From Bombay to Boston, the push for consolidation in the financial services industry continues at a white-hot pace.
Hokkaido Takushoku Bank of Japan and the UK’s Barclays Bank announced a ‘tie-in’ arrangement in June, paving the way for Barclays to sell its financial products in Japan. The New York-based Bankers Trust Company and Nippon bank go one better: they merge by taking equity stakes in one another. The Bank of Montreal snatches up Chicago-based Harris Bankcorp, then dives right back in again to woo Mexico’s Grupo Financiero Bancomer, which would cap off a nice North American trifecta for the $190 bn Canadian bank. And then just recently, JP Morgan helped engineer a possible merger between two German Banks – Bayerische VereinsBank and Bayerische Hypotheken-und Wechsel Bank – that will create a $412 mn German giant second only to the mighty Deutsche Bank.
Then consider the US securities industry for a moment, where it’s not safe to sit too close to a mid-size securities firm. In the last six months, five such firms were bought out by large banks: Canadian Imperial Bank/Oppenheimer, in a deal worth $525 mn; Nationsbank/Montgomery Securities – $1.2 bn; BankAmerica/Robertson Stephens – $540 mn; Swiss Bank/Dillon Reed – $600 mn; and Bankers Trust/Alex Brown – $1.7 bn.
And there’s more to come. The global banking rumor mill is buzzing about a possible merger in the British banking industry between HSBC Holdings (which already owns Hong Kong Bank, Midland Bank and Marine Midland Bank, among others) and Royal Bank of Scotland.
Or how about the thought of a truly earth-shattering merging of titans in Citicorp and American Express?
What in the name of J Pierpont Morgan is going on here? Many say the amazing rate of consolidations in the banking industry is a plan by larger banks aiming to eliminate the mid-level players and keep virtually all of the financial services pie to a select few, leaving only the crumbs for the smaller players.
Others warn of the consequences of reduced competition among global banks at the worst time possible – just as the global economy is beginning to reach a crest and the need for capital infusion and infrastructure investment has never been much higher.
These concerns appear justified. In such a billion-dollar-or-bust global banking environment, who will survive and, of those who do, what will they demand from their corporate clients? It’s the invasion of the superbanks and it’s coming soon to a skyscraper near you – if it hasn’t already appeared.
Urge To Merge
‘Merger and acquisition activity among global financial services groups is definitely increasing,’ says Vincenso Alomia, a global economy consultant at Technimetrics. ‘Much of it is due to the immense popularity of mutual funds and the grand showing of the US stock market in recent years.’
By this summer, that growth had translated into a financial boom for investment banks. According to Business Week the price-to-earnings ratios of the financial-services index and funds, dominated primarily by banks, are 12-13 times estimated 1998 earnings compared with 19 times for the S&P 500. Since 1992, the Nasdaq Bank Index has been rolling along at a 262 percent clip while the S&P 500 is up 145 percent. Citicorp alone has seen its stock rise from $9 in 1991 to $110 in mid-1997.
Also fueling bank consolidation fires is the move toward pension reform in Europe, South America and along the Pacific Rim. ‘Managers with global investment management and marketing capabilities are gearing up to compete for funds that will be unleashed in countries where limits on investment allocations are eased or abolished,’ says Alomia.
He points to Japan, where liberalization of pension management regulations under Big Bang will ‘play to the greater international investment expertise of US and European investment managers.’
Vying for expanding investment markets like Japan has led to a plethora of US-Euro bank mergers, with Technimetrics recording 49 such deals in 1996 alone. ‘It’s an open window,’ adds Alomia, ‘But ultimately only a few will be allowed inside.’
That challenge is arousing global investment banking superpowers like Merrill Lynch, Morgan Stanley Dean Witter, JP Morgan, Chase Manhattan, Citibank, ING/Barings, Deutsche Bank and Barclays-BZW. These ‘superbanks’ are amassing the mega-billon war chests necessary to survive the continuing purge of once-familiar brand name banks like Chemical and Great Western Bank. Larger banks, after all, have the capital, profitability and experience at acquisitions. And they’re using that clout wisely in not simply buying up other banks but, thanks to the loose rules on the percentage of income that banks can gain from underwriting, they’re also snapping up brokerage firms, insurance companies, and mutual fund firms.
But it takes deep pockets to play this high-stakes game. ‘The overall requirements for globalization have become so daunting and so rigorous that no more than a half-dozen or so full-service firms will occupy leadership positions as truly global players,’ says Merrill Lynch’s Paul Roy, managing director of the investment bank’s Europe, Middle East and South Africa operations.
Wealth of Talent
According to Roy, Merrill Lynch wants to be one of those select banks. ‘In a few years 50 percent of the top securities firms will be owned by banks,’ he states. ‘We want to be in that race for leadership and those lines will continue to blur.’ With 1996 earnings of $1.5 bn on $24 bn worth of revenue, Merrill is well on its way to doing overseas what it’s been doing in the US for years. And that’s winning big.
Merrill earned 30 percent of its revenues overseas last year, fueled primarily by a series of foreign financial services acquisitions, most notably Britain’s Smith New Court, Spain’s FG Inversiones and shares of brokerage operations in India, Thailand, South Africa, Indonesia, Italy, Australia and throughout South America. ‘The ability to have a global reach is going to be critical,’ Merrill’s CEO David Komansky told Fortune earlier this year. ‘We are talking about something far in excess of originating outside the US. We are talking about originating in any foreign currency and being able to distribute those products in almost any financial market in the world.’
David vs Goliath
According to Roy, the global bank M&A scrum is not unlike a game of high-stakes musical chairs. ‘There will be some winners, some also-rans and a goodly number of losers.’ Whether that means losers in terms of other banks or corporate clients relying on banks to raise capital and build an investor base remains to be seen.
‘Right now consolidation is good news for companies looking to do business with banks,’ remarks Perrin Long, a Darian, Connecticut-based securities industry analyst. ‘Everyone wants to be in the capital markets side of the business, so there’s some good pricing opportunities for institutional investors.’ That could change as early as the year 2000, adds Long. ‘By then you’ll see about half-a-dozen major global banks, most likely including some combination of Goldman Sachs, Merrill Lynch, Swiss Bank, JP Morgan, Chase Manhattan, Citibank, ING/Barings, Barclays-BZW and one or two Japanese banks. That will reduce competition at the high end but expand it on the lower end for regional banks, so you still might squeeze some pricing pressures out of the smaller banks if the big guys aren’t as competitive.’
Others agree with that assessment. ‘It’s hard to say if the number of global banks is going to be six or ten or whatever,’ says Dick Ross, a Chicago-based investment industry consultant. ‘But it will be a small number of large players with lots of smaller, niche-type players tossed into the mix.’
That state of affairs, says Ross, leaves some wiggle room for companies tapping capital markets to cut the best deals they can with investment banks. ‘You’re going to see a lot of companies going to the local level to raise capital. The large banks are dysfunctional on that level whereas smaller banks thrive. But if you’re a Fortune 500 company and you’re seeking Fortune 500-type funding, sooner or later you’ll probably have to deal with the big banks.’
Also taking the positive approach is Technimetrics’ Alomia. ‘You are going to see some of the mid-sized banks either swallowed up or eliminated,’ he acknowledges. ‘But you’re going to see some advantages for corporate banking customers as well. Perhaps the single biggest benefit is the quality of capital-raising options customers will have.’ Another advantage of consolidation is the ability for deep-pocketed global banks to cushion themselves from unexpected shocks, like a hike in interest rates or a national banking scandal on the level of the billion dollar losses suffered by Barings and Daiwa.
‘You won’t see a Merrill or Barclays succumb to a similar catastrophe,’ notes Long. ‘They’ve got way too much capital for that to happen,’ he says. On the flip side, he adds, the bigger the bank, the harder it is to keep track of what’s going in a newly-inflated superbank empire. ‘Controls are a key issue. If your home office is in Zurich, it’s hard to know what’s transpiring in Buenos Aires or Sydney. Banks won’t get much help from local government regulators, whose hands are tied in trying to oversee far-flung operations on different continents.’
Hot Spots
That said, even the most zealous government watchdog working 16-hour shifts seven-days-a-week would have trouble keeping track of what’s going on with bank mergers in Europe. Over a half-dozen alliances have been announced since May, including major deals in Germany, Italy, Britain, Belgium and the Netherlands. Germany alone has one bank branch for every 1,600 people so the issue of overkill is one that keeps cropping up on the Continent.
The move towards a common European currency hasn’t helped simplify matters either. In fact, it’s one reason why merger activity is so hot in Europe. Banks there are merging primarily to cut costs, and not because of any grand plan to blanket the Continent with better service or new and improved products. ABN AMRO, for example, has cut branches by 24 percent since the 1991 merger between two Dutch banking giants produced the new company resulting in a loss of 6,000 banking jobs in the Netherlands alone.
And bank regulators are still scratching their heads over the Vereinsbank/Wechsel Bank deal. Using an accounting technique recommended by deal advisor JP Morgan, the banks unraveled the traditional cross-holdings that insulate German banks from external financial pressures. The deal was also structured in a way that enabled the two banks to bypass Germany’s 50 percent-plus capital gains tax. Other global banks are studying the deal to determine if they, too, can sell off assets in order to free up cash to pursue potentially lucrative acquisitions of their own.
In Japan, the issues leading to the recent merger of Mitsubishi Bank and Bank of Tokyo, the empire’s sixth and tenth-largest banks respectively (resulting in the creation of largest bank in the world with 75 trillion or $700 bn in assets) were much simpler. In contrast to many bank mergers, where ties are bound to cut costs and to join forces in areas of specialty, the Mitsubishi/Bank of Tokyo alliance was forged primarily because each company needed the other to survive. Each performed different functions well, with Bank of Tokyo a recognized overseas banking powerhouse and Mitsubishi more of a force on the domestic front.
‘They had to act,’ says Alomia of the merger. ‘Japan opened its doors to foreign money managers and that meant trouble for the entrenched Japanese banks. You’re starting to see deregulation everywhere, though, and not just in Japan. There’s a lot of activity across the board and some banks may feel that they have to merge just to remain competitive.’
Then there’s the July agreement between Swiss Bank Corporation and the Long-Term Credit Bank of Japan to create a joint investment banking and asset management business in Japan. The $850 mn deal is the largest ever agreement between a Japanese bank and a foreign bank.
All across the Pacific Rim, big international banks are gearing up for even more acquisitions. Most are beefing up their M&A teams, like New York-based Chemical Banking Corp, which lured highly sought-after M&A wizard Mark Davis away from Salomon Brothers in 1996. Banks are also working closely to integrate their domestic M&A divisions into global entities without missing a beat. According to BZW Asia’s director of corporate and project finance, Kalpana Desai, the Asian Rim is ‘set to explode’ with merger and acquisition activity, with $20 bn worth of deals to be signed, up from $11 bn in 1996. Japan and Malaysia are showing the most activity, she says.
While the banking shakeout continues, it’s hard to say who will be left standing and when. If, as many suggest, the playing field will be reduced to a handful of international superbanks, corporate customers will face a dilemma.
On the one hand, capital, research, advisory services, and investment management will all be easily available in a ‘one-stop-shopping’-oriented superbank. On the other hand, these services may not be available at a price they can afford. The only certainty is this: the international banking landscape today will be virtually unrecognizable by the millennium.
