Global Merger Trends

Bank Director spoke to Gail Rogers, managing director, financial institutions group, J.P. Morgan Chase & Co. about the increasing globalization of the banking industry and the most attractive targets for mergers both domestically and abroad.

Bank Director: In the past few years, we’ve seen an acceleration in cross-border deals. What are the leading reasons that U.S. financial companies are looking to expand abroad? Conversely, why are foreign companies interested in U.S. expansion?

Gail Rogers: Historically, most cross-border activity was precipitated by institutions seeking markets with higher growth rates than their own country of domicile. More recently, however, the acceleration in cross-border activity has been primarily a function of the globalization of the wholesale banking and asset management businesses. Clients are becoming global, and investment banking is responding by moving from geographic to sector coverage and placing manufacturing and distribution in many locations. In asset management, this trend has been fostered by the development of an equity culture in countries other than the U.S. and U.K., which in conjunction with aging baby boom demographics, has created a demand for a global-equity and fixed-income product.

As a result, much of the recent transatlantic cross-border activity has been in the investment banking and asset management sectors. European banks and insurers have been aggressive acquirers of U.S. properties (UBS/Paine Webber, Deutsche Bank/Bankers Trust, Unicredito Italiano/Pioneer Group, and, most recently, Rabobank/Harbor Capital). Crossing the Atlantic in the other direction, the most aggressive U.S. acquirers have been the investment banks (Chase/ Robert Fleming Holdings, Citigroup/ Schroeders, and Merrill Lynch/Mercury).

In other sectors, we recently saw a large cross-border insurance deal announced with Prudential UK’s agreement to acquire American General. While bancassurance is a well-developed model in Europe, we have not seen that convergence materialize in the United States; as a result, we might anticipate seeing more acquisitions of U.S. insurance companies by overseas buyers than the reverse.

We expect additional growth through acquisition in the U.S. by overseas banks that are already here (among them AIB, RBS, ABN AMRO, and BNP). At this point in time, we anticipate few new commercial bank entrants to the U.S., because most overseas players are focused on European consolidation. Europeans are also interested in Latin America, Eastern Europe, and to a lesser extent, Asia. There has to date been little interest shown by U.S. commercial banks in expanding overseas through acquisition, in part because of perceived cultural differences, disadvantageous growth rate comparisons, and, as important, a lack of belief that middle market/retail banking is or needs to be global in nature.

In general, commercial banks are not convinced that there are real scale economies yet, on either the revenue side or the expense side, to be gained by becoming global.

How do multiples of asset management companies compare with those of banks?

They trade at a median of approximately 16 times earnings, which is significantly above the median for banks. In addition, there is an imbalance of supply and demand because there are very few asset managers compared to the number of buyers globally. As a result, I believe prices will remain high for the near term. A cataclysmic event, such as further erosion in the stock market, could cause a reevaluation that would shift the balance, but I doubt it. European banks and insurers are tough competitors in auctions for these companies because they view acquiring expertise in the U.S. sector as a strategic imperative, and they do not have as demanding shareholders as those in the United States.

Is it an attractive proposition for a U.S. asset manager to sell to a foreign institution?

Yes. From the asset management companies’ point of view, they believe that there will be more attractive pricing when selling to a foreign partner. Importantly, they also feel the social issues will be far easier to address.

On the other side of the coin, where

are U.S. institutions looking to expand internationally?

U.S. expansion is substantially less active, but there have been some very large deals, primarily with investment banks buying asset managers or broker/dealers overseas. Some examples mentioned earlier are Chase/ Robert Fleming Holdings, Citigroup/ Schroeders, and Merrill Lynch/Mercury; there’s also insurer Nationwide Financial’s purchase of Gartmore Investment Management, an asset management company. The largest U.S. investment banks and a handful of insurance companies look to expand in those same business lines overseas because asset management and broker/dealers are increasingly becoming global businesses; today, you really can’t succeed in them unless you are global. That’s not yet true of the commercial/retail banking business. Another recent trend has been U.S. consumer finance companies—Household, Capital One, MBNA—going to Europe, primarily the U.K., because the growth rate for consumer credit in those markets is anticipated to exceed that in the United States, which is a more mature market. Technology developments are facilitating this activity.

Do the U.S. finance companies have a stronger competitive position relative to their European competitors?

Yes. I think the U.S. consumer finance companies view themselves as being very competitive with overseas players, whether it’s the information, the product, the service, or the technology.

How does the advent of electronic banking affect global mergers and acquisitions? After all, bricks and mortar aren’t really needed anymore, and customers don’t have to come into a bank to hold an account there.

In fact, I believe technology, broadly defined, will facilitate, not replace, global mergers and acquisitions. To the extent technology ultimately creates a global marketplace for the retail/middle-market customer, commercial banks will follow. In some sense, Royal Bank of Canada has that vision for the future manifested in its acquisition of Centura Banks of North Carolina. As I understand it, Royal Bank of Canada wants to focus on a product-driven strategy (with Dain Rauscher, Prism Financial, and Liberty Life) through multiple distribution channels, including electronic banking, rather than be weighed down by bricks and mortar. Yet if they are successful, I believe that success will validate the acquisition of more banks. So developments in electronic banking could very well create a global middle-market/retail customer and drive more brick-and-mortar deals as a result.

Is there any noteworthy activity by Asian banks?

There are not that many large banks domiciled in Asia (see table). Hong Kong and Shanghi have a large Asian presence, but they are already in the United States.

On a global scale, U.S. banks are still generally the largest. First Union has approximately $30 billion in market cap, Bank One has $40 billion, and Fleet has $40 billion. There are perhaps 10 financial service companies in the world that can afford any one of those banks, which is not to say that they would necessarily want to buy them. The largest European financial institution by market capitalization is HSBC Holdings with approximately $111 billion in market cap (contrasted with Citigroup at $220 billion in market cap and AIG at $180 billion). The second largest is Ing Groep N.V. with $67 billion in market cap. The third largest European institution is Allianz AG with $64 billion in market cap. To put it in perspective, Banque Nationale de Paris, the largest French bank, is approximately the same market cap as Bank One.

Yet no one would view Bank One as a major international threat.

Certainly not now. While the numbers, in terms of market capitalization, might indicate that U.S. banks should buy out Europe, not the other way around, that is unlikely to happen in the near term, because the largest U.S. commercial banks are, for the most part, not European-focused and still perceive great cultural differences. U.S. banks are still dealing with national consolidation right now and view the United States as being one of the most attractive markets in the world. When growth dynamics change or their customers dictate otherwise, they will follow.

What is the benefit of entering into a strategic alliance versus

an acquisition? What issues should a board of directors considering foreign expansion keep in mind regarding these two

deal structures?

Strategic alliances or joint ventures are often viewed as a more

cost-effective way of distributing or originating products. In cases where institutions want to test the market, there are benefits in going the joint venture/alliance route. In fact, it may be the only way to go if you can’t find a buyer or partner willing to merge. The advantage is that it avoids many of the social issues associated with a large transaction, particularly with overseas alliances. An alliance or joint venture can help you deal with some of the differences in cultures in terms of how business is conducted, the way boards are run, and human resources issues. Joint ventures and alliances also let you move in and out more easily than an acquisition, which is a benefit in an evolving marketplace.

What is the downside?

The downside is that often with joint ventures—unless there is some significant economic “skin in the game”—there isn’t the same level of commitment made by the parties in terms of making it a priority, or making the investment required to succeed. That is the primary reason joint ventures and strategic alliances fail. One could argue that the reason they are done instead of transactions is because, in fact, the level of commitment is not there— along with the level of certainty that this is the right thing to do. I don’t think that is necessarily a bad thing, because you need to remain flexible and nimble in an evolving marketplace, and joint ventures and alliances let you move in and out easier than you could do otherwise. On the other hand, I have seen numerous examples where it wasn’t a material enough part of either partners’ business to justify or to get the appropriate attention from one party or another. In those cases, alliances are almost doomed to failure before they even begin.

© Board Member Inc. All Rights Reserved