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Discussion Starter · #1 · (Edited)
Asia: Shanghaied

By Patrick Jenkins, Jamil Anderlini, Henny Sender and Lina Saigol

Published: November 4 2010 22:19 | Last updated: November 4 2010 22:19

For anyone in doubt that China is the market the world’s investment banks are most desperate to make their own, just take a look at the roster of the groups that last month led the initial public offering of AIA.

The Hong Kong flotation of the Asian unit of AIG, the failed US insurer, was run by a record tally of 11 banks – nine of them Wall Street names. Along with Industrial and Commercial Bank of China and Malaysia’s CIMB, they shared a fee pool worth 1.75 per cent of the $17.8bn deal.

On the face of it, that is a vast sum of money, leaving each bank with an average $28m. Yet it is a far cry from the levels that the big banks have become used to, both in the western markets of today and in the China of a few years ago. Indeed, for the personnel hours involved in working on such a deal, it is a relatively scant reward.

The question many bankers are asking themselves now is whether the market that promised so much could end up undermining the lucrative business model they have enjoyed for so long elsewhere in the world. Could the cut-throat competition in China set a new, less profitable baseline for investment banking fees worldwide?

Western bankers involved in the July flotation of Agricultural Bank of China – which raised a record $22.1bn – say with grudging respect that much of the credit, or blame, for the meagre fees of today’s deals should go to one man: Pan Gongsheng. Mr Pan served as board secretary for ICBC when it carried out its own IPO in 2006, before being brought in as senior vice-president in charge of ABC’s giant listing.

He was able to use his experience working on the ICBC deal to drive a hard bargain and play the foreign banks off against one another as they scrambled to be part of the world’s largest-ever public listing. The ABC deal was a striking example of how the tables have turned – how China’s position today as a bright spot on the global dealmaking landscape allows its mandarins to extract concessions on individual deals.

That is making life more difficult than expected for the foreign banks, and certainly tougher than it was prior to the financial crisis. “These mandates take years of hard work,” says Mike Evans, chairman of Goldman Sachs Asia.

While the crisis weakened the finances, and reputations of many of the Wall Street names with an established presence in China, their status has been further eroded by fast-growing domestic competitors. Local banks are increasingly being favoured by Chinese companies, even in their forays offshore to raise money and make acquisitions.

The ABC flotation was a case in point, with Wall Street banks and Chinese brokerages competing for mandates to run the deal. Goldman, which ended up as one of only four global investment banks on the transaction, sat alongside five Chinese institutions and Australia’s Macquarie.

Goldman began its courtship of ABC nearly five years ago, determined to secure itself a leading position in listing the last of China’s big four state-owned banks. Mr Evans led the effort, occasionally bringing in Lloyd Blankfein, group chief executive, from New York to show the Chinese side how important the deal was.

Months later, Gaby Abdelnour, JPMorgan Chase’s Asia-Pacific chairman and chief executive, decided his bank needed to play catch up. The bank, though historically close to the rival Bank of China, began developing a stronger relationship with ABC in a wide range of areas, from derivatives to trade finance. By the time ABC was ready to select investment banks to shepherd its market debut this year, about two dozen banks were competing for the privilege of participating in the record-beating deal.

The focus on Asia, and on China in particular, is understandable enough. The region has been driving an increasing share of the world’s capital markets and financial advisory businesses, as it accounts for an increasing share of the world’s economic growth. Indeed, the size of the deals and the volumes of the deals in many cases even outpace the speed of gross domestic product growth.

Mergers and acquisitions activity in emerging markets announced during the first nine months of 2010 exceeded $480bn – a 63 per cent increase on the equivalent period of 2009, according to Thomson Reuters. China was the most targeted market during the period, with more than 2,300 deals worth a combined $85.6bn. “You can’t be a leader in the world if you are not in Asia,” Matt Ginsberg of Barclays Capital Asia in Hong Kong declares.

But a closer look at the transactions suggests that the growth of the business might also outpace the profitability of the operations. That suggests that investment banking business in Asia may be coming to resemble the fate of many Chinese state enterprises, including the prospect of years of profitless growth.

Had the ABC transaction “happened two years ago, the fees would have been twice what they were”, says the co-head of regional investment banking at one big international bank in Hong Kong. “There are lots of new entrants, which means that fees have become compressed. They may not win a lot of business but they have an impact on margins.”

T ypically, the fees that banks can command for IPO work in Asia are a fraction of what they are in the US and UK. Even then, the operating environment can be notably more harsh. ABC, for example, demanded a $75m underwriting fee discount from its lead arrangers, which included Goldman and Morgan Stanley, on the grounds that it handled talks with corporate investors itself.

M&A pickings have been slim, too. For the first nine months of the year, the contribution generated by China was $328m. Put that in context of the estimated $61m Goldman earned in Switzerland advising Novartis on its acquisition of Alcon in August and the fees look paltry. One bank calculates that fees as a percentage of market capitalisation are less than half of what they are in Europe.

The competition is fierce enough among the Wall Street names. In past years, frontrunners Goldman and Morgan Stanley found themselves vying for deals with Citigroup, Credit Suisse, Deutsche Bank and UBS. Now JPMorgan has replanted its flag in the region. Barclays Capital is recruiting stars from rivals for its Asian effort.

Bank of America – which is called that for a reason, notes one of its former investment bankers, citing BofA’s past erratic international presence – is back, having swallowed Merrill Lynch. Nomura of Japan never left but, following its acquisition of Lehman Brothers’ Asian operations, it is being taken more seriously. Standard Chartered is ramping up, as is Macquarie.

Many competitors come with big balance sheets – a further challenge to the traditional advisory-focused investment banks. Morgan Stanley tries to leverage the balance sheet of Mitsubishi UFJ Bank, its shareholder since the crisis. Goldman, famously reluctant to commit to financing deals on its own balance sheet, is expected increasingly to offer funding to secure the deals that used to come its way without that sweetener.

But what worries bankers more is the fast-rising presence of local competition on Chinese deals – and the threat that those financial groups will follow their national champions on ventures abroad.

The year-to-date rankings of deal-making banks across Asia, excluding Japan, still contain only two Chinese names – Bank of China and China International Capital Corporation – in the top 10. But in a likely sign of things to come, the next 10 names are dominated by China: they include Citic, China Galaxy Securities, Guotai Junan Securities and the securities arms of ICBC, Bank of Communications and ABC, thanks to work on its own IPO. “International firms will [gradually] lose market share to Chinese firms,” says JPMorgan’s Mr Abdelnour. “The mix is changing.”

Wall Street names have seen a market they dominated until only a few years ago quickly slipping away, as competition for mandates intensifies. Goldman, for example, has seen its share of deals in the first nine months of this year fall to 2.9 per cent, compared with 6.3 per cent in 2006 as local banks increase their presence.

With the lower fees that come with such competition, and the cheaper pricing traditions of local Chinese banks, some believe there could be a powerful influence on the fee structures for global dealmaking.

Nonetheless, many western bankers for the time being do not take local Chinese financial groups seriously. Some of them, particularly the arms of state-owned banks, have official limits on salaries. The presidents of their parents rarely receive more than $250,000 a year, which leaves them on the sidelines when it comes to bidding for so-called rainmakers, the big-name deal brokers, in Hong Kong.

But it is precisely because they pay their bankers moderately that these local operators can afford to charge far lower fees. At Citic Securities, which has the largest market capitalisation of all the Chinese securities firms, pay absorbs just 20 per cent of revenues – less than half the proportion of their American counterparts.

Citic has a lucrative retail brokerage operation. But Wang Dong Ming, its head, has international ambitions, and happily tells visitors that he has studied Japan’s securities houses closely to see why they largely failed to make the transition from being Japanese to being international.

All the signs so far suggest that Mr Wang and his fellow Chinese investment bankers are well placed to secure an ever bigger slice of business both at home and abroad. That could spell less profitable times ahead for western banks, wherever they operate – and perhaps even lead to a less lucrative bonus system for western bankers. It would suggest that Wall Street’s rush into China had been painfully counterproductive.

Reporting by Jamil Anderlini, Patrick Jenkins, Lina Saigol and Henny Sender

The payment problem

One of the biggest problems facing international banks building franchises in Asia is payment. Chinese companies listing on the Shanghai or Shenzhen stock markets pay between 0.75 and 1 per cent of the total size of an initial public offering, according to data from Thomson Reuters.

The figure looks paltry when compared with an average of between 5 and 7 per cent in America and about 3-4.5 per cent in the UK.

So far, Chinese issuers account for 50 per cent of the overall amount raised in the IPO market in 2010 – yet those deals account for only about 38 per cent of the international fee pool


Global banks and local brokerages
Back in 2005, following years of falling stock prices, mismanagement and outright fraud, most of China’s domestic brokerages and securities companies were bankrupt – and global investment banks were seen as potential partners to help turn the industry around, writes Jamil Anderlini.

Virtually every big name from Wall Street and Europe entered negotiations to bail out a Chinese brokerage and take a stake in it.

They hoped that, if they did so, they would be allowed to service mainland companies and retail investors inside the country, giving them access to a market from which official restrictions would otherwise have barred them.

They hoped, too, that such a move would enable them to put more bankers on the ground and thus capture a bigger share of Chinese companies’ initial public offerings in Hong Kong, the natural home of flotations in such businesses at the time. It also offered another useful regional springboard for international business.

In the end, only Goldman Sachs and UBS managed to secure full licences to operate domestically, although Morgan Stanley retained a 34 per cent stake in China International Capital Corporation, one of the country’s leading investment banks.

It was a short-lived opportunity. By late 2007 the benchmark Shanghai Composite Chinese stock index had jumped fourfold in barely two years. The fortunes of many of the bankrupt brokerages had been revived. And the government had imposed a freeze on all investments by foreign banks.
A number of approvals for international banks to take stakes in Chinese counterparts have been stuck with regulators for many months, and most of those joint ventures are likely to have their business scope limited to certain types of transactions.

“We used to really worship the foreign banks and think they were so far ahead of us,” said one seasoned Chinese banker. “After the financial crisis, we don’t look up to them any more.”

2,168 Posts
Discussion Starter · #2 ·
Personally I don't have much sympathy for the investment banks. This shows that IPO commissions in a COMPETITIVE market should be between 0.75 and 1 per cent.

It also demonstrates that a competitive market doesn't exist for M&A advisors in the US/UK as investment banks are charging abnormally high fees of between 5 and 7 per cent in America and about 3-4.5 per cent in the UK
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