According to analysts, Morgan Stanley’s surprise $13 billion deal to acquire E*Trade Financial Corp could signal the beginning of a long-anticipated return of major M&A activity in the US financial industry. Although Morgan Stanley CEO James Gorman sees the deal as a bolt-on acquisition, the price is significantly larger than takeovers to which the largest banks have committed in the past five years to scale their businesses. So why is this different?
The reasons are threefold:
- The financial performance of the industry allows banks to act from a position of strength. Many of the largest banks are wielding highly valued stock, giving them much greater leverage to acquire. This is underpinned by a long-running need for consolidation in financial services so that institutions can achieve economies of scale and diversify. Julien Courbe, PwC’s Financial Services Advisory Leader, said: “A lot of the banks have addressed their cost structure and continue to do so, but they are looking to get volume and scale, and that’s forcing considerations for deal activity.”
- Digital disruption in the wealth-management sector is making it critical for banks to optimize costs and improve efficiency, as Silicon Valley innovators are looking to capture more and more business from traditional players. According to a study by Ernst & Young, the bank of the future will integrate disruptive technologies with an ecosystem of partners to transform their business and achieve growth.
- The possibility of regulatory tightening after the US elections in November, in the event that a Democrat wins the presidency. The latest primary debates have shown that many of the candidates would seek to increase regulation or even break up those banks deemed “too big to fail”, in contrast with the current administration.
The EY study also highlighted that more than 40% of top bank executives said that they planned to actively pursue a deal over the course of 2020, with 20% of those executives planning to use M&A to build their customer base, enter new markets and improve their talent pool. They would have to complete their transactions by the start of 2021 or risk being blocked by a potentially new administration.
There is a clear case for further consolidation within the financial services industry, but will this lead the way to larger banking takeovers? In a recent article in the Financial Times, which discusses the “fight for middle America’s wallet fueling the talk of banking consolidation,” analysts don’t necessarily think so. According to the article, the post-crisis efforts of policymakers who aimed to curb the “too big to fail” players have largely focused on banking activities that affect an institution’s assets as measured by risk. According to Morgan Stanley, the E*Trade deal would only have a small effect on its risk measures and would actually improve its capital ratio.
While this supports further consolidation in the retail wealth management sector, it doesn’t necessarily signal open season for all kinds of bank mergers. We are inclined to agree. Rooney Nimmo Banking Partner, Grant Docherty sees several factors to support this. “Competition regulation around mergers and acquisitions remains rigorous and, in some cases, prohibitive. In addition, capital adequacy will be an issue. And of course, there is a clear drive for growth and better profit margins, which large banking deals would not deliver.”
However it plays out over the coming months, we will be keeping an eye on the developments. If you have any questions or would like to talk to our banking team, please contact us here.