UPDATE 1-Virgin Money bid sparks consolidation talk

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LONDON (Reuters) – British entrepreneur Richard Branson, founder of the Virgin business empire, is reviewing a 1.6 billion pounds ($2.2 billion) takeover bid that could turn the fledgling lender he founded almost 25 years ago into one of Britain’s biggest banks.

FILE PHOTO: Signage is see outside a branch of Virgin Money in Manchester, Britain September 21, 2017. REUTERS/Phil Noble /File Photo

Britain’s mid-sized ‘challenger’ banks’ shares rose sharply on Tuesday, after the approach by CYBG (CYBGC.L) for rival Virgin Money (VM.L) which prompted speculation that long-awaited consolidation in the sector could become a reality.

Shares in Virgin Money, of which airlines-to-music mogul Branson owns about 35 percent, rose as much as 9 percent after the all-share takeover offer.

Rivals, including Metro Bank (MTRO.L) and OnesavingsBank (OSBO.L), also rose as investors bet on which of the challenger banks might be next to merge in a buoyant British M&A market, which has had record levels of activity.

These smaller banks rose to prominence to meet a shortfall in small business lending left by the bigger banks, which retreated after the financial crisis to rebuild their battered balance sheets.

The challenger banks have succeeded in peeling some business away from heavyweights such as Lloyds (LLOY.L) and Royal Bank of Scotland (RBS.L), but in turn face their own threat from nimbler digital-only rivals and the rising costs from tighter regulation.

CYBG, owner of Clydesdale and Yorkshire Bank, made its London market debut in 2016 after it was spun off by National Australia Bank (NAB.AX). A successful merger would create Britain’s sixth largest bank, according to analysts.

Under its takeover plan, Virgin Money would own about 36.5 percent of the combined company. Virgin Money shareholders would receive 1.13 new CYBG shares for each Virgin Money share.

Analysts said the deal, made public on Monday, made logical sense, combining CYBG’s more extensive branch network with Virgin’s stronger brand, but that the initial offer was too low and would likely be rejected.

“We think Virgin shareholders will be lukewarm on the proposal,” said analyst John Cronin at Irish broker Goodbody, adding that he expected a protracted takeover battle could now happen as the two parties jockey over price.

Virgin said on Monday its board was reviewing the CYBG offer.

SQUEEZED

Britain’s mid-sized banks are being squeezed by competitive pressures from both the big established players and smaller newcomers, so analysts and investors have been expecting consolidation to kick off at some stage.

The biggest banks can reap economies of scale from their branch networks and ability to invest heavily in new technology. Meanwhile, a new breed of smaller digital-only ‘neo-banks’ such as Monzo, Starling and Atom and are wooing the customers of the mid-sized players without needing a costly branch infrastructure.

The challenger banks have also complained of an uneven playing field in terms of regulations, with rules on how much capital they have to hold against mortgages disproportionately favoring bigger players that have more historical data to underpin their risk models.

The CYBG and Virgin deal offers a potential template for coping with these pressures for many of the mid-sized players, providing an opportunity to combine branch networks, deposit bases and technology investment budgets.

Virgin Money is investing heavily in a new digital offering while CYBG already has a digital and mobile banking platform called ‘B’.

($1 = 0.7372 pounds)

Reporting By Lawrence White and Sinead Cruise, Editing by Jane Merriman

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