M&A in banking: Balancing innovation and control

Interest rates and market volatility

Banks’ plans to re-evaluate their growth and consolidation approaches rely heavily on the Fed’s inflation control measures and evolving government policy on debt ceiling management. 

On Jan. 29, the Fed announced its plans to hold benchmark federal funds rates steady at 4.25% to 4.5% while it gathers more information through this first quarter. While an expected move, the future of rates remains in flux as other economic factors foster uncertainty.

“After decades of a pretty friendly rate environment, this is a new normal — and it’s causing banks to rethink how to proceed in this new normal,” said John Cristiano, Financial Services & Fintech M&A Leader at Grant Thornton. "While a high-interest-rate environment benefits traditional banking profitability, it's also creating a bifurcated market. Strong performers are finding opportunities for strategic acquisitions, while institutions facing margin pressure may need to consider defensive consolidation.”

This dynamic points to two distinct M&A trends emerging:

• Strategic acquisitions by well-capitalized banks seeking to expand their footprint or capabilities
• Defensive mergers among institutions looking to achieve economies of scale and strengthen their market position

Bank segment

The current environment creates distinctly different challenges and opportunities based on institutional size.

Large institutions are pursuing strategic diversification across service lines, industry verticals and geographic markets, leaving smaller and regional banks strategizing how to keep up.

“The trend of regional banks merging or being purchased will likely continue,” Cristiano said. “Regional banks are often tied to their local market, which limits options for exploring other industries or geographies.”

While their regional knowledge sets them apart from larger competitors, they’re confronting three critical challenges: rising technology infrastructure costs, increasing regulatory compliance burdens and intensifying competition for top talent.

For regional bank leaders, the key question isn’t whether to consider M&A but how to structure transactions that preserve their competitive advantages while addressing structural challenges. This often means seeking partners with complementary strengths rather than simply pursuing size for its own sake.

Regulatory challenges

The regulatory environment, particularly the minimum capital requirements for large banks, anti-money laundering requirements and risk management programs to address issues like cybersecurity and fraud, will all continue to impact the M&A environment.

Large banks submit to higher standards with regulatory compliance, such as increased regulatory scrutiny of capitalization requirements. Operationally, larger banks are more equipped to manage regulatory requirements with deeper resources to draw from in RegTech and other transformative technology investments. Compliance poses a bigger challenge for smaller institutions that lack scale, so merging with other institutions can help them build stronger, more cost-effective compliance programs while spreading costs across a larger organization.

As regulatory policy shifts continue to unfold with the new administration, banking institutions remain committed to strong regulatory compliance, recognizing that what’s good for customers is good for the bank. Banks should continue building compliance considerations into their M&A plans. “It’s better to continue maintaining focus on achieving the benefits of program compliance rather than hesitate and be caught unprepared for regulatory expectations that remain high or reset again in the future,” Tasman said.

Technology

The push toward digital transformation is reshaping banking M&A, but success requires more than just buying the latest technology. “Enhanced tech capabilities achievable through M&A are helping banks move into the cloud and embrace open banking instead of just building internally,” Tasman said. “Acquisitions that provide access to customer data, AI-powered platforms or innovative financial products will be strategic priorities for many banks.”

Large banks typically have two advantages when it comes to technology:

• Bigger technology budgets
• More resource depth to focus on innovation

But they also face a common challenge: the longstanding burden of updating legacy systems without creating undue operational risk. M&A can help address this problem by providing an opportunity to standardize operations on one common platform, either through the acquirer or acquiree.

With smaller tech budgets, regional banks need to be especially strategic about technology investments. This has led to a shift in how banks view fintech relationships.

“The bank-fintech relationship has evolved from competition to collaboration,” Cristiano said. “Banks increasingly recognize that partnering with fintechs can be smarter than trying to build everything in-house.”

When considering technology strategy, banks now have three main options:

1. Full acquisition of fintech companies
2. Strategic partnerships with technology providers
3. Targeted purchases of specific technology platforms

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Understand your customer

Fintechs have a remarkable ability to market and build brands that resonate — capturing the attention of young adults seeking financial providers and encouraging them to do their banking straight from their mobile device. Over a third of Gen Z said they would choose a fintech over banks for online payments.

But while it may appear that every young adult has flocked to apps like Venmo and Zelle for their cash management, they may not be as keen to replace traditional banking as it may seem.

“Growth is tied to your customer and your ability to understand that customer — whether they’re new or an existing client who has the potential to grow with your institution,” Tasman said. “Fintechs have portability and ease of use, but customers know they want security and trust when it comes to handling money movement and assured custody. They need to have that trust — and that’s something that a traditional bank can provide.”

Before starting your M&A search, focus on three key questions:

• What gaps exist in your current market coverage or product offerings?
• Where are your customers asking for additional services?
• Which capabilities would be too expensive or time-consuming to build internally?

Protect your data and manage risk

Leverage technology and be change-ready

Successful M&A execution requires a comprehensive approach to technology integration. Rather than allowing businesses to continue operating on separate platforms — a common pitfall that creates long-term inefficiencies — banks should prioritize operational integration planning and strategy from the outset, specifically to:

• Make platform integration a day-one priority.
• Create clear timelines for system consolidation.
• Factor integration costs and roadmap planning into deal valuation.
• Consider cloud migration and other enhancement opportunities.

Prepare for regulatory scrutiny

Developing a common compliance function is essential to eliminate duplication and achieve scale. However, before entering a deal, reviewing the regulatory track record of potential merger targets is crucial to identify any legacy issues.

“Scale can definitely help with spreading compliance costs,” Tasman said. "But there’s a catch — if you don’t factor in gaps and changes to compliance requirements during the merger integration process, you can create new problems that are expensive to fix down the line. The key is maintaining strong oversight throughout the integration process.”

Before any deal, carefully review:

• Each bank’s regulatory track record.
• Past examination findings.
• Cost implications of any compliance issues.
• Integration timeline for combining compliance functions.

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