The Competition Bureau's letter to the CIBC and TD Bank

Directeur des enquêtes et recherches
Director of Investigation and Research
Télécopieur -Facsimile 819-953-5013
Bureau de la concurrence
Competition Bureau
Téléphone-Telephone 819-997-3301
Place du Portage I
50, rue Victoria
Gatineau (Québec)
K1A 0C9
Place du Portage I
50, rue Victoria
Gatineau (Québec)
K1A 0C9
 

December 11, 1998

Mr. A. L. Flood
Chairman and Chief Executive Officer
Canadian Imperial Bank of Commerce
Commerce Court West
199 Bay Street, 5th Floor
Toronto, Ontario
M5L 1A2

Mr. A. Charles Baillie
Chairman and Chief Executive Officer
Toronto-Dominion Bank
Toronto-Dominion Tower
55 King Street West, 11th Floor
Toronto, Ontario
M5K 1A2

c.c.The Honourable Paul Martin, P.C., M.P.
Minister of Finance

Dear Chairmen:

The mandate of the Competition Bureau is to ensure that Canada has a competitive marketplace and that all Canadians enjoy the benefits of competition. This requires that proposed mergers be reviewed to determine if they are likely to result in a substantial lessening or prevention of competition.

After a comprehensive review, the Bureau has concluded that the merger of the Canadian Imperial Bank of Commerce (CIBC) and the Toronto-Dominion Bank (TD) (the Banks), as proposed, is likely to lead to a substantial lessening or prevention of competition that would cause higher prices and lower levels of service and choice for several key banking services in Canada.

Traditionally, when the Bureau concludes that a proposed merger is likely to harm competition, it invites the merging parties to propose remedies to remove the likely lessening of competition. Any remedies must ensure that the concerns are removed in all affected markets. Typically, this has involved selling assets and restructuring the proposal.

However, in this case, as stated in the Merger Enforcement Guidelines as Applied to a Bank Merger (the Guidelines), this letter outlines in general terms the sort of measures that have historically been applied to deal with competitive concerns. It is up to the parties to determine if it is appropriate to explore potential remedies with the Bureau after receiving this letter and after taking into account any public interest concerns expressed by the Minister of Finance.

The Bureau has assessed the proposed merger in the traditional manner by gathering information and analysing any possible anti‑competitive effects, such as undue concentration, which would indicate a lessening of competition should the merger proceed. The details of the process followed were announced in July 1998 and are contained in the Guidelines.

The Bureau has no regulatory authority to allow or disapprove mergers. Its role is to review the proposed merger for its impact on competition and make the results of its review known to the Banks. In this case, the Bureau will also send a copy of this letter to the Minister of Finance who has the ultimate authority to approve the merger under the Bank Act.

The Bureau uses a two-year time frame within which to assess the likely competitive impact of a merger. For the purposes of its analysis, the Bureau examined the impact on competition of all banking services and determined that a detailed analysis was required for three major lines of business in which the banks are engaged: branch banking services to individuals and businesses, credit cards, and securities.

Other areas of banking did not pose competition concerns and therefore were not subject to detailed review. While the Bureau anticipates a number of significant changes to the banking industry over the next decade due to innovation and technology, these are unlikely to mitigate the anti‑competitive impact of the proposed merger in the next two years.

As outlined in the Guidelines, the Bureau conducted the analysis of both the proposed merger of TD and CIBC and that of the Royal Bank of Canada and Bank of Montreal at the same time. To ignore either proposed transaction in the analysis of the other would fail to capture the full impact of both occurring at the same time. In this regard, it is important to assess how the removal of two major banks would affect concentration levels and the competitive vigour of the industry.

Summary of conclusions

As a result of the review conducted by the Bureau and on the basis of the materials submitted, advice of experts, and information provided by third parties, the merger as presently structured will have the following results.

A. Branch banking

For individuals, branch banking services consist of personal transaction accounts, personal loans/lines of credit and residential mortgages.

For businesses, in particular small and medium-sized businesses (SMEs), these services consist of business transaction accounts and related services, and operating loans.

(i) The proposed merger:

  • will result in a substantial lessening of competition in 36 of the 179 local markets in which these banks compete;
  • may result in a substantial lessening of competition in another 53 local markets; these markets are problematic and require further detailed review before we can confirm if a substantial lessening of competition will result;
  • will not result in a substantial lessening of competition in the remaining 90 local markets.

(ii) The proposed merger:

  • will result in a substantial lessening of competition in Prince Edward Island, Yukon and the Northwest Territories for mid-market businesses with operating loans between $1 million and $5 million.

B. Credit cards

(i) The proposed merger:

  • will not result in a substantial lessening of competition in the market for general purpose credit card network services.

(ii) The proposed merger:

  • will not result in a substantial lessening of competition in the market for the issuing of general purpose credit cards to individuals.

(iii) The proposed merger:

  • will result in a substantial lessening of competition in the Visa merchant acquiring market (the business of providing settlement of Visa credit card transactions to merchants).

(iv) The proposed merger:

  • may result, at the national level, in a substantial lessening of competition for primary merchant acquiring (the business of providing both terminals and settlement of credit card transactions to merchants) for SME merchants. Primary merchant acquiring is problematic and requires further detailed review at the local or regional level before we can confirm if a substantial lessening of competition will result.
  • will result, at the national level, in a substantial lessening of competition for primary merchant acquiring for SME merchants should both mergers proceed.

C. Securities

(i) The proposed merger:

  • will result in a substantial lessening of competition in one market of the 22 local markets in which CIBC Wood Gundy and TD Evergreen compete in full-service brokerage;
  • may result in a substantial lessening of competition in two markets; these markets are problematic and require further detailed review before we can confirm if a substantial lessening of competition will result;
  • will not result in a substantial lessening of competition in 19 markets.

These conclusions are based in part on the market share levels as measured by assets under administration in local markets. The Bureau would be prepared to review these conclusions, if information having a material impact becomes available at the local level which would indicate that the market shares, as calculated, significantly overstate the market position of the Bank-owned firms.

(ii) The proposed merger:

  • will not result in a substantial lessening of competition in the national market for discount brokerage services.This conclusion takes into account the moderate barriers to entry combined with the number of new competitors, which together have steadily eroded the dominant position of Greenline.

The proposed merger

The CIBC and TD notified the Bureau of their proposal on April 17, 1998. This immediately triggered a review under the merger provisions of the Competition Act. The Banks seek to amalgamate under the Bank Act to combine all their operations which provide a broad range of services to both individuals and businesses through their national branch networks, credit card operations and securities firms.

The proposed merger would combine the banks ranked second and fifth in Canada based on the value of Canadian assets. As of December 31, 1997, the merging banks held approximately $275 billion in assets in Canada.

The Banks have taken the position that it is necessary to become larger and more efficient to compete effectively, both in Canada and internationally. The Banks contend that larger foreign institutions have a cost advantage, including those using electronic technology to deliver financial services, and are becoming an increasing threat. The Banks also assert that the merger would result in significant cost savings.

Scope of the Bureau's review

The Bureau's mandate under the Competition Act is confined to assessing whether or not a proposed merger is likely to lessen or prevent competition substantially. This will be the case when a merger is likely to result in higher prices, less choice or reduced service. Any merger that is likely to have such an impact may be prohibited under the Act, unless there are efficiencies created by the merger that outweigh the negative impact on competition.

Throughout its review, the Bureau obtained information from the four banks, including approximately 400,000 pages of documents. The Bureau met with representatives of the CIBC and TD at every stage of the process to ensure that it fully understood the Banks' position, to obtain information, and to explain and discuss the results of its review.

The Bureau obtained valuable information from individuals, groups representing consumers and business, other providers of financial services, and government agencies. Furthermore, the Bureau sought the advice of more business and economic experts than in any other merger it has reviewed.

The review process took approximately eight months because of the voluminous nature of the documentation, the complexity of the banking business, the timing of the report of the Task Force on the Future of the Canadian Financial Services Sector (the Task Force), and the need to obtain information under court order from third parties and the banks.

Attached as Appendix A is a glossary of terms and definitions that the Bureau has compiled in conducting its review.

Analytical approach

The analysis conducted by the Bureau covered an extensive range of products and geographic areas in which the banks compete throughout the country. The framework for analysis in the Guidelines was written after extensive public consultation and reflected a broad consensus that the Bureau was using the right approach.

As explained in the Guidelines, there are four major steps in determining whether or not a particular bank transaction would substantially lessen or prevent competition.

  • Relevant markets are defined to identify which products, where and with whom the banks compete. A relevant market consists of a group of products that are close substitutes. Each group represents a separate product market with its own geographic market dimensions.
  • Market shares and concentration levels are calculated for each relevant market. A more detailed review is generally required if a) the share held by the banks is 35% or greater, or b) the combined share held by the four largest competitors is 65% or greater (and the share held by the merging banks exceeds 10%).
  • A variety of competitive criteria are evaluated for each relevant market under detailed review. The goal is to determine whether or not the merger is likely to result in a substantial lessening or prevention of competition. These typically include the extent of foreign competition faced by the banks, the barriers that would be encountered should other companies wish to enter a particular market, the impact of technology, whether or not the merger will remove a vigorous and effective competitor, the effectiveness of the remaining competition, and any other factor relevant to competition.
  • Claimed efficiencies are considered if it is concluded that the merger results in a substantial lessening or prevention of competition. The Act provides that a merger may proceed provided a) it is likely to result in efficiencies that would not otherwise be realized, and b) such efficiencies would outweigh the anti‑competitive impact.

Under the Bureau's analytical approach, it is presumed a merger will not harm competition when markets are unconcentrated, entry is easy and effective competition remains. Therefore, the analysis may end if at any stage the evidence demonstrates that the relevant market will not result in competition concerns.

Competition analysis

A. Branch banking

This section examines the markets for branch banking services provided to consumers and businesses in Canada.

Product markets

Personal financial services

Within this category of services provided to individuals through branches, the Bureau defined the following product markets:

  • Personal long-term investments
  • Personal short-term savings
  • Student loans
  • Personal transaction accounts
  • Residential mortgages
  • Personal loans/lines of credit
Personal long-term investments

Personal long-term investments include most mutual funds, bonds and stocks. Personal short-term savings include guaranteed investment certificates, money market mutual funds, Canada and provincial savings bonds, and treasury bills.

The Bureau concluded that no detailed review was required with respect to student loans, personal long-term investments and short-term savings. Either the remaining competition was effective or the applicable thresholds were not crossed for these products. A detailed review was required for the remaining product markets.

Personal transaction accounts

Transaction accounts are the core of the personal banking relationship. They enable an account holder to make deposits and withdrawals through savings or chequing accounts and to receive reports on those activities. These transactions may take place either at the local branch or through some other means such as an automated banking machine (ABM), debit card, telephone, personal computer or the Internet.

Residential mortgages

A residential mortgage is the principal form of long-term personal debt for many Canadians. Most mortgages are used to buy a home. For those with significant equity, it is possible to use a line of credit to fund a home purchase. However, this option is not open to home-owners with lower levels of equity. Consequently, we have decided that residential mortgages are sufficiently distinct from lines of credit that they constitute a relevant product market.

Personal loans/lines of credit

Personal loans and lines of credit are another distinct type of consumer credit for the purposes of our analysis. Credit cards, with the exception of low-rate credit cards, carry interest rates that are more than twice the interest rates of personal loans and lines of credit and therefore are not considered good substitutes. Similarly, loans from consumer finance companies are priced so much higher than loans from deposit-taking institutions that they have been excluded from this market.

Business financial services

Within the category of services provided to businesses at the branch level, the Bureau defined the following product markets:

  • Term loans
  • Business transaction accounts and related services
  • Operating loans
Term loans

Term loans, including non-residential mortgages, are generally mid- to longer-term in nature and typically secured by collateral to purchase equipment, buildings and real estate. We have included leased equipment in this category. The Bureau concluded that no detailed review was required for term loans, because the remaining competition was effective and provided businesses with adequate competitive alternatives or the applicable thresholds were not crossed. A detailed review was required for the remaining product markets.

Business transaction accounts and related services

Transaction accounts are the core of the business banking relationship. They allow firms to pay bills and collect receivables. Other products, such as night deposit and cash and coin services, are generally linked to this account.

Operating loans

Operating loans are intended for the short-term operating needs of businesses such as financing receivables and inventory. Banks will generally not give an operating loan unless a business has its transaction account at the same bank. This gives the lending banks the ability to monitor a customer's business on a continuing basis. To gauge the potential impact of the proposed merger in this market, it is necessary to examine the competitive choices available to firms of different sizes.

Since large corporations typically have access to more domestic and foreign suppliers and ready access to capital markets, operating loans to these businesses were not considered problematic. Small and medium-sized(Footnote 1) businesses generally have fewer choices and rely on banking services at the local level. Operating loans with authorizations up to $1 million were examined for SMEs. Larger firms in the mid-market tier also face more limited choices than those in the large corporate sector. Loan authorizations in the $1-million to $5-million range were examined for these mid-market firms.

Geographic markets

After extensive examination of the records produced by the Banks, interviews with industry participants, econometric analysis prepared by the Bureau, and on the advice of the experts retained by the Bureau, we have concluded that the geographic market is local for the relevant products listed above, for customers of personal financial services and for SME businesses.

For mid-market loans between $1 million and $5 million, the geographic market is regional in scope. The Bureau has used provincial boundaries to approximate these regional geographic markets.

The Bureau identified 112 local markets in urban areas with populations of 10,000 to 100,000, using the integrated economic areas identified by Statistics Canada as census agglomerations (CA), and 25 urban areas of more than 100,000 people, identified by Statistics Canada as census metropolitan areas (CMA). In total, there are 137 local urban markets. The operations of the Banks overlap in 111 of these urban markets.

In rural areas, the Bureau examined the competitive environment of all branches of the CIBC and TD within 20 km of each other. This decision was based largely on the banks' documents. As a result, 68 local rural markets were identified for the proposed merger.

In total, the operations of the CIBC and TD overlap in 179 local markets.

Market share and concentration levels

Given that the four firm concentration threshold was exceeded for at least one of the products under detailed review in each market, the Bureau's review included all 179 local markets.

For operating loans to mid-market firms in the $1-million to $5-million range, the 35% threshold was exceeded in Prince Edward Island, Yukon and the Northwest Territories.

In order to calculate these market shares and concentration levels for branch banking products, the Bureau obtained the market share data base maintained by the Canadian Bankers Association (CBA), and supplemented it with information from many other financial institutions and the Canadian Payments Association. As a result, the data base includes nearly all deposit-taking institutions. For those products where non-deposit taking institutions are significant competitors, such as insurance companies for residential mortgages, further adjustments to the data base have been made.

This data base is the best available in Canada at this time. The Banks have raised a number of issues relating to the CBA data base. For example, the CBA data base does not categorize business transaction account data by size of business. This may result in some market shares being either over- or understated for SME firms. The Bureau is willing to further discuss these issues with the Banks.

Competitive criteria

Barriers to entry

In order to assess the effect of the merger on competition, the Bureau must consider the height of entry barriers into banking markets. Even where a merger exceeds the Bureau's initial thresholds, if barriers to entry are low, the merged firms will be constrained by the likelihood of new entrants, and will behave in a manner consistent with a competitive market. In conducting this analysis, the Bureau considers whether or not entry or expansion on a scale sufficient to offset a substantial lessening of competition is likely to occur within a two-year period following the merger.

The Bureau has concluded that the entry barriers for new entrants into branch banking are high.

The extensive branch networks of the five major banks represent a significant sunk investment that is difficult for new entrants to replicate. Moreover, it takes an extended period of time before a branch can be expected to break even, with estimates ranging from three to seven years. It should also be noted that the major banks have an advantage over new entrants in that they have already secured the best locations in most markets.

No one interviewed by the Bureau expects significant new entry into branch banking. Consequently, we have concluded new branch bank entry, other than by acquisition, is highly unlikely.

In addition to the costs of establishing a branch network, new entrants face a number of other barriers. There is some evidence that economies of scale and scope make entry more difficult for smaller firms. The evidence also indicates that customers are reluctant to switch their primary financial institution where their transaction account resides. Contributing factors would be the widespread use of direct payroll deposit and automatic bill payments.

In addition, the major banks have strong brand names that have been developed over decades of advertising, and reinforced by local branch presence throughout Canada. An indication of the strength of customer loyalty is demonstrated by a report prepared for the Task Force that says no institution has gained more than 1% market share in any year except by acquisition.

We recognize that the supply of residential mortgage loans is becoming less branch-dependent due to the development of alternative origination channels. We note that the growth of new entrants for this product is constrained by consumers' limited acceptance to date of the use of independent mortgage brokers, the Internet, telephone and mail. This is particularly the case in rural and remote communities.

Small and medium-sized business customers appear to be even more branch-dependent than personal banking customers, due to the need for services such as night deposit, and cash and coin services. As with >individual consumers, SME customers do not change their primary banking relationship very often, which makes it more difficult for new entrants to attract customers.

There are also a number of regulatory barriers that discourage entry:

  • Capital taxes must be paid regardless of profitability, raising the sunk costs of entry through start-up losses.
  • Capital requirements and reporting costs are proportionately a greater burden for smaller firms.
  • Provincial regulation or business power restrictions in the federal Cooperative Credit Associations Act may place limits on the ability of credit unions to compete in certain areas, such as commercial lending.
  • After 10 years, new Canadian banks (other than those owned by financial institutions which are themselves widely-held) become subject to the widely-held rule. This means that no shareholder can own more than 10% of any class of shares.
  • This 10% rule, combined with the rules requiring the head office to be located in Canada and the majority of the board of directors to be Canadian residents, effectively eliminates the possibility of foreign entry through the acquisition of an existing Schedule I bank.
  • Once a Schedule II bank or trust company has equity of $750 million or greater, there must be a public float of at least 35% of its voting shares, subject to exemption by the Minister of Finance.
  • Access to the payments system is limited to federally and provincially regulated deposit-taking institutions.

While existing competitors do not face the same levels of barriers new entrants face, expansion is impeded by the high costs of gaining new customers due to switching costs and the expectation that branch profitability may not be realized for up to seven years.

Changes in technology and innovation

The Bureau has examined the impact that technology and innovation may have on lowering the barriers to entry and expanding the scope of the geographic market. While Canadians are making increased use of technology to do their banking, all evidence indicates that branches remain crucial to the success of a bank. Experts say this is unlikely to change within two years following the merger, which is our period of analysis.

The Banks have indicated that the role of the traditional branch has been transformed as customers have migrated to the newer channels of distribution such as automated banking machines, debit cards, telephone, personal computer and Internet banking.

These methods of distribution, however, have not eliminated the need for bank branches. Personal contact, including advice and problem solving, remains key for sales of many financial products. All of the major banks are in the process of reconfiguring their branches to improve their sales capability, and have underlined the continuing importance of branch banking to build and maintain the relationships between bankers and their personal and business customers.

According to the McKinsey & Company report prepared for the Task Force, transaction volume through branches from 1994 to 1996 grew at a 3% annual rate. While recent data for some major banks indicates a decline in transaction volume as these newer channels of distribution have become more popular, our conclusion remains that branches will continue to be an important point of access to financial services for many bank customers for the foreseeable future.

The Banks have argued that Internet banking will significantly reduce barriers to entry and widen the scope of the geographic market by eliminating the need for a costly physical presence. Internet or virtual banking is in a very early stage of development. According to a recent Ernst and Young report, Internet banking is generally viewed by users at this time as a poor substitute for many of the services provided by a branch. As well, security considerations remain a barrier to widespread consumer acceptance and adoption.

In the view of a technology expert made available by one of the merging Banks, Internet technology will not replace the need for physical presence in the next five to ten years. Another expert interviewed by the Bureau puts the time frame at between 10 and 15 years. These time frames are well beyond the two-year period considered by the Bureau in assessing the potential for new effective competitors to emerge.

In some respects, technology may have raised rather than lowered barriers to entry. According to records produced by the banks, customers have come to expect access to the new channels of distribution as a complement to using their branches.

The major banks, for example, have established proprietary nationwide ABM networks. While the Interac system allows cash withdrawal on a shared basis, other functions, such as deposits, passbook update, the transfer of funds between financial institutions, and bill payment, are not currently offered on a shared basis over the Interac network. New entrants would have to offer a network of ABMs to match the major banks. Should the Interac system allow for full functionality, including deposit-taking and funds transfer, the need for an extensive proprietary ABM network for new entrants would be reduced.

Foreign competition

The Bureau defines foreign competition as those foreign institutions that are able to offer Canadian consumersfinancial services from outside Canada. Due to regulatory constraints, such competition is minimal for individual banking products. Foreign-controlled deposit-taking institutions that operate in Canada are discussed in the section on effective competition remaining.

Removal of an effective competitor

The proposed merger will reduce from five to four the number of major national banks competing in Canada. As the second- and fifth-largest banks in Canada, CIBC and TD are obviously effective competitors and customers have benefited from the competition between them. The loss of a major competitor is further cause for concern in light of the already high levels of concentration that exist in most local markets.

Effective competition remaining

Assessing the effectiveness of the remaining competition is an important consideration in determining whether or not the merged bank would be constrained in raising prices or reducing the quality or level of service. While we focus here on other deposit-taking institutions, we also took into consideration the competition provided by non-deposit taking institutions. This was most evident in residential mortgages where adjustments were made to market shares to account for the competition provided by other institutions.

The National Bank of Canada and Le Mouvement des Caisses Desjardins (Caisses Desjardins) represent significant competition in Quebec, and there are fewer competition concerns arising from the proposed merger in that province.

Canada Trust is an important regional player in Ontario, Alberta and British Columbia. Of the Schedule II Banks, only the Hongkong Bank of Canada has meaningful retail banking presence, with about 117 branches located in major centres and throughout British Columbia.

The credit unions appear to be effective competitors to the banks in Saskatchewan, Manitoba and the lower mainland of British Columbia, but are small players in other parts of the country and in business operating loans above $1 million. Alberta Treasury Branches provide competition in many local markets in Alberta.

The Bureau has considered the degree to which these competitors could replace the competition lost as a result of the proposed merger.

The Bank of Nova Scotia clearly has the capacity to expand and does not face the same entry barriers as would a new national entrant. However, the Banks have argued that one of the prime motivations for the merger is to capture additional substantial economies of scale which they believe exist. If this were true, the Bank of Nova Scotia, at less than one-half the size of the merged bank in the domestic market, would be at a significant cost disadvantage and would not be able to compete effectively unless it also merged with another major bank. By the same token, much smaller institutions, such as Canada Trust, National Bank and the credit unions, would be even less able to compete effectively due to much higher cost positions.

As noted above, in the past it has been very difficult to entice consumers to switch their primary banking relationship, except by acquisition. The potential for the merged bank to cross-sell and data mine its larger customer base may further impede switching. While a competitive opportunity may arise during the transition of customers from one of the merging parties to the other, the history of past acquisitions has been that such windows of opportunity last less than one year and that customer retention by the merging parties has been very high. Under these conditions, the incentive of the remaining firms to compete vigorously could be diminished.

Royal Bank and Bank of Montreal, individually or jointly, clearly have the ability to compete. As with the Bank of Nova Scotia, a key question is whether or not they would have the same incentive to compete, given the reduction in the number of major competitors resulting from one or both mergers.

The Bank of Nova Scotia, Royal Bank and Bank of Montreal, as existing banks with national coverage, do not face the same barriers to expansion in individual markets as would new entrants. The effectiveness of such expansion, however, is constrained by customer switching costs and the expectation that branch profitability may take up to seven years. Furthermore, as these banks continue to rationalize their branch networks, it is unlikely that they would choose to enter or expand in mature markets with low growth prospects.

It would be difficult for Canada Trust and the National Bank to replicate the competition removed by the merger where they do not now compete. National Bank, for example, tried to expand significantly into southwestern Ontario in the late 1980s and subsequently withdrew from many locations. As well, Canada Trust has focussed its efforts on faster-growing, affluent urban and suburban markets and has shown little interest in expanding into many mature markets where the major banks are entrenched.

Most credit unions have a limited capacity to take on a large number of additional customers from the merging parties. In addition to capacity constraints faced by some community credit unions, there are a significant number of closed-bond credit unions, whose members are limited to the same employer, industry, ethnic group or parish.

The Banks have pointed to ING Direct (ING) as the type of competitive entrant now emerging. ING offers a non-chequing investment savings account from one office in Toronto. The account can be offered only if the consumer has a chequing account elsewhere. This product has no service fees, no minimum balance requirement and is fully insured by the Canada Deposit Insurance Corporation (CDIC). ING pays a higher rate of interest than the major banks. According to ING advertising, the average rate of interest paid over the past year is more than 10 times that offered by the major banks on a deposit of $4,500. Despite this price differential, ING has attracted less than 0.2% of total consumer deposits in the past 15 months in Canada. It is too early to say how successful this experiment will be. It is also interesting to note that ING will be supplementing its branchless service by establishing a physical presence through ABMs in Canadian Tire stores.

Another method of entry that has gained prominence in other countries is the use of kiosks in retail locations such as grocery or department stores. Two recent examples in Canada are the entry of PC Financial, offered by Loblaws and supplied by CIBC, and the alliance between Toronto-Dominion and Wal-Mart. PC Financial offers a no-fee chequing account as well as personal loans and mortgages at lower rates than the major banks' posted rates, and is competitive with discretionary rates offered by the major banks. While this could be viewed as a new service, it could also be viewed as a different delivery channel for CIBC rather than an entirely new competitor. Such alliances may also reduce access to prime locations for potential entrants.

All of the domestic banks, Canada Trust, and a number of credit unions offer business banking services for SME customers. Of the Schedule II banks, only the Hongkong Bank of Canada has a sufficient number of branches to have any competitive significance in this market.

The Banks point to Wells Fargo as an emerging competitive presence. Wells Fargo has begun a small business lending program in Canada, providing $50 million in loans. It is too early to say whether or not the Wells Fargo model will work well in Canada. With less than 0.05% of all SME lending in Canada, it is clear that it does not constitute a significant competitor today in the Canadian market.

For mid-market firms, most credit unions are not effective competitors, due to the sophistication of the services required and the larger loan size. However, Schedule II banks are able to compete in some urban areas.

Interdependent behaviour

The Bureau has examined the proposed transaction to determine the potential for a substantial lessening of competition through the exercise of interdependent behaviour at both local and national levels. This lessening can result from either explicit agreements or from implicit recognition among firms that, in the new post-merger environment, reduced competitive vigour would be more profitable for all.

A small number of sellers in any one market increases the risk of interdependent behaviour, and the Bureau has determined that the proposed merger significantly increases concentration in an already concentrated industry. If both proposed mergers proceed, the number of major banks will decline from five to three, and concentration will be even higher. A high level of concentration in the relevant market is a necessary, but not sufficient, condition for determining whether or not interdependent behaviour is likely to substantially lessen or prevent competition.

Other factors that facilitate interdependent behaviour are high barriers to entry, the homogeneity of products, the predictability of demand and costs, the stability of market shares, good information about pricing and customers, and the degree of industry cooperation (e.g. in associations, joint ventures, alliances, networks and loan syndicates). To a large degree, these factors appear to be present in this industry.

It is important to note that the Bureau does not believe that collusion in banking is likely, given the repercussions such conduct would have if detected. However, in view of the expert advice received by the Bureau on this issue, there is concern that the proposed merger will increase the risk for reduced competitive vigour among the remaining major banks. This risk is compounded should the other proposed merger also proceed.

Identifying the problematic markets

To identify those markets in which a substantial lessening of competition would likely occur, the Bureau employed the principles explained below.

  • Where the combined share of the Banks in either personal or business transaction accounts is 45% or greater, it is the Bureau's conclusion that the proposed transaction will result in a substantial lessening of competition and would require a remedy. Transaction account data was chosen because it is the core of the banking relationship for personal and business customers.
  • Those markets where the combined share in either personal or business transaction accounts is between 35% and 45%, or the combined share of any of the other relevant products exceeds 35%, are problematic. These markets require more review to determine if there are mitigating factors that would cause us to change this conclusion on the basis of new evidence obtained from the Banks and third parties. It should be noted that our concern is heightened by the fact that, in many of these markets, the combined share of the Banks in products other than transaction accounts exceeds 45%, some by a considerable margin.
  • The likelihood of concluding that the transaction would result in a substantial lessening of competition for markets in the problematic category is increased if the transaction proposed by the Royal Bank and Bank of Montreal proceeds.
  • We have concluded that the merger will not result in a substantial lessening of competition where the combined market share of the Banks is below 35% in any relevant product.

Appendix B provides details on this division of markets. Appendix C identifies the markets that fall into each category. Appendix D describes the rural markets identified by the Bureau.

These appendices set out the urban and rural markets which we have examined as part of our competition review. It is up to the Banks to propose how to address the conclusions set out in this letter. No inference is made and none should be drawn about the future of any branch located in any market listed in the attached appendices.

Conclusions

For individuals, branch banking services consist of personal transaction accounts, personal loans/lines of credit and residential mortgages.

For businesses, in particular SMEs, these services consist of business transaction accounts and related services, and operating loans.

(i) The proposed merger:

  • will result in a substantial lessening of competition in 36 of the 179 local markets in which these banks compete;
  • may result in a substantial lessening of competition in another 53 local markets; these markets are problematic and require further detailed review before we can confirm if a substantial lessening of competition will result;
  • will not result in a substantial lessening of competition in the remaining 90 local markets.

(ii) The proposed merger:

  • will result in a substantial lessening of competition in Prince Edward Island, Yukon and the Northwest Territories for mid-market businesses with operating loans between $1 million and $5 million.

B. Credit cards

Product markets

Within this category, we defined the following relevant product markets:

  • General purpose credit card issuing to businesses
  • General purpose credit card network services
  • General purpose credit card issu ing to individuals
  • Visa merchant acquiring
  • MasterCard merchant acquiring
  • Primary merchant acquiring

The Bureau concluded that no further review was required for general purpose credit card issuing to businesses (including corporate cards and purchasing cards), because the remaining competition was effective and provided businesses with adequate competitive alternatives or because the applicable thresholds were not crossed. For the purposes of this analysis, general purpose credit cards include charge cards such as Diners Club/enRoute or American Express. In addition, the proposed transaction does not have an impact on the MasterCard acquiring market since neither CIBC nor TD are members of MasterCard. A detailed review was required for the remaining product markets.

General purpose credit card network services

A general purpose credit card network is the system that enables cardholders to have their cards widely accepted for the purchase of goods and services. Competition among networks, such as Visa and MasterCard, is known as inter-system competition. Networks compete with each other by promoting brand awareness and by improving their systems, with the objective of being the preferred method of payment for goods and services.

Competition within a network also occurs among its members. This is known as intra-brand competition. This type of competition is influenced by the number and type of network members, and by the rules and regulations of the network.

Geographic market

The geographic market is national.

Market shares and concentration levels

In Canada, Visa is the largest network in terms of total dollar volume of purchases made with general purpose credit and charge cards, followed by MasterCard, American Express and Diners Club/enRoute. The market shares for the networks will not likely change post-merger since both CIBC and TD are Visa members.

Competitive criteria

Barriers to entry

The barriers to new entry into the network market are very high, involving significant investment in establishing brand recognition among consumers and merchants, as well as in developing systems infrastructure.

Removal of a vigorous and effective competitor

The proposed merger of CIBC and TD will not have an impact on the effectiveness of Visa as a network. However, CIBC/TD would be the dominant player within the Visa association. Should both mergers proceed, the position of CIBC/TD within Visa Canada is likely to increase significantly, raising questions about corporate governance and the impact this governance could have on competition among Visa members, that is, on intra-brand competition.

Conclusion

The proposed merger:

  • will not result in a substantial lessening of competition in the market for general purposecredit card network services.
General purpose credit card issuing to individuals

While individual consumers use different methods for paying for goods and services, credit cards offer certain unique features that distinguish them from other means of payment. In particular, credit cards offer consumers a convenient form of credit: firstly, in the form of interest-free credit, if the entire balance is paid off within a specified period of time; or alternatively, the ability to carry a balance, if the entire balance is not paid off. Credit cards also provide a number of other features, including widespread merchant acceptance and the ability to make remote purchases.

Charge cards offered by American Express and Diners Club/enRoute offer a number of the same features, except the ability to defer payment for purchases on a pre-approved credit limit. Nor are they as widely accepted by merchants as Visa and MasterCard. However, due to the similarity of credit cards and charge cards, with the advice of experts retained by the Bureau, the Bureau has defined the issuing of Visa, MasterCard, American Express and Diners Club/enRoute cards as a relevant product market.

Geographic market

While the branch network has historically been an important channel in the issuance of credit cards, the market appears to be changing. Since credit cards are effectively sold to consumers by mail, we have concluded that the geographic market is national.

Market shares and concentration levels

The merging parties will have slightly greater than 35% of the issuing market based on gross dollar volume of transactions. If both mergers proceed, the concentration ratio for the top four firms will exceed the 65% threshold.

Competitive criteria

Barriers to entry

Barriers to entry for the issuance of general purpose credit cards outside of the established Visa and MasterCard brands are very high, due to the time and difficulty in building widespread consumer and merchant acceptance. However, barriers to entry are not as significant within the established Visa and MasterCard brands.

Recent entry has occurred in the past five years. New MasterCard issuers include Canadian Tire Acceptance Ltd., MBNA Canada Bank (MBNA), Capital One, Trans Canada Credit and ING Canada Bank. Bank One has recently become a member of Visa Canada and is now issuing cards.

Effective competition remaining

There would appear to be effective competition remaining in the market. In the past few years, competition has increased with the expansion of MasterCard membership and the entry of U.S. firms that specialize in credit card issuing, namely MBNA, Capital One and most recently Bank One. While MBNA and Capital One currently hold a small share of the market, they offer competitive products that have caused the other card issuers to respond.

Conclusion

The proposed merger:

  • will not result in a substantial lessening of competition in the market for the issuing of general purpose credit cards to individuals.
Visa merchant acquiring

In order to accept credit cards as a method of payment, merchants must contract with an acquirer for services to process and guarantee payment of credit card transactions. Visa or MasterCard acquiring members are responsible for setting the fees charged for this service (the merchant discount rate), for guaranteeing payment to the merchant and for settling with other issuers who are members of either the Visa or MasterCard associations, respectively.

Visa acquirers compete with each other for the right to acquire and settle Visa transactions, while MasterCard acquirers compete with each other to acquire and settle MasterCard transactions. Each Visa acquirer sets the merchant discount rate for its Visa transactions, and each MasterCard acquirer sets the merchant discount rate for its MasterCard transactions.

Most merchants need to be able to accept both Visa and MasterCard. Under the existing rules and policies of Visa and MasterCard, members may not acquire transactions of a competing card. Consequently, Visa merchant acquiring and MasterCard merchant acquiring constitute separate markets.

Both CIBC and TD are Visa merchant acquiring members and therefore there is overlap in their businesses in the Visa merchant acquiring market.

Primary merchant acquiring

Primary acquiring can be defined as a package of services sold to merchants, which includes both the provision of terminal services and the provision of either Visa or MasterCard acquiring services.

Terminal services include the provision of the terminal at the merchant's location. It also includes data transmission and software to route transactions to the appropriate network, such as MasterCard, Visa or Interac debit. The majority of terminals now being deployed in Canada are multi-functional and allow merchants to accept all types of credit cards as well as debit cards.

For small and medium-sized merchants, terminal services and acquiring services for either Visa or MasterCard are usually purchased as a package from the same financial institution, although the Bureau recognizes that, for large merchants, the services may be purchased separately.

Typically, merchants have at least two acquirer relationships, but only one terminal provider. The Banks claim that new arrangements are being developed for the convenience of merchants. An example is the "Merchant's Edge" program between CIBC and Canada Trust, where CIBC is the primary acquirer furnishing the terminal and, at the merchant's option, Canada Trust is the MasterCard acquirer setting the MasterCard merchant discount rate. This reduces the need for merchants to establish a second acquiring relationship themselves. However, the Bureau understands that for primary acquirers to establish a partnership of this nature, they need to be assured that their partner will not target their primary acquiring relationships. Such assurance will only arise if the partner has limited or no presence in the primary acquiring market.

Geographic market

Visa merchant acquiring

The same considerations apply with respect to this market as those that apply to the primary merchant acquiring business.

Primary merchant acquiring

At present, many financial institutions service their merchant acquiring customers through their branches. Increasingly though, financial institutions are relying on centralized service centres and specialized teams of sales representatives to service this market, which may be expected to expand the geographic market to a national level. Consequently, the Bureau has concluded that this is a market in transition to the national level.

Market shares and concentration levels

Visa merchant acquiring

With respect to the Visa merchant acquiring market, the combined market share for CIBC and TD exceeds the 35% threshold on a national basis.

Primary merchant acquiring

The four largest primary merchant acquirers at the national level are Royal Bank, Bank of Montreal, CIBC and TD. The combined market share for CIBC and TD primary merchant acquiring is within the range of 30% to 40% at the national level.

Competitive criteria

Barriers to entry
Visa merchant acquiring

Within the Visa association, financial institutions need to be deposit-taking in order to be acquiring members of the Visa brand. As such, the entry of third-party processors from the United States would not, under the present Visa rules, provide entry as a Visa acquirer, because they are not deposit-taking institutions in Canada. Furthermore, in terms of a MasterCard primary acquirer seeking to establish a "Merchant's Edge" type of arrangement with a Visa merchant acquirer, as noted above, the choice would likely be limited to those institutions who will not target their primary acquiring relationships. In terms of new entrants into the Visa merchant acquiring markets, not only would they need to be deposit-taking institutions, but the time frame for building the gateway systems required in light of other information technology priorities, such as year 2000 problems, would mean that effective entry is unlikely to occur within the Bureau's two-year time frame.

Primary merchant acquiring

There are significant barriers to entry, particularly in providing primary acquiring services to SME merchants.

The Banks have a strong advantage in an established brand name and the use of an extensive national branch network to facilitate referrals and/or service to clients. The majority of SME merchants still prefer to purchase their primary merchant acquiring services from their main financial institution. This places non-banks at a disadvantage and may deter entry into this market.

The Banks contend that non-banks, particularly third-party processors that are able to leverage scale from their U.S. operations, are poised to enter the Canadian marketplace as primary acquirers. Since these firms are not members of the associations in Canada, they do not by themselves have direct acc ess to the credit card networks. As a result, they would need to ally themselves with an existing Visa or MasterCard acquiring member in order to provide the full primary acquiring package. Although there is evidence that these processors are operating in Canada as providers of terminal services, in partnership with some Visa and MasterCard acquirers, they appear to be targeting large merchants who are able to purchase their terminal services separately. They are not generally servicing SME merchants.

The Bureau also understands that economies of scale in transaction processing may present a barrier for smaller Canadian banks entering or seeking to expand their primary merchant acquiring business, although the precise nature of these economies of scale has not been determined. While economies of scale may present difficulties for smaller Canadian institutions, they would not be a significant barrier for U.S. acquirers entering the Canadian market to the extent that they have leverage from their existing U.S. transaction volumes.

The Bureau recognizes that entry by a large third-party processor allied with an existing Visa or MasterCard member could significantly change the competitive dynamic of this market. However, it does not appear likely that this will occur within the two-year time frame of our analysis.

Removal of an effective competitor

The proposed merger will result in the loss of competitive rivalry between CIBC and TD, and will remove an important competitor, particularly for SME merchants, in both the primary merchant acquiring market and the Visa merchant acquiring market. CIBC and TD are among the top four primary merchant acquirers in Canada and the top three Visa merchant acquirers. They have been effective competitors, and customers have benefited from the competition between them.

Effective competition remaining
Visa merchant acquiring

Excluding CIBC and TD, there are five Visa member banks that offer Visa merchant acquiring services. Post-merger, the combined CIBC/TD entity will have the largest share of the Visa merchant acquiring market and only two other Visa merchant acquirers have a national presence. Should both mergers proceed, with Royal Bank converting to MasterCard, that number would be reduced to one.

With both mergers proceeding, where a MasterCard primary merchant acquirer is looking to partner with a Visa merchant acquirer for a "Merchant's Edge" type of arrangement, choices would be limited. At this stage, it is unclear how well positioned smaller Visa merchant acquirers are to take on increased transaction volume and risk control systems associated with operating a national Visa merchant acquiring business.

Primary merchant acquiring

The Royal Bank, Bank of Montreal and Bank of Nova Scotia have been effective competitors with CIBC and TD in the primary acquiring market for SME merchants. The National Bank and Caisses Desjardins represent significant competition in Quebec.

Despite the number of remaining competitors in this market, the Banks' claims that economies of scale are important in this market suggest that smaller competitors are at a cost disadvantage. This may limit their effectiveness post-merger.

It is likely that if both proposed mergers were completed, the primary merchant acquiring market would be dominated by the two merged firms in most areas in Canada outside of Quebec.

Conclusions

(i) The proposed merger:

  • will result in a substantial lessening of competition in the Visa merchant acquiring market (the business of providing settlement of Visa credit card transactions to merchants).

(ii) The proposed merger:

  • may result, at the national level, in a substantial lessening of competition for primary merchant acquiring (the business of providing both terminals and settlement of credit card transactions to merchants) for SME merchants. Primary merchant acquiring is problematic and requires further detailed review at the local or regional level before we can confirm if a substantial lessening of competition will result.
  • will result, at the national level, in a substantial lessening of competition for primary merchant acquiring for SME merchants should both mergers proceed.

C. Securities

Product markets

Within this category of services we defined the following product markets:

  • Equity underwriting
  • Debt underwriting
  • Institutional equity trading
  • Institutional debt trading
  • Mergers and acquisitions advice
  • Full-service brokerage (execution of trades with advice)
  • Discount brokerage (execution of trades without advice)

We have concluded that the proposed merger does not raise competition concerns in the equity underwriting, debt underwriting, institutional equity trading, institutional debt trading, or mergers and acquisitions advice markets. These conclusions were reached because there are sufficient competitive alternatives remaining post-merger or applicable thresholds were not exceeded. However, a detailed review was required for the remaining product markets.

Full-service brokerage

Full-service brokers are distinct from discount brokers because they provide advice.

Discount brokers cater to essentially "do-it-yourself" customers who do their own research or buy third-party research. They do not receive advice tailored to their individual needs. Consequently, the cost of full-service brokerage services is significantly different from the cost of discount brokerage. For example, the banks have indicated that a typical $450 trade with a full-service broker would cost $85 through a discount brokerage and $30 through an electronic discount broker.

These significant price differentials, combined with evidence that discount pricing does not discipline full-service pricing, indicate that full-service and discount brokerage services should be treated separately.

Geographic market

The evidence indicates that the full-service brokerage business is local in scope. Most clients want local investment advice and a conveniently located office, close to where they live or work. This is demonstrated by the fact that both TD Evergreen, owned by Toronto-Dominion Bank, and CIBC/Wood Gundy have set up branch offices throughout Canada.

Market shares and concentration levels

In order to determine the market position of the parties, the Bureau gathered first-hand information on assets under administration from full-service brokers in each local market. This measure is used in the industry to measure market shares. The alternative measure proposed recently, equity trading commissions, is readily available only on a provincial basis. It does not provide information on income derived from debt products or other sources. Accordingly, the Bureau has used the local market share data currently available.

In three of the 22 local markets in which the two firms compete, the merging parties have a combined market share of 35% or greater.

Competitive criteria

Barriers to entry

Barriers to entry and expansion into the full-service brokerage market are high. Building a base of trained investment advisers is both costly and time-consuming. Based on estimates from third parties, it costs between $300 000 and $800 000 to develop a successful investment adviser.

Integrated firms, such as CIBC Wood Gundy and TD Securities Inc./TD Evergreen, that offer full-service brokerage as well as equity underwriting and institutional trading, have a number of advantages over smaller unintegrated firms.

Reliable research is a key component of the advice given by the investment adviser. Research is also a necessary input into underwriting services and institutional trading. Integrated firms can more easily support the costs of research across three business lines – individual client services, underwriting services and institutional trading – than across just one line. Underwriting services also provide a competitive advantage in that clients of the integrated firm will have greater access to new issues of securities than clients of unintegrated firms. Bank-owned dealers have the additional advantage of obtaining a significant proportion of their business from referrals of bank branch customers.

Even with these advantages, growth in the full-service business has largely been accomplished by acquisitions, rather than internal growth. The recent acquisition of Midland Walwyn by Merrill Lynch is a case in point.

Removal of a vigorous and effective competitor

The proposed merger removes an effective but relatively small competitor from most of the markets where the firms currently compete.

Effective competition remaining

Nesbitt Burns, RBC Dominion Securities, Merrill Lynch and Scotia McLeod provide effective competition in many local markets across Canada. Lévesque Beaubien Geoffrion, with approximately 1,300 investment advisers, is also an effective competitor, particularly in the province of Quebec. In a number of local markets, full-service firms compete with smaller full-service brokerages.

Conclusions

The proposed merger:

  • will result in a substantial lessening of competition in one market of the 22 local markets in which CIBC Wood Gundy and TD Evergreen compete in full-service brokerage;
  • may result in a substantial lessening of competition in two markets; these markets are problematic and require further detailed review before we can confirm if a substantial lessening of competition will result;
  • will not result in a substantial lessening of competition in 19 markets.

These conclusions are based in part on the market share levels as measured by assets under administration in local markets. The Bureau would be prepared to review these conclusions, if information having a material impact becomes available at the local level which would indicate that the market shares, as calculated, significantly overstate the market position of the Bank-owned firms.

Appendix E identifies the markets that fall into each category.

Discount brokerage (execution of trades without advice)

As noted above, the Bureau has concluded that the execution of securities trades without advice is a separate product market. While full-service brokers will sometimes lower price for a trade where no advice is provided, in most cases there is a wide margin between prices charged by full-service brokers and discount brokers. The discount brokerage service offered by TD is called Greenline Investor Services (Greenline), while the service offered by CIBC is known as CIBC Investor's Edge.

Geographic market

The discount brokerage market is national in scope. Trades are made via toll-free numbers and on-line through personal computers. While local physical presence assists in market penetration, it is not necessary to compete in this market. Discount brokers have national pricing.

Market share and concentration levels

In order to determine the market position of the Banks, the Bureau has used assets under administration. This measure is used in the industry to measure market shares.

Based on this measure, a combined Greenline and CIBCInvestor's Edge operation would represent over 45% of the discount brokerage market in Canada.

Competitive criteria

Barriers to entry

The barriers to entry appear to be moderate, as evidenced by the large number of recent entrants into this market. Since 1990, there have been nine new entrants, including the discount brokerage operations of the Canada Trust, Royal Bank, Bank of Montreal, CIBC, Bank of Nova Scotia, Caisses Desjardins, National Bank and Hongkong Bank of Canada. In addition to the bank-owned discount brokers, Versus Brokerage is currently offering a discount service over the Internet known as E*Trade.

The main barriers appear to be brand recognition and achieving sufficient scale to render the investments in call centres and technology profitable. All of the major banks have brand recognition and an ability to attract discount brokerage customers from their large base of existing bank customers.

The discount brokerage market has experienced significant growth in the past few years as investors seek lower fees for the purchase and sale of securities and mutual funds. This high level of growth has attracted new entrants.

Removal of an effective and vigorous competitor

Documentary evidence collected by the Bureau indicates that other competitors view CIBC Investor's Edge as a price and technology follower in the market and that it has not been very successful in capturing non-CIBC customers. This evidence suggests that the CIBC discount brokerage operation is not a particularly vigorous competitor.

Effective competition remaining

As a result of new entrants into the discount brokerage business, the market share of the current leader, Greenline, has been steadily declining over the past few years.

Documentary evidence indicates that the Bank of Montreal's Investorline service is viewed as being very aggressive on pricing, with a product line second only to Greenline. RBC Action Direct offers similar products and pricing. The other firms have small market shares, but are growing. The entry of E*Trade, with its $27 flat fee for trades, has forced the other discounters, including Greenline, to respond with similar pricing for trading by computer.

Conclusion

The proposed merger:

  • will not result in a substantial lessening of competition in the national market for discount brokerage services.

This conclusion takes into account the moderate barriers to entry combined with the number of new competitors, which together have steadily eroded the dominant position of Greenline.

Efficiency claims

As the Guidelines state, the onus of demonstrating efficiencies rests with the Banks. The CIBC and TD claim that cost savings will result if they are permitted to merge. The Banks estimate that the merger will result in annual cost savings of at least 10% of the non-interest expense of the combined bank.

While it is difficult to quantify efficiencies pre-merger, it seems reasonable that the proposed merger would produce cost savings. A variety of studies and consultants' reports reviewed by the Bureau identify three general areas in which a bank merger can be the source of cost savings.

Efficiency gains from a bank merger may arise through greater scale economies or rationalization in banking operations. This may be done by consolidating payment services, deposit inquiries and accounting, and loan-monitoring operations. Further gains may be realized through the expansion of the range of banking products. Adding new products to existing lines of business can allow for economies of scope rather than providing products individually. By adopting each other's best practices, banks can realize further important efficiencies.

However, the same studies also indicate that these potential efficiencies may not be realized in all mergers.

U.S. research of mergers between large banks indicates that the cost savings expected by CIBC and TD are consistent with those realized only after successful integration. The studies show that successful integration is more likely to occur if merging banks have previously participated in a large merger. Both CIBC and TD have had experience in smaller acquisitions. Yet neither has merged with an organization of comparable size. This adds to the difficulty of assessing the likelihood of the merger successfully generating the expected efficiencies.

Research also indicates that about one-half of large bank mergers reduce costs, while one-half realize no change in costs, or even incur increased costs. Thus, it is unclear the extent to which the claimed efficiencies will be realized.

When it is likely that the efficiencies would outweigh the anti‑competitive impact of a merger, the Competition Act provides an exception to allow the merger to proceed. As outlined in the Guidelines, it has been the Bureau's policy that, in non-bank cases where there is a likelihood of a substantial lessening or prevention of competition, as there is in this case, and the parties to the merger are claiming efficiency gains, the case would be brought to the Competition Tribunal for resolution.

However, in this case, efficiency gains arising from the merger, to a large extent, will be shaped by the public interest concerns to be expressed by the Minister of Finance. Given these circumstances, the Banks will not be able to accurately project the magnitude of the efficiencies until such time as they hear from the Minister of Finance.

The Task Force on the Future of the Canadian Financial Services Sector

The Bureau stated in its Guidelines that in reviewing the proposed bank mergers it would consider the impact on the regulatory environment of recommendations made by the Task Force. Enhancing competition in the financial services sector is a major focus of the Task Force report, released on September 15, 1998.

The Bureau welcomes the Task Force's emphasis on increased competition and views its recommendations aimed at enhancing competition as a positive step.

Among the various measures proposed by the Task Force to enhance competition, those relating to ownership structure, enhancing the capacity of the co-operative sector, and access to the payments system have the potential for the greatest impact on the marketplace.

Overall, even if a decision to adopt all the pro-competitive recommendations made by the Task Force were made immediately, the decision would be unlikely to have a substantial impact on competition in the markets of concern within the two-year time frame used in the Bureau's merger analysis. Making the legislative changes needed to implement regulatory reforms will take some time and there would likely be some delay before market participants would respond.

Since the impact of the Task Force's recommendations is more likely to be felt beyond the Bureau's two-year time frame, the proposed mergers were assessed in the context of the existing regulatory framework. As noted above, economic barriers affecting the state of competition in the relevant markets are significant. As a result, even if the regulatory environment envisioned by the Task Force were implemented today, the Bureau's assessment of the proposed mergers would likely reach the same conclusions.

The Task Force report also commented on the analytical framework used by the Bureau in reviewing mergers in the financial services sector. While supporting the approach outlined in the Guidelines, the Task Force suggests that the Bureau give particular attention to a number of factors relating to market definition and the impact of a bank merger within certain markets.

Specifically, the Task Force recommended that the Bureau pay particular attention to the following:

  • the competition concerns of small and medium-sized business,
  • users of personal financial services who may still be branch-dependent, and
  • the new competitive choices that already exist in respect of certain product lines and that are also likely to emerge as a result of new distribution channels and the liberalization of public policy constraints.

In assessing the proposed mergers, the Bureau considered each of these factors carefully. The impact of technology on the delivery of financial services, particularly the emergence of new distribution channels, is a prominent theme in the Task Force report. We agree, and have highlighted how the Bureau considered technology in its assessment of the proposed mergers.

Potential remedies

Following the process outlined in the Guidelines, it is not practical to consider possible remedies until the Banks have heard the public interest concerns of the Minister of Finance. However, it is useful to highlight the process that has typically been followed by the Bureau, the principles it sees as important in pursuing any remedies, and the types of remedies that have been applied to competition concerns in other cases.

After being informed of the competition concerns by the Bureau, the onus then lies with the Banks to determine whether or not they wish to proceed with the proposal, and if so, to identify and present remedies that remove these concerns. To be effective, a remedy must embody the following principles:

  • The substantial lessening of competition must be removed in all affected markets.
  • It must permit sustained and effective competition so that consumers will continue to enjoy the benefits of competition.
  • It must be implemented on a timely basis. For instance, assets should be sold prior to the completion of the merger, or within a specified time thereafter. Failure to comply would result in assets being placed in the hands of a trustee for sale.
  • The necessity for ongoing regulatory oversight should be limited.
  • Implementation of the remedy must be enforceable and transparent.

Traditionally, the above principles have been satisfied through remedies that focussed on structural rather than behavioural measures. Assuming the Banks decide that it is appropriate to proceed further, the most effective structural remedy is the divestiture of assets away from the merged company to others that will provide effective and sustainable competition. There is no formula for identifying in advance which assets may satisfy such conditions. Rather, to the extent that such a remedy is possible, it is case-specific and dependent upon the nature and extent of the competition concerns identified.

With regard to remedies pursued in other countries, concerns similar to those identified in the current proposal about branch banking have been resolved through branch divestitures. Such remedies have generally been considered to be effective in the United States. However, whether or not such a remedy would be either practical or sufficient to address the concerns identified in this letter remains to be determined. The viability of such a remedy also depends on the financial strength of the purchaser and its ability to support branch banking operations.

The divestiture of brand names has often been a consideration in other mergers and may be highly appropriate for bank mergers. Acquiring a recognized brand may assist the purchaser in establishing a strong market presence more quickly.

It should also be noted that the market share threshold to which divestiture would be required may well depend on whether or not the proposed Royal Bank-Bank of Montreal transaction proceeds. If it proceeds, a lower market share threshold may be required because of the increased concentration that would occur by both mergers occurring simultaneously.

Branch bank divestitures, which might have an impact on the primary merchant acquiring market and the Visa merchant acquiring market, would have to be examined from that perspective. In addition, the constitution of Visa would have to ensure that no single member could dominate Visa Canada.

As the foregoing indicates, the proposed transaction raises serious competition issues. The Bureau has given consideration to each of these issues and has attempted to explain the basis for its conclusions as fully as possible, while taking into account the importance of the proposed merger and respecting the confidentiality provisions in the Competition Act.

As stated in the Guidelines, if after receipt of this letter and taking into account any public interest concerns expressed by the Minister of Finance, the Banks decide it is appropriate to explore potential remedies with the Bureau, we would be pleased to do so at your convenience.

Yours sincerely,
Konrad von Finckenstein, Q.C.

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