BoI New Ireland takeover reaffirms banking boom

Bank of Ireland's takeover of New Ireland Assurance catapults it into a very strong number two position in the Irish life and pensions' market and underscores the buoyant fortunes of the banking sector. A brief look at the chart of New Ireland's share price shows that the shares could have been bought for as little as £6 during the first quarter of 1996. Even as recently as July, the shares were trading around the £14 mark. This compares with the takeout price of £23.82 which was a 19 per cent premium to the last traded price of £20 a share. New Ireland shares would thus have been a welcome addition to any portfolio, although investments in the other financial stocks have also done very well.

The past few years have been exceptionally favourable for the Irish banks in particular. The booming economy has led to a huge growth in lending which has boosted the net interest income of banks. Furthermore, the banks have become very adept at squeezing fee income from the services they offer.

As a bank customer I do get irritated at the endless ability of banks to charge me a myriad of fees. However, as a shareholder I've been gratified to see such strong growth in fee income in recent years.

Of course, for banks, the single major benefit of a booming economy is the decline in the number of bad loans. With the Irish economy continuing to perform so well this favourable environment should continue for the foreseeable future.

Of the two major bank shares - AIB and Bank of Ireland - Bank of Ireland has done particularly well. Over the past three years the share price has more than trebled to its current level. Over this period the dividend has also been growing at a very healthy pace: to the year end March 1997, the gross dividend amounted to 22.2p per share and a dividend of 25.3p per share is forecast for the current period which represents a healthy annual increase of 14 per cent.

Traditionally, bank stocks have offered relatively high dividend yields. However, the very sharp rise in Bank of Ireland's share price in recent years has resulted in a current dividend yield of under 3 per cent. Even in the current low interest-rate environment some banks offer deposit rates higher than 6 per cent. This might tempt investors to realise some profits and sell at least some of their Bank of Ireland shares.

However, with the economy so strong and Bank of Ireland's British operation just beginning to pay dividend, there is an argument to hang on a bit longer. The most recent acquisition of New Ireland looks like a very good strategic move. The price paid at over £270 million was very high but it does put Bank of Ireland into a very strong position in the fast growing life and pensions market.

Although Bank of Ireland has stated that it will run its life company - Lifetime and New Ireland separately, over time both operations will become increasingly integrated.

This process begins immediately with the integration of the New Ireland investment management function into Bank of Ireland Asset Management. This will result in significant cost savings and over time the Bank's management will be active in further reducing costs.

The only worrying aspect of the deal is that Bank of Ireland's management saw fit to issue £200 million worth of new shares to partfund the acquisition when it could have funded it out of its existing resources.

There are two possible interpretations of this fund-raising exercise:

(a) - the management is taking a prudent and conservative approach in managing its balance sheet;

or (b) - it views the current high share price as a wonderful opportunity to raise cheap equity.

For the moment, we might assume the former interpretation holds sway.

This takeover of course does have implications for Irish Life which occupies the number one spot in the life and pensions market. Curiously, the shares rose very sharply to an all-time high of £4 in the immediate aftermath of the New Ireland bid. This is strange because the strengthened position of Bank of Ireland in the market must pose an enormous threat to Irish Life's dominant position.

Market pundits argue that the very high valuation attributed to New Ireland acts as a new (higher) benchmark for valuing Irish Life. But there is little merit in this view since a takeover of a company always involves a substantial premium to `fair value'.

The appointment of David Went as the new managing director also had a positive impact on the share price. While Mr Went's banking experience may well prove to be beneficial for Irish Life, the company continues to grapple with a range of fundamental issues such as re-energising the sales force and reestablishing its creditability as a force in the fund management business.

Given that the markets have risen so strongly this year - and that the company's short-term prospects appear lukewarm-investors in Irish Life may wish to realise some of their substantial profit before the end of the year.