. See Golembe, Chapter 3.
BANK HOLDING COMPANIES:
PROFIT MAXIMIZERS OR SIZE MAXIMIZERS
Neither the history of holding companies covered in Chapter 2
nor the review of the literature presented in Chapter 3 have provided
clear evidence as to the underlying motivation behind the actions of
bank holding companies.
On the one hand, the changes observed in the portfolios of
affiliated banks suggest that holding companies are profit oriented.
Also, if one accepts the arguments in favor of efficiencies for the
holding company structure, then the adoption and use of this structure
by a banking organization may indicate that the organization is profit
conscious. Furthermore, holding companies have operated quite profit-
ably, at least in the last decade or so. Of course, profitable opera-
tions are supportive of a profit maximization hypothesis.
On the other hand, the very rapid external expansion of some
holding companies may imply that they are size maximizers. Also, the
very high prices paid for unaffiliated banks by holding companies suggest
that they are size oriented.l
1 Unpublished tabulations of the Federal Reserve Board show the premiums
paid by holding companies in Florida, Missouri, New Jersey and Ohio for
1970 and 1971. (The premium represents the difference between the market
value of the shares offered and the book value of the shares acquired,
expressed as a percent of book value.) The median premium ranged from
a low of 52.2 percent in Ohio to a high of 131.6 percent in Florida.
- 48 -
- 49 -
This chapter will discuss briefly profit maximization and
size maximization as alternative bases for .explaining holding company
behavior. Before model building can begin, it is necessary to decide
upon the underlying motivation of holding companies.
External Expansion and Profit Maximization
Most holding company affiliates are acquired by means of a
share exchange. In a share exchange, the holding companies with high
price-earnings multiples can pay a higher price for a bank than holding
companies with low multiples, other things being held equal.1 Also,
the highly valued company is able to pay the high acquisition prices
frequently demanded by independent banks without adversely affecting
per share earnings.
Accordingly, it seems necessary for the holding company that
dishes to undertake an aggressive program of external expansion to have
a relatively favorable price-earnings ratio. If a holding company with
a relatively unfavorable price-earnings ratio undertakes an active
program of expansion, the company will likely experience a dilution in
per share earnings and per share assets. The holding company will soon
be forced to curtail its expansion program since each additional
acquisition will increase the amount of dilution suffered by the
Southeast Banking .Corporation and United Bancshares, both Miami-
based holding companies, made a bid to acquire Lon Worth Crow, a
mortgage banking company with close ties to United Bancshares. South-
east Banking acquired the company because it was able to pay a higher
price than United. At the time, Southeast's P/E ratio was about
double the P/E ratio of United.
- 50 -
The primary determinants of the price-earnings multiple
appear to be the growth of earnings per share and the growth of the
associated dividends per share. There is a "growing consensus of
belief in a definite relationship (through the interaction between
the stock market, dividend policy and the reinvestment rate) between
the maximum obtainable growth rate of the supply of capital...and the
rate of profit earned on existing assets."2 If one accepts the argument
for a relationship between earnings growth, the P/E ratio and expansion,
then it follows that a holding company which intends to expand externally
nust be profit conscious.
The Alternative Hypothesis: Size Maximization
As noted above, a size maximization hypothesis and a profit
maximization hypothesis appear to provide a satisfactory framework for
explaining holding company behavior. As Lanzilotti has observed:
For example, compare First BancGroup and Huntington Bancshares.
Both Ohio companies have embarked on an aggressive expansion program.
First BancGroup with an especially high P/E multiple has been able to
nake acquisitions on terms that maintain or enhance its own per share
equity and earnings. tHuntington Bancshares with a much lower multiple
has diluted both its earnings and its book value in the course of
acquiring other banks.~ In 1972, Huntington Bancshares has acquired two
small banks whose deposits total $37.2 million, which is about one-fourth
of the deposits acquired in 1970 and in 1971. This reduced amount of
expansion is presumably due to the substantial dilution experienced by
Huntington Bancsharea. See Herbert F. Thomson and Jerry A. Meadows,
"The Expansion of Registered Bank Holding Companies in Ohio," Bulletin
of Business Research., Ohio State University, vol. 46 (July, 1971), p. 3.
2 R.L. Marris, "Review of E.T. Penrose: The Theory of the Growth of
the Firm," Economic Journal, vol. 71 (March, 1971), p. 147.
M Eultibank holding companies apparently believe in a relationship
between profits and multiples and expansion. See Paul S. Nadler,
"Craze for Raising Multiples Spreads with Multi-BHC Craze," American
Banker, October 31, 1972, p. 4.
- 51 -
"Given empirical findings are likely to be consistent with, or at
least partially reconcilable with, many hypotheses. The essential
question is: which hypotheses are likely to yield the most useful
and reliable short-run and long-run predictions."1
The key empirical finding favoring the size maximization
hypothesis is the fact that a number of bank holding companies have
expanded very rapidly. In addition, the fact that holding companies
frequently pay high acquisition premiums for banks is consistent with
this hypothesis. By paying especially high acquisition prices, the
holding company becomes larger at the expense oficarnings per share.
Another possible consideration in favor of this hypothesis
is that the decision-making power in a holding company usually rests
with management. The argument for management control of the holding
company is based upon the fact that the stock of a holding company is
usually widely held. It is often assumed that the management-dominated
firm will opt for some goal (such as size maximization) other than
Vernon has tested this assumption for banking firms. He
We uncover no evidence to suggest that control
status has exerted a significant influence on
profit. rates of large commercial banks during
recent' years. ...Owner-controlled banks did not
realize higher rates of return on invested capital
than management-controlled banks.2
1 Robert F. Lanzilotti, "Pricing Objectives in Large Companies: Reply,"
American Economic Review, vol. 49 (September, 1959), p. 685.
2Jack R. Vernon, "Separation of Ownership and Control and Profit Rates,
~the Evidence from Banking: Comment," Journal of Financial and Quantita-
tive Analysis, vol. 2 (January, 1971), p. 624.
- 52 -
If one is willing to extend Vernon's results to management-controlled
holding companies, then one cannot argue that holding companies are
not profit maximizers because these companies tend to be management
Profit Maximization Versus Size Maximization
In practice, it is very difficult to distinguish between the
size maximizing firm and the profit maximizing firm. For instance, the
rapid expansion of holding companies and the payment of high acquisition'
premiums may be rationalized in terms of a longrun profit maximization
Under certain conditions a size maximizing firm and a profit
maximizing may behave the same way. It was argued above, thiat a holding
company which wishes to expand rapidly must be profit conscious. Con-
sequently, some size maximizing companies may be forced to maximize
profits in order to pursue an aggressive program of external expansion.
Of course, a size-maximizing company subject to a profit maximization
constraint will behave in exactly the same way as a profit-maximising
Although the evidence is mixed, it appears preferable to use
the traditional model, of profit maximization. The concept of size
maximization is difficult to apply empirically because the notion of a
satisfactory level of profits, which is associated with the size maximi-
zation hypothesis, is difficult to use in empirical work.1
Of course, the size maximizing firm cannot completely ignore its level
of profits. For a discussion of the concept of a satisfactory level of
proits se wilia J.BauolBusiness Behavior, Value and Grawth (e
York: Macmillan Company, 1959), p. 49. For a discussion of the problems
in applying this-concept, see Bevars D. Mabry and David L. Siders, "An
Empirical Test of the Sales Maximization Hypothesis," Southern Economic
Journal, vol. 28 (January, 1967), pp. 367-377.
- 53 -
'By way of contrast, the profit maximization model greatly
simplifies the analysis. Professor Machlup wrote that "the substitution
of~ money profits for a composite of pecuniary [satisfactory profits] and
non-pecuniary rewards [size and prestige] simplifies the analysis so
much that the gain in expediency far exceeds the loss in a~pplicability."1
A statement by Penrose indicates what the profit model must
accomplish in order to explain holding company behavior.
In an analysis of the expansion of individual firms
the profit-seeking assumption is useful so long as
it is possible to set forth in reasonably objective
economic terms the considerations that will determine
the probability that certain specified directions of
expansion will be more profitable than others.
Applications of the Profit Maximization Hypothesis
Models of lead bank status and of holding company activity
will be developed within the framework of the profit maximization
hypothes is. In the model of lead bank status, it is assumed that a
potential lead bank considers its characteristics and the characteristics
of its environment -in deciding whether to lead a holding company. The
profit maximization hypothesis predicts that the bank will lead a holding
company if this is the most profitable opportunity- available. For the
model of holding company activity, it is assumed that holding companies
as a group consider the expected profitability of different markets and
the regulatory position of the Federal Reserve Board in deciding where
to acquire affiliates.' The profit maximization hypothesis predicts
1 Fritz Machlup, "Theories of the Firm: Marginalist, Behavioral,
Managerial," American Economic Reviewvl57(ac 16)p..Th
size maximization model usually carries the suggestion that the firm
values highly the prestige associated with size.
2Edith Penrose, The Theory of the Growth of the Firm (New York: John
Wiley &r Sons, 1959), p. 185.
that holding companies will be most active in the most attractive
markets (in terms of expected returns),- provided the regulatory
position is permissive.
It is important to note that the profit maximization hypothesis
is employed because the hypothesis provides us with a useful and con-
sistent framework for analysis. The historical evidence and scholarly
research suggest, but do not demonstrate, that holding companies are
profit maximizers. The reader should not be misled into thinking that
the study is designed to determine whether or not holding companies
are profit maximizers. Rather, the study is built upon the convenient
and well-known assumption of profit maximization.
A MODEL OF LEAD BANK STATUS
Within the framework of the profit maximization hypothesis,
we will develop a model to analyze the factors which cause a bank to
become a lead bank of a'multibank holding company. Alternatively,
the model may be viewed as analyzing the factors which influence the
formation of a multibank holding company. For most cases, the decision
to lead a holding company and the decision to form a holding company
are different views of the same phenomenon.1 That is, a holding company
is generally formed by a bank which assumes lead bank status upon formation.
Definition of Lead Bank Status
In Chapter 1, the lead bank of a holding company is defined
as the bank which the management of a holding company designates as the
lead bank. The Federal Reserve -Bank of Atlanta asks each multibank
holding company to designate a bank as its lead bank in those instances
where it is not obvious which bank is the lead bank, so as a practical
matter it is not difficult to know which bank is the lead bank.
There are a few exceptions. For example, the McNulty Group.of Banks,
which consisted of eleven small banks in Central Florida, became a holding
company in 1967 with the title of First Florida Bancorporation. In 1969,
First Florida "acquired" Marine Bank and Trust Company, Tampa, which bank
became the lead bank of the holding company. See "First Florida Bancor-
poration, Haines City, Florida," Federal Reserve Bulletin, vol. 52 (November,
1966), pp. 1632-1635. "First Florida Bancorporation, Haines City, Florida,"
Federal Reserve Bulletin., vol. 55 (February, 1969), pp. 165-168.
* 55 -
- 56 -
Although it is the case that all multibank holding companies
have lead banks as defined above, nonetheless for a few holding com-
panies no bank has assumed lead bank status.'- The idea of lead bank
status is not easy to spell out, although it is usually evident
whether or not a bank has assumed lead bank status. A bank in taking
lead bank status will provide the top officers of the holding company.
The bank with lead bank status will set the tone for the entire system
in terms of management philosophy, operating procedures, policy guide-
lines and long range planning. The bank with lead bank status will
help the other bank subsidiaries solve problems of management and opera-
tions as well as providing these banks with specialized services.2
The Set of Potential Lead Banks
The set of potential lead banks is defined as the largest 75
banks (in terms of total deposits) in Florida as of December 31, 1971.
Although it is most unrealistic to consider all banks as potential lead
banks, the decision to use the top 75 banks may appear arbitrary. It
was reasoned that Dnly large banks have the opportunity of becoming a
lead bank because only large banks have the financial and human resources
needed to lead a multibank organization.3 A large bank by Florida
1 This appears to be the case with Ellis Banking Corporation of Bradenton,
Florida. Although the First National Bank of Bradenton was designated by
management as the lead bank (and it is used in the study), management of
Ellis Banking Corporation has indicated in discussions with the staff of
the Federal Reserve Board that the holding company "really" does not have
a lead bank.
2 As holding companies grow and diversify, the bank holding company
often takes on an existence distinct from that of the lead bank.
3 All lead banks of multibank holding companies are substantially larger
than the median size bank. The median size bank had total deposits of
$17.0 million as of December 31, 1971.
standards was judged to be a bank with approximately $50 million in deposits
or more. The largest 75 banks satisfy this criterion.1
Three of the 75 largest banks were excluded from the set of
potential lead banks because they had been actual lead banks~ since
the 1920's.2. Fourteen of the 75 largest banks were excluded because
they were not independent decision makers. In every case bui one,3
the excluded bank was closely tied to a much larger bank which was
assumed to make the decisions. So, of the largest 75 banks, only 58
banks were judged to be both potential lead banks and independent
decision makers. (See. Table A.1 in the appendix.)~ Of the 58 potential
lead banks used in the study, 21 banks have become lead banks and of
the remaining 37 banks, ten banks have been acquired by holding companies
and 27 banks have made no decision regarding lead bank status. (See
Table A.2 in the appendix.)
It should be noted that three multibank holding companies are
led by banks which are not among the 75 largest banks. These three
lead banks are ranked 89th, 96th and 152nd among Florida's 540 banks on
the basis of total deposits as of December 31, 1971. Only one of the
three holding companies--American Bancshares (152nd)--has subsidiary
banks in more than one metropolitan market.4 The other two holding
1 The 75th largest bank as of year end 1971 had total deposits of
2The three banks are Atlantic National Bank, Florida National Bank
and Barnett First National Bank. All three banks are located in
Jacksonville. For a history of these groups see J.E. Dovell, Histor1
of Banking in Florida (Orlando: Florida Bankers Association, 1955),
The .one~exception is Ellis Banking Corporation. The affiliated
Sarasota Bank and Trust Company is substantially larger than the
designated lead bank, First National Bank of Bradenton..
For, a discussion of metropolitan markets, see Chapter 7, pp. 97-99.
- 58 -
companies have subsidiary banks ini only one metropolitan market and are
among the smallest multibank holding companies in the state. The model
of lead bank status is not designed to explain the decisions ~by a few
medium size banks to anchor small local or regional holding companies.
Lead Banks and Chains
Before becoming the lead bank of a registered multibank
system, a bank may have anchored a chain.2 There are two main teasons
why a chain would form a holding company. First, the holding company
structure formalizes and makes permanent the relationships within the
chain.3 Second, the holding company structure allows a former chain
to rapidly expand its banking activities because the- holding company
can obtain outside funds to finance acquisitions.
Chain banking may be viewed as a substitute for the holding
company form of banking. Given this view, we should then hold constant
the influence of chain banking so that we can isolate the influence of
other factors upon lead bank status. Unfortunately, reliable data on
chain banks are not available for all years included in the study. The
SFor the distinction between chain banking and bank holding companies,
see Chapter 1, p. 9.
This was the case with the First National ~Bank at Orlando, Broward
National Bank and First National Bank of Fort Lauderdale. See "First
at Orlando Corporation, Orlando, Florida," Federal Reserve_ Bulletin,
vol. 53 (February, 1967), p. 236. "Broward Bancshares, Inc., Fort
Lauderdale, Florida," Federal Reserve Bulletin, vol. 56 (January, 1970),
p.. 85. "Consolidated Bancshares of Florida, Inc., Fort Lauderdale,"
Federal Reserve Bulletin, vol. 57 (February, 1971), p. 137.
A chain may be dissolved. This did happen in t~he case of the First
National Group of Southeast Florida. See J.E. Dovell, History of Banking
in Florida: First Supplement (Or~lando: Florida Bankers Association, 1964),
- 59 -
omission of a variable to control for chain banking activity may not be
serious. Darnell, in studying chain banking, did not find a significant
relationship between chain banking and bank holding companies.1
The Time Framework of the Study
In deciding upon lead bank status the potential lead bank has
three options: (1) become a lead bank of a holding company, (2) become
a subsidiary bank of a holding company, or (3) remain unaffiliated.
There is a substantial time lag between the time a bank decides
to become a lead bank (or to be acquired by a holding company) and the
time. this decision is consummated. After a decision is made, time is
expended in finalizing negotiations with the proposed affiliates (or
with the acquiring holding company) and in preparing an application for
the Federal Reserve Board. After the application is filed with the
Federal Reserve Bank, it will take at least 105 calendar days for the
application to be processed by the Federal Reserve System and for the
Board of Governors to act on the proposal.2 An approval by the Board
may not be consummated for .thirty calendar days in order to permit the.
Department of Justice time to challenge the Board's decision. In all,
it appears that anywhere from six months to eighteen months will elapse
between the decision .date of the potential lead bank and the consummation
Jerome C. Darnell, "Determinants of Chain Banking," National Bank
Review, Vol. 4 (June, 1967), pp. 459-468.
Current guidelines state that the Reserve Bank should attempt to
formally accept an application within ten business days after receipt.
The Federal Reserve System (i.e., the Reserve Bank and the Federal
Reserve Board) tries to bring the proposal before the Board of Governors
within ninety calendar days after formal acceptance.
- 60 -
All of the explanatory variables in the model are lagged one
year because of the considerable delay in consumrmating a decision.
The year a decision on lead bank status is consurmmated is determined
from Board documents. The previous year is assumed to be the decision
year and all explanatory variables are measured as of the ~decision year.
The variables are as of the decision year because it is necessary to
measure the characteristics of the bank at the time that the decision
was made. If a potential lead bank has not become a lead bank or been
acquired by a holding company by the end of 1972, which is the terminal
point of the study, then it is assumed that the bank has decided not
to become a lead bank for the time being.
From 1956, when the Bank Holding Company Act was passed, until
1964 no potential lead bank became a lead bank. In 1964, the First
National Bank of Tampa, a potential lead bank, became the lead bank of
a registered holding company. The decision to become a lead bank is
assumed to have been made in 1963. So the study of lead bank status
will cover the period from 1963 through 1971 in terms of decision years
or from 1964 through 1972 in terms of consummation years.
A Framework for the Empirical Model
The variables which affect lead bank status may be divided
into three groups: (1) variables which reflect the regulatory position
toward potential lead banks; (2) variables which measure the economic
characteristics of the potential lead bank; and.(3) variables which
reflect the environment in which a potential lead bank operates. The
relationship of the three types of variables to lead bank status is
summarized in equation (1).
- 61 -
(1) LBSt = f(FRBty IBCt-1, EEt-1)
LBSt = lead bank status in year t. LBS=1 if the
bank is a lead bank; LBS=0 otherwise.
FRBtpl = regulatory position of the Federal Reserve
Board in year t-1.
IBCt-1 = individual bank characteristics in year
EEt-1 = environment of the bank in year t-1.
The Regulatory Position
TFor the period 1963-1972, the Federal Reserve Board has
approved all proposed formations.1 One cannot conclude from these
approvals that the Board has been completely permissive. The Federal
Reserve Board has certainly exerted an influence upon the decisions of
potential lead banks by means of its decisions on non-Florida cases and
by means of informal staff discussions with these banks. However, it
is an impossible task to measure this influence empirical-ly because of
the absence of any overt actions by the Board. Consequently, it has
been assumed that the Board's influence upon the decisions of potential
lead banks has not been significant and no variable reflecting Board
influence will be included in the model.
1 In 1962, the Board did disapprove the application by four of the eight
largest banks in Florida to form a holding company. Today the four banks
lead the first, second, fourth and tenth largest holding companies in
Florida. "First Bancorporation of Florida, Inc., Orlando, Florida,"
Federal Reserve Bulletin, vol. 48 (August, 1962), pp. 978-984. In 1971,
the Board disapproved a formation which involved a potential lead bank,
the Cormmercial Bank at Winter Park. The formation, however, was .contin-
gent upon the approval of an application by Southeast Banking-Corporation
to acquire all five banks of the proposed multibank holding companies.
"Combanks Corporation, Winter Park, Florida," Federal Reserve Bulletin,
vol. 58 (January, 1972), pp. 55-56.
- 62 -
Individual Bank Characteristics
In looking at individual bank characteristics, six character-
istics are thought to be important determinants of a bank's status and
they are shown in equation (2).
(2) IBCt = g (SZt, CBt, Lt/A C~L/Ag, CL /At, MSt)
IBCt = individual bank characteristics in year t.
SZt = size in terms of total deposits in year t.
CBt = correspondent business measured by due to
balances in year t.
Le/At = loan to asset ratio in year t.
CLt At = consumer loan to asset ratio in year t.
CLt/At = commercial and industrial loan to asset
ratio in year t.
MSt = change in market share for the period from
year t-5 to year t.
The most obvious characteristic of any bank is its size. It
is generally assumed that large banks are more likely to become lead
banks than small ones. The presumption is partly based on empirical
evidence--nine of the ten largest banks in Florida are lead banks.
Partly, it is assumed that the larger banks have the human-and financial
resources needed to lead a multibank system. .In terms of human resources,
the larger is the bank (in absolute terms) the more likely it is to have
specialized services such as investment guidance and data processing
services which can be offered to other banks. In terms of financial
resources, the larger is the lead bank (in absolute terms) the more
- 63 -
marketable will be the holding company stock and the more acceptable
will be the stock in ~share exchanges. In addition, the larger organ-
izations have easier access to financial markets when they publicly
offer additional stock or senior securities. This entire discussion
is intended to suggest that the larger is the bank the better will be
its ability to exhaust any efficiencies associated with the holding
The size of a potential lead bank is measured by its total
deposits as of December 31 of the decision year. Total deposits are
deflated using the aggregate GNP deflator in order to remove price
changes in the deposit data for the time period of the study.
A second bank characteristic which is thought to affect the
decision on lead bank status is the size of the bank's correspondent
business. It is hypothesized that the greater is the bank's involve-
ment in correspondent banking the greater is the likelihood that the
bank will become a lead bank.
The hypothesis concerning correspondent business is based on
three considerations.2 First, the larger is the bank's correspondent
business, the more able is the bank to provide future subsidiary banks
Since the study is restricted to the state of Florida, we need not
control for inter-state differences in bank size. As an example of
state differences a $100 million bank, which is a very large bank in
New Mexico, may provide services which are inadequate by Texas standards.
2The three considerations have the same direction of influence and are
to some extent reenforcing. It is not necessary to specify which consid-
eration, if only one, is paramount to a particular bank.
- 64 -
with specialized services. In other words, the bank has expertise that
is useful to a holding company organization. Second, the larger the
correspondent business' the more likely the bank is to have a close
working relationship with other banks. The correspondent bank and its
family of closely-related client banks can easily adopt the holding
company structure and formalize the "family". Third, a bank with a
large amount of correspondent business may organize a holding company
in order to preserve its business from the encroachment of expanding
holding companies. .One sure way to suffer a decline in correspondent
business is for a bank to permit rival organizations to acquire respond-
Due to balances are used as a measure of the correspondent
business done by a bank because such balances are the usual means of
payment for correspondent services. Due to balances are measured as of
year-end of the decision year and they are deflated with the aggregate
GNP deflator in order to adjust for inflation over time.
In isolating key characteristics of a potential lead-bank,
three portfolio ratios appear useful. These are the total loan to
asset ratio, the consumer loan to asset ratio, and the commercial and
industrial loan to asset ratio.
Both Lawrence and Talley, in studying holding company perform-
ance, found that affiliated banks had a substantially higher proportion
of their assets in loans, particularly consumer loans. In fact the
changes in the loan to asset ratio and the consumer loan to asset ratio
1. See Chapter 2, p. 12, and Chapter 3, pp. 29, 31. Also, Lawrence,
Operating Policies, p. 25.
were among the most significant findings, both statistically and quanti-
tatively, in the two studies.1
The assumption is made that the changes in the operating
policies of subsidiary banks reflect the existing practices of the
lead bank. Accordingly, it is hypothesized that the higher the bank's
loan to asset ratio and the higher its consumer loan to asset ratio,
the more likely it is that the bank will become a lead bank. The loan
to asset ratio is measured by a bank's total loans and discounts
divided by its total assets.2 The consumer loan to asset ratio is
defined as total consumer loans divided by total assets.3 .
The third portfolio ratio considered in analyzing lead bank
status was the ratio of commercial and industrial loans to assets. This
ratio was used to indicate the extent to which a bank was wholesale-
or business-oriented. It is hypothesized that wholesale banks will be
likely to form holding companies in order to attract the business of,
and in order to better serve the banking needs of,; multi-establishment
firms. This portfolio ratio is defined as total commercial and industrial
loans divided by total assets.4
It should be noted that there is something of a contradiction
between the business loan ratio hypothesis and the consumer loan ratio
hypothesis. A bank cannot be wholesale-oriented and retail-oriented at
1See Chapter 3, pp. 32, 36-37.
2 In terms of the format of the Report of Condition, total loans and
discounts are item 8 of schedule A; total assets are item 14 of the
In terms of the Report of Condition format, total consumer loans
are the sum of items 6(a) through 6(f) of Schedule A.
Commercial and industrial loans are items 5 of Schedule A of the
Report of Condition.
- 66 -
the same time.1 The empirical results should determine which ratio,
if either, is a significant determinant .of lead bank status.
It is necessary to control for differences in market condi-
tions in using these portfolio ratios. Differences in market condi-
tions exist because potential lead banks are located in different
geographic markets and because potential lead banks in the same market
have different decision years. In order to control for market differ-
ences a bank's portfolio ratio is divided by the comparable ratio for
the entire market. Accordingly,.the market adjusted variable for, say,
the loan to asset ratio is equal to the loan to asset ratio of the bank
divided by the ratio of total loans to total assets for the market. If
this adjusted variable is above 1.00 then the bank's ratio exceeds the
market's ratio and conversely. The adjusted portfolio variables are used
in empirical tests of the model.
A bank's relative rate of growth is thought to influence a
bank's decision on lead bank status. It is proposed that the poorer a
bank's relative growth (i.e., the greater the decline in a bank's market
share) the more likely is the bank to become a lead bank in an attempt
to recover its relative position and to improve its profit performance.2
The relative rate of growth is measured by a bank's change in market
1 From an accounting point of view, a bank could conceivably have an
above-average business loan ratio and an above-average consumer loan
ratio. This might occur if the bank made relatively few real estate
loans, security loans, loans to financial institutions, and miscellaneous
loans. Such a loan portfolio does not seem probable, however.
2 The stresses caused by uneven rates of growth and the importance of
a bank's relative position were discussed in Chapter 3, pp. 44~46.
- 67 -
share.1 The change in market share is calculated for the period from
year t-5 to year t, where t is the decision year, using the formula in
(3) MSt 1\ Bankr's Deposits)t 1\ Bank's Depositsy
3 Mrket Deposits)t 3 Mrket Deposits)t
It should be noted that a potential lead bank's market standing may
change drastically. This is due to Florida's unit-banking statutes
and its very rapid growth.
In considering the environment of a potential lead bank, three
variables are proposed as significant predictors of lead bank status.2
(4) EEt = h (ENC/BKt, ENC/TDt, MIt)
EEt = environment of bank's market in year t.
ENC/BKt = encroachment as measured by the change in
holding companies' share of banks in the
market from year t-2 to year t.
ENC/TDt = encroachment as measured by the change in
holding companies' share of market deposits
from year t-2 to year t.
MIt = market's importance as a financial center
in year t.
1 An attempt was made to measure market position over time by regressing
market share upon time for the set of potential lead banks. For about
one-quarter of the banks the coefficient of determination (R2), which is
a measure of the explanatory power of the regression equation, was rather
low so this method was not used. The low R2 was usually caused by market
share being very atypical for one year.
2 Other factors affecting the environment of a bank include market growth
and market concentration. However, these factors do not appear, a priori,
to influence a bank's decision regarding lead bank status. For example,
there is no clear reason to think that the likelihood of a bank selecting
lead bank status is.related to the rate of growth of its market.
- 68 -
The amount of recent holding company activity in a market is
thought to be an influence upon lead bank status. It is hypothesized that
encroachment by holding companies on a bank's local market, thereby
threatening its base of operations, will often result in a defensive
reaction by the bank.1 If the independent bank believes it is at a
disadvantage in competing with holding company affiliates, it can form
a holding company or join a holding company. However, which course of
action, if either, the bank will pursue cannot be decided a priori.
Despite the inability to predict the direction of influence,
it seems important to consider the encroachment effect. Much of the
snowballing of holding company activity observed in Florida and else-
where is probably due to the defensive response of banks to encroach-
ment by holding companies on their home markets.2 Given that the en-
croachment effect has a substantial impact upon the amount of holding
company activity, it is of interest to determine empirically whether or
not encroachment has a systematic effect upon a bank's decision regarding
lead bank status.
The encroachment effect is measured in two ways. The variable
ENC/BK measures encroachment in terms of the change in holding company
control of banks in a~ market. The variable ENC/TD measures encroachment
on the basis of the change in holding company control of market deposits.
For example, "the proposal of the Central National Bank of Cleveland
to acquire American Bank of Commerce in Akron was announced as a response
by Cleveland Banks to the encroachment on their traditional territory
by BancOhio Corporation, in its merger with Akron National Bank and
Trust Company." Thomson and Meadows, p. 3.
2 For a discussion of the snowballing of holding company activity, see
Chapter 2, pp. 24-27 and Chapter 3, p. 35.
- 69 -
Lead bank status is thought to be affected by a market's
importance as a financial center. It is proposed that, cateris
~agibus, the more important is the market as a financial center, the
more likely will be a bank in the market to become a lead bank. The
reason is that the more important a market is as a financial center,
the more likely it is that some banks in the market are informed about
the holding company structure and its possible benefits. The informed
banks are expected to have an influence upon the thinking of other
banks in the market. In other words, important financial centers
possess a stimulating environment which encourages banks to assume
leadership roles in multibank organizations.
A market's standing as a financial center is measured by the
market's share of total deposits in the state in the decision year. One
would expect some correlation between a market's share of deposits and
potential lead banks' deposit size and correspondent business. Nonethe-
less, a market's importance is considered to be a distinct determinant
of lead bank status.
The Statistical Modell
The model of lead bank status is intended to determine the
probability that a bank will opt for lead bank status. The probability
of lead bank status is thought to be a function of a bank's individual
characteristics (IBC) and its environment (EE). Clearly, the object of
prime interest is a probability.
T he discussion is intended to provide the reader with an intuitive
appreciation for why regression analysis is an inappropriate 'statistical
model for this study and why probit analysis is an appropriate statis-
tical model for this study.
- 70 -
The regression model is not a suitable statistical model for
determining the probability of lead bank status. In both ordinary and
generalized least squares regression models, the estimated value for
lead bank status may fall outside the interval from 0 to 1, because
regression models fit straight lines to the data points. .(See Figure
5.1.) An estimated value (probability) for lead bank status of less
than 0 or greater than 1 is inconsistent with interpreting the value
of the dependent variable as a probability.1
Another shortcoming of the regression model is the fact that
it is unable to handle a dichotomous dependent variable. It should be
realized that the actual value of the dependent variable lead bank
status is either, say, O or 1, this is to say, a bank either is or is
not a lead bank.2 Because the dependent variable is dichotomous, the
assumption of homoskedasticity, which is a basic assumption of the
regression model, is not satisfied The assumption of homoskedasticity
means that the expected variance of the error terms is equal for all
observations. In other words, the scatter of data points (the observed
values of the variables) about the estimated regression line is approxi-
mately uniform. (See Figure 5.2.)
1 It makes no sense to say that the probability of a bank selecting
lead bank status is -10 percent or +120 percent.
For example, the expected probability of getting heads from flipping
a coin may be 0.5. Nonetheless, for an actual flip of the coin, the
result is either heads (1) or tails (0).
SIn practice, generalized least squares regression, a technique for
adjusting for heterskedasticity, is unworkable because the calculated
values of the dependent variable are frequently very close to 0 or 1.
As a consequence, the inverse of the estimated disturbance covariance
matrix cannot be calculated (the inverse is singular or nearly singular).
- 71 -
A Straight Line Fit with Regression Model
Homoskedasticity about the Regression Line
- 72 -
The variance of the error term is defined as the square of
the difference between the estimated value of the dependent variable
(the probability of lead bank status) and the actual value of the
dependent variable (either 0 or 1). The variance is weighted by the
probability of "success" (the bank is a lead bank) as "failure" (the
bank is not a lead bank).1 Applying the definition of the vari~ance of
the error term and letting "P" equal the probability of lead bank
status, we have:
(4) Variance of error term =(1-P)2(P)+(0-P)2(1-P)
From (4), it is evident that the variance of the error term
depends on P, the probability of lead bank status;2 and P in turn
depends on the individual bank characteristics (IBC) and on the environ-
ment (EE). Consequently, the variance of the error term varies systema-
tically with the explanatory variables. Thus, the assumption of homo-
skredasticity, which is a basic assumption of the regression model, is
In view of the problem with the regression model, an alterna-
tive statistical approach is needed to handle a dichotomous dependent
1 Probabilities are used for the theoretical distribution while frequen-
cies are used for the actual (sample) distribution.
2For example, if the expected value of lead bank status equals .9,
this means a probability of, 79 that the value will deviate from expectation
by +. 1 and a probability of .1 that the deviation will be -.9, while an
expected value of .4 means deviations of +.6 with probability .4 and
deviations of -.4 with probability .6. Using equation (4), the variance
equals .09 when P=.9, while the variance is .24 when P=.4.
- 73 -
variable and to restrict the value of the dependent variable to the
interval from 0 to 1. One alternative is the probit analysis model.1
Since probit analysis was developed with reference to the
field of biology, an example from this field may be most helpful in
explaining this statistical method. In biological assay, probit
analysis is used to determine the relationship between the pr ability
that organisms will be killed to the strength of the dose of poison
administered to them. The dependent variable for each organism in the
sample is dichotomous: killed or not killed. Each organism is assumed
to have a dosage threshold, such that a stronger dose will: kill that
organism and a weaker dose will not. Over the population of organisms
of a given kind, these dosage thresholds are assumed to be normally
distributed with a few organisms having very high or very low dosage,
thresholds.vhile most of the organism have intermediate-valued dosage
thresholds. (See Figure 5.3.) A graph of the percentage of insects
killed as the dose of poison increases will give a steadily rising
curve. The curve has an S-shape because the dosage thresholds are
assumed to be normally distributed. In other words, the rate of change
in the percentage killed per unit increase in dose is low in the region
of very small or very large doses of poison but is higher in the inter-
mediate region. (See Figure 5.4.)
SThe basic reference on probity analysis is D.J. Finney, Probit
Analysis (3rd ed.; Cambridge, England: The University Press, 1971).
U' -- -p
Dose of Poison
Cumulative Distribution of Insects Killed
- 74 *
Dose of Poison
Normal Distribution of Dosage Thresholds
- 75 -
The above ,example may be put into the following mnthe-
matical terms. Suppose the Ath organism has an actual value of the
dose T which is a linear function of the concentration of the
poison (CON) and the time .of; exposure to the poison (EXP) to which
the ith organism is subjected.
(5) Ti = Bo ICON +B2EXPi
Assume that Ti is the threshold value of the dose for the Ath
organism. If the actual value of the dose Ti is greater than or equal
to the threshold value of the dose Ti then the ith organism is
killed. If T is less than Ti then the ith organism is not
killed. The coefficients in equation (5)--i.e., Bo, B1 and B2--are
estimated within the maximum likelihood technique.1 Because the maxi-
man' likelihood I(rathetr- th'an :least squares) technique is used, it is
not necessary to assume homoskedasticity (equal variance in the error
The above discussion may not have convinced the reader that
the probit statistical model is appropriate for the study of lead bank
status. Figure 5.5 is designed to erase any lingering doubts. On the
horizontal axis of Figure 5.5 is measured bank size and on the verti-
cal axis is measured whether or not the bank has chosen lead bank
1 In order to find the maximum likelihood coefficients, it is neces-
sary to solve a set of rather complicated non-linear equations. The
solutions (the maximum likelihood estimates) are calculated using the
Newton-Raphson method of iteration. An exposition of the maximum
likelihood solution and a sample calculation of the solution are con-
tained in James Tobin, "The Application of ~Multivariate Probit Analysis
to Economic Survey Data," Cowles' Foundation Discussion Paper No. 1,
Size of Bank
- 76 -
Bank Is a
Lead Bank 1
Bank Is Not
a Lead Bank 0
The Probit Line for Lead Bank Status
status.` As bank size increases, it' is thought that the chances of a
bank choosing lead bank status increase. Some hypothetical data
points are shown as dots on the figure. Essentially what the probit
technique does is to fit an S-shaped curve to the data points as
shown on the figure.
THE DETERMINANTS OF LEAD BANK STATUS
Using the probit statistical model, the model of lead bank
status was tested on the set of 58 potential lead banks listed in
Table A.2. The time period treated by the model is from 1963 through
1971 in terms of decision years or from 1964 through 1972 in terms of
Interpreting the Probit Statistical Model
In order to assist one in interpreting the statistical
results, the probit model- is compared with the regression model.
Just as in regression analysis, the probit model assumes that the
dependent variable, lead bank status (LBS), may be expressed linearly
in terms of the explanatory variables, individual bank characteristics
(IBC) and environment (EE); i.e.,' LBS == BO+B IBC+B EE. In probit
analysis the parameters B B1 and B2 are estimated by the maximum
likelihood method while regression analysis uses the method of least
squares. There is no need to consider the maximum likelihood method
in detail. Suffice it to say that the method of maximum likelihood
gives estimators which have desirable properties and the estimators
are easy to find. For large samples, the maximum likelihood esti-
mates are approximately normally distributed. Because of this
approximate normality it is possible to estimate the standard error
for each coefficient and to calculate t-values for each
- 78 -
* 79 -
The_ Likelihood Ratio Test
In addition to the t-test, the likelihood ratio test may
be used to test hypotheses about the independent variables both
singly (say, IBC = 0) and in combination (say, IBC = 0 and EE = 0).
The likelihood ratio test is closely related to maximum likelihood
estimation and it is easily applied to the probit model which employs
the maximum likelihood technique.
The likelihood ratio is equal to the maximum of the likeli-
hood function when a parameter is not allowed to vary freely
(say, EE = 0) divided by the maximum of the likelihood function when
a parameter freely varies (say, EE # 0).
(1) Likelihood Ratio = A = max L, (EE 0)
max L (EE #~ 0)
Note that max L(EE = 0) will be smaller than or at most equal to
max L(EE # 0) because there is less freedom in maximizing the likeli-
hood function when the hypothesis requires that EE equal zero.
The likelihood ratio test is based on the fact that -21o81
is approximately distributed like chi square with the number of
The probability that a bank will become a lead bank is equal to
the probability that the bank s value for LBS exceeds its threshold
value for LBS. A key portion of the probit model is the assumption
that the threshold values for LBS are normally distributed. In
Pr(LBS) = 2 e~ _2d
where Y = B0+B1B 2BEE.
degrees of freedom equal to the number of restrictions on the
parameters. If the likelihood ratio (i.e., -210gly is greater
than the tabled value of the chi-square distribution at some~chosen
level of significance, then the hypothesis of no relationship is
rejected.1 For example, if the likelihood ratio is greater than 2.71,
which is the value of chi .square at a .10 level of significance for
one degree of freedom, then one can reject the hypothesis that EE
equals zero and expect to be right nine out of ten times.
A Stepwise Testing Procedure
A kind of stepwise procedure was employed in testing the
model in order to avoid problems of multicallinearity2 and to con-
serve degrees of freedom. All of the independent variables were
tested one at a time. The more significant variables were then
tested using varying combinations of two variables and so on. In
addition, the initially significant variables were combined with all
other predictors in an attempt to detennine if initially unimportant
variables gained significance when combined with initially significant
In other words, the- critical region for -21ogX is the right-hand
tail of the chi-square distribution. For.a rigorous treatment of
this method, see Alexander Mood, Introduction to the Theory of
Statistics (New York: McGraw-Hill Book Co., 1950), pp. 257-259.
The problem of multicollinearity relates to the high covariance
between two estimators (say, Bl and B2). A principal cause of the
high covarianre is high correlation between the corresponding in-
dependent variables (say, X~ and X,). When multicollinearity exist
among the variables, it is difficult or even impossible to determine
the separate influences of the independent variables. As a result,
the estimated coefficients tend to be unstable and they are not overly
Table 6.1 enumerates the variables used and reports the
mean and standard deviation of each variable. The relatively large
standard deviation for the correspondent business variable is due to
the rather pronounced bimodal distribution of the variable. In
addition, the values of the CB variable are positively skewed. It
should also be noted that consumer loans include single payment loans
while instalment loans exclude single payment loans.
The Results for Single Predictors
The results of the model when the independent variables
were tested one at~ a time are shown in Table 6.2. Not unexpectedly,
the SZ variable proved to ~be a significant predictors of lead bank
status. Another significant predictor of lead bank status was the
variable for correspondent business. The coefficient had a positive
sign as hypothesized.
None of the loan portfolio measures appeared to be good
predictors of lead bank status.3 The very low likelihood ratio values
As an example of this procedure, see Tong Itun Lee, "Alternative
Interest Rates and the Demand for Money: The Empirical Evidence,"
American Economic Review, vol. 57 (December, 1967), pp. 1168-1181.
2---- --- ---
Throughout the discussion, the term "significant" is used to denote
statistical significance. In Table 6.2, both the t-value and the
likelihood ratio test the same hypothesis; namely, that the estimated
coefficient is not significantly different from zero. It is gratify-
ing to note that the two statistical tests produce consistent results.
The ratio of instalment loans to assets was also tried in place of
the consumer loan to asset ratio. (Recall that Lawrence had used the
former ratio and Talley the latter in studying the performance of
holding company affiliates.) The instalment loan to asset ratio was
not significant and had a negative sign whereas a positive sign had
- 82 -
Identification of Variables with Means and Standard Deviations
Variables Mean Deviation
LBS. Lead bank status. LBS = 1 if
the bank is a lead bank;
LBS = 0 otherwise. .362 .485
SZ. Size of bank in terms of deflated
total deposits ($100 millions). .670 .593
CB. Correspondent business measured
by deflated due to balances
($10 millions). .468 1.298
L/A. Loan to asset ratio of bank
relative to loan to asset fatio
of market. 1.046 .159
CL/A. Consumer loan to asset ratio of
bank relative to consumer loan
to asset ratio of market. .984 .475
IL/A. Instalment loan to asset ratio
of bank relative to instalment
loan to asset ratio of market. .933 .422
CI/A. Commercial and industrial loan
to asset ratio of bank relative
to this ratio for the market. 1.037 .463
MS. Change in market share ~of the
bank over a five-year period. -.0098 .0202
ACT/BK. Holding company activity as
unasured by the change in holding
company control of banks in the
market over a two-year period. .123 .114
ACT/TD. Holding company activity as measured
by the change in holding company
control of total deposits in the
market over a two-year period. .134 .151
MI. Market importance as a financial
center as measured by the market's
share of total deposits in the
state. .102 .073
- 83 -
Probit Model of Lead Bank Status Using Single Predictors
+ 2.122 SE
+ 2.649 CB
+ 0.297 L/A
+ 0.0086 CL/A
+ 1.123 MS
+ 5.463 MI
the hypothesis that the independent
effect upon holding company activ-
aThe likelihood ratio value tests
variable does not
have a systematic
** Significant at .05 level.
*** Significant at .01 level.
Note: The figures in parentheses are t-values for each estimated co-
- 84 -
and t-values for the variables L/A, CL/A and CI/A indicates that
they have no systematic influence upon lead bank status. One may
conclude, at least for Florida banks, that lead banks are not espec-
ially aggressive in seeking loan business. Furthermore, one cannot
characterize lead banks as either wholesale-oriented or retail-
The market share variable is not a significant predictor.
Given the very low likelihood ratio value, one may conclude that
changes in a bank's relative standing in its local market do not
influence the bank's decision regarding lead bank status.
The variable ACT/BK, which is used to test the encroachment
hypothesis, is significant with a negative sign.1 The variable
ACT/TD, which measures encroachment in terms of holding company
control of deposits, has a negative sign but it is not statistically
significant. These results imply that encroachment by holding
companies does not provoke a bank to form a holding company. It is
possible that encroachment influences banks to join holding companies
rather than form them.
Some care must be exercised in interpreting this result
because only ten out of the thirty-seven banks which were not lead
banks at the end of 1972 had made the decision to become subsidiaries
of holding companies. Of the twenty-seven banks that have not made
1Racall that it was not possible to determine a priori the sign for
the variable ACT/BK but it was felt that an encroachment variable
could help explain the snowballing of multibank holding company
af filiations .
an overt decision it appears probable that most of these banks will
join existing holding companies. A few of these banks, especially the
one bank holding companies associated with large non-bank organiza-
tions, will likely remain independent.
The variable for market importance was statistically signifi-
cant at the .05 level of confidence. The variable has a positive
direction of influence as was originally postulated.2
The Results for Several Predictors
All of the significant predictors3 were paired with each
other and with each initially non-significant predictor. None of the
initially non-significant predictors gained significance when combined
with initially significant predictors.
The results from pairing the significant variables are pre-
sented in Table 6.3. Because of the high correlation between size and
correspondent business (0.93) the coefficients for the two variables
are not overly reliable. It is possible, however, to compare the
relative significance of the two variables. Given that the variable
SE is already present in the equation, the addition of the variable CB
1It may be that a potential lead bank has made the decision to remain
unaffiliated. However, there is no way to distinguish such a bank from
a bank that has made no decision one way or the other. Of course, the
decision to remain unaffiliated is revocable while the decision to be-
come affiliated, once consummated, is not revocable.
2 The reader should not suspect a spurious relationship because of the
fact that the largest banks come from the most important financial
centers. The most important financial centers also supplied the great-
est number of medium-large banks. For example, Dade County, which is
the most important financial center in Florida with 22.6 percent of
state deposits, supplied 13 of the potential lead banks, which is 22.4
percent of the total number of 58 banks.
SThe significant predictors from Table 6.2 are SZ, CB, ACT/BK and MI.
The likelihood ratio value tests the hypothesis that the two
variables jointly do not have a systematic effect upon holding company
** Significant ~at .05 level.
*** Significant at .01 level.
Note: The figures in parentheses are t-values for each estimated
-' 86 -
Probit Model of Lead Bank Status Using Two Predictors
LBS = -1.224 + 0.697 SZ
LBS = -1.239 + -2.212 SZ
LBS = -2.351 + 2.236 SZ
LBS = -0.394 + 3.592 CB
LBS = -1.633 + 2.991 CB
+ 2.362 CB
+ 5.806 MI
+ 6.442 MI
4.139 ACT/BK +
5.750 MI 11.57***~k
- 87 -
increases the likelihood ratio by 6.47, which is significant at the
.05 level of confidence so one can reject the null hypothesis that
CB = 0, given that SZ is already included in the equation. When the
variable CB is entered first, the addition of the size variable in-
creases the likelihood ratio by only 1.02, which is not significant
at the .05 level of confidence. It is possible to conclude that both
variables supply much of the same information but that the correspond-
ent business variable provides information over and above the informa-
tion contained in the size variable while the reverse is not true.2
The two variables ACT/BK and MI appear to provide added
information. Whether combined with each other or when paired with the
variables SZ or CB, these variables increase the likelihood ratio by a
The final equations for the model of lead bank status are
listed in Table 6,4.3 The two equations are highly significant and
the signs of all the coefficients are correct. One may conclude that
the larger is a bank's size and correspondent business, the higher will
be the probability that the bank chooses lead bank status. If the
bank's market is an important financial center, this will increase the
1With the SZ variable in the equation, the likelihood ratio value is
13.87 (see Table 6.1). With the addition of the CB variable, the
ratio rises to 20.34, an increase of 6.47.
2The t-values for the two variables confirm the finding that the CB
variable is relatively more significant than the SZ variable.
The equations are final in the sense that the addition of a fourth
variable does not increase the likelihood ratio by a statistically
significant amount, with one exception. The sole exception is when the
variable CB is added to the first equation of Table 6.4. However, the
high collinearity between the SZ variable and the CB variable makes it
inappropriate to include both variables in the same final equation.