BB&T and SunTrust Merger in context to the state of European Banks!

[schin]

Last week, BB&T purchased SunTrust Bank for $24.28B. The new combined entity would have a $66B market cap and eventually make it the sixth largest bank in the US at $442 B in assets,  $301 billion in loans, and $324 billion in deposits.

 

At $24B, it's the price you have to pay to keep up with the JP Morgans ($354.5B market cap), Bank of America ($285B), Wells Fargos ($228B) and Citigroup ($154B) of the world in terms of IT, marketing, and balance sheet clout.  That said, I think it's the right thing to do.

 

But, hypothetically, what could they really buy with $24B?

 

* BB&T could purchase Deutsche Bank ($18B) and still have change left over for a partial takeover of Commerzbank ($9B). In essence, allowing BB&T to own the whole Germany market and making it one of the largest banks in Europe and World.

* BB&T could purchase Society Generale at $23B.

* BB&T could purchase Standard Chartered PLC at $20B.

* BB&T could purchase Unicredit SPA at $25B. (what is an extra billion among friends?)

 

With $24B, you can see the presence/influence BB&T could have purchased in Germany, France, UK and Italy, respectively. The list could go on, but, $24B still goes a long way. The political climate probably would not lend itself to transatlantic mergers. But, there is precedent with Barclays buying the core of Lehman Brothers. 

 

Let's look at BB&T and SunTrust's post-merger market cap of $66B.

 

* BB&T and SunTrust would be twice the market cap of Credit Suisse ($30B).

* BB&T and SunTrust would be twice the market cap of The Royal Bank of Scotland Group PLC ($31B).

* BB&T and SunTrust would be slightly under twice the market cap of Barclays ($35B).

* BB&T and SunTrust would be larger than BNP Paribas SA, the largest bank in France at $61B.

* BB&T and SunTrust would be 2/3 larger than UBS Group AG ($46B).

 

Outside of Greece, Italy, and Spain, most EU banks are getting better. In time, the ECB will raise rates, but in the meantime, there are great bargains to be had in European. You can get a top-tier bank below tangible book value. That is unheard of most times in history. I present this to show the relative valuations of European banks and how many are overlooking them. 

 

For the JP Morgan and Bank of America's out there, it would just a 10% of their market cap. Or US Bank or other regional banks can become a "Super Regionals" -- e.g. global bank, if they really wanted to.

[DooDiligence]

Knee jerk reaction from someone who doesn't know squat about banks but has a fair understanding of what happened in 2008.

 

I'd hate to see world banking further consolidated.

[Cigarbutt]

Knee jerk reaction from someone who doesn't know squat about banks but has a fair understanding of what happened in 2008.

 

I'd hate to see world banking further consolidated.

https://www.the-american-interest.com/2019/02/25/bigger-fewer-riskier-the-evolution-of-u-s-banking-since-1950/

Reference suggested by someone who knows nothing and who also feels that the biggest financial innovation is the ATM because i don't mind the heat.

[DooDiligence]

Knee jerk reaction from someone who doesn't know squat about banks but has a fair understanding of what happened in 2008.

 

I'd hate to see world banking further consolidated.

https://www.the-american-interest.com/2019/02/25/bigger-fewer-riskier-the-evolution-of-u-s-banking-since-1950/

Reference suggested by someone who knows nothing and who also feels that the biggest financial innovation is the ATM because i don't mind the heat.

 

It's (almost) always sunny in NW Florida  ;D

for those who enjoy heat, and I do.

 

I reference the following Tweet to explain my aberrant behavior.

 

[schin]

Knee jerk reaction from someone who doesn't know squat about banks but has a fair understanding of what happened in 2008.

 

I'd hate to see world banking further consolidated.

https://www.the-american-interest.com/2019/02/25/bigger-fewer-riskier-the-evolution-of-u-s-banking-since-1950/

Reference suggested by someone who knows nothing and who also feels that the biggest financial innovation is the ATM because i don't mind the heat.

 

Interesting article. In the US, there is probably too much consolidation and power is too centralized. We're probably blessed to have Jamie Dimon and Brian Moyihan at the helm of these JPM and BAC. They're the right people for the time and prudent about risk. Under less cautious CEOs driving the car with this much "horsepower", we could run the economy off the road quick. Case in point, the GoldenWest, BearStearns, LehmanBros, AIG CEOs, etc.

 

In terms of Europe, they are overbanked.... they need consolidation... Too overbooked and really needs their own Jaime Dimon over there... Possibly, Jes Staley that comes from a JPM pedigree.... I really like the UBS CEO and Chairman pair... and I like Christian Sewing. He has the Brian Moyahan feel to DB.

 

http://thecorner.eu/world-economy/overbanking-too-much-banking-or-too-many-banks/70189/

 

 

[CorpRaider]

Do you think the DB CEO will be allowed to actually undertake actions he deems required?  Do you think a foreign buyer would?

[schin]

Do you think the DB CEO will be allowed to actually undertake actions he deems required?  Do you think a foreign buyer would?

 

I actually like what Christian Sewing (DB CEO) has been doing.  The parallels between him and Brian Moyihan and the hands they were dealt with are uncannily similar. He promised cost reductions and he has delivered. The market does not like the reduction in top line growth (revenue), but it generated a small profit last year.  At stable revenues of $24-$25B, he had costs of $23B. It's roughly a $1B profit. Not great, but at least not a loss. 

 

This year (2019), they will reduce costs by another $1B.. so, if he can keep stable at $24B Revenue and $22B in cost, he's at a $2B profit.. They have announced that their cost steady state is $21.6B in 2020. He would book a $3B profit there. Again, this is counting no growth or limited growth.

 

The bear case is the revenue comes down further than cost reductions. As I see it, they are going back to being a retail/wholesale bank and getting out of IB. Essentially, they are morphing into a credit union or S&L... which is generally a safer profile and business model.  Boring... boring.. boring.. they are not investing in anything like cryptocurrency or IB or opening new markets. They're just trying to get lean and efficient.... which is what a bank should do. This is the blueprint and it's essentially what US banks did.

 

https://www.bain.com/insights/battle-of-the-banks-the-fight-for-profitable-business-models-in-europe/

 

Again, this is all without a takeover. This is as a stand-alone entity. Maybe, a recession happens, but I always like companies trying to be disciplined in their costs.  Also, it doesn't take a rocket scientist to know that this cost discipline doesn't work if revenues come down. Everyone at DB is looking at maintain or stopping revenue from going below $23B.

 

DB is a G-SIB at $18B... I mean... just having that namesake of being a bulge bracket bank with a long 100+ year history is worth it... It's a great pedigree to have, if you can buy into it (Chinese bank or US bank) But, it's probably too political.... but, at this price, it's as steal...If you look at the number above, that would be a great private equity play... if you wanted to do a LBO.... nothing flashy, just doing a revenue minus cost and of course, they get the cheapest permanent capital in the world from ECB.. for too big to fail.

[rb]

All those European banks you mentioned have HUGE balance sheets that are all big dumpster fires. So if you're BB&T sure you may have enough equity to buy their equity. But do you have the capital to fight/contain the dumpster fires? That's a no.

 

I don't think this was a great move because SunTrust is quite a basket case as well. But it's small enough that maybe you can deal with the fire because it's more of a sidewalk trash can instead of a toxic waste dump.

[schin]

All those European banks you mentioned have HUGE balance sheets that are all big dumpster fires. So if you're BB&T sure you may have enough equity to buy their equity. But do you have the capital to fight/contain the dumpster fires? That's a no.

 

I don't think this was a great move because SunTrust is quite a basket case as well. But it's small enough that maybe you can deal with the fire because it's more of a sidewalk trash can instead of a toxic waste dump.

 

Yes, all those EU banks do have large balance sheets. They are too big to fail and why they have G-SIB designation. The IMF and every country knows we're all tied together and connected like dominoes.  What is your definition of a dumpster fire - but it's  contained? A bank does not fight a dumpster fire alone... You use the Fed/ECB to help you with it.... WFC, JPM, and BAC would never have made those investments in Bear Stearn, Wachovia, Washington Mutual without some Fed support to control the "dumpster fire".

 

https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX:52018DC0766R(01)

 

If you look at the latest report above, NPLs are getting resolved. Italy and Spain are still problems, but much like BAC and C -- you just need time for banks/countries to let the bad loans get replaced with good loans. Have private equity take toxic assets and put them into servicing (i.e. play the mob to recover as much as possible)  That's just how it goes.. Let the bad loans season out after you take the lost, then, you get good credit quality loans on their balance sheet. US did it, just taking EU banks longer... that's just how the banking cycle goes... it blows up every decade and you find religion and the beat goes on. If you look at the statistics, the asset quality is getting better. The taxpayers there are paying for it... in time, they will forget.... and banks will start trading at book value.. just how it goes. If you look at Italy and Greece, they don't like austerity, but the EU/ECB has forced them to balance their budgets. Not popular amongst retirees, but they are being fiscally responsible.

 

You can read the BAC and C threads, all the doubt and balance sheet concerns and argument are all there. History doesn't repeat itself, but it sure rhymes.

 

In terms on consolidation for SunTrust... it's probably a dumb move and the synergies are probably overestimated, but it's kingdom build.. Let's call it for what it is.  I would say they would have gotten more value by buying EU banks at 50% below tangible book and let it season out. Versus paying above TBV for an US bank.

 

Economies do not like monopolies and duopolies, but they also hate too much competition.... so, they're just normalizing into an oligopoly situation like airlines and railroads.... too little is bad, too much is bad.... But, in terms of Europe, there is definitely too much banking. US probably is probably too little banking competition.

[schin]

Along with the NPL report from the ECB... you can see the the CDS on BNP, Deutsche Bank, Commerzbank and other EU banks are decreasing....

 

https://www.boursorama.com/cours/cds/3xDB/

https://www.boursorama.com/cours/cds/3xBNP/

https://www.boursorama.com/cours/cds/3xCMZB/

 

So, the dumpster fire seems to be simmering down....

[rb]

You hit some good points. But some of them tell you why such mergers are no gos. For example they would be no gos from a political perspective. Yea governments and central banks may impose pain and provide support to the banking system. But if they're doing all the heavy lifting why would they let the benefits accrue to an American bank?

 

Furthermore I think your view of balance sheet quality may be too academic. Yea sure, the bad assets run off and get replaced by good assets. But we're 11 years from the gfc and their assets still really suck. The process may take way too long, if it really gets there at all. Then there's the derivative books of some of these banks.... oh boy!

 

On top of all of that you have existential risks related to the EU. Personally I don't think anything will happen to the EU. But it is a non-zero risk. If it happens you have a bunch of banks with assets in Liras and liabilities in Deutch Marks and Guilders. That's insta-bankruptcy.

 

There's also the practical matter of size not just financial consideration. The US deals you've mentioned were all larger banks eating up smaller ones. In the case of BB&T trying to eat up an Unicredit or a SocGen would be akin to a dolphin trying to polish off a blue whale. At best it will get a bad case of indigestion. At worst it would be completely ripped apart by the bigger entity. Think Phibro and their acquisition of Salomon Brothers. It didn't work out very well for Phibro.

[schin]

Much like the US would not certain companies (IT and banks) to Chinese companies... there is an aspect of protectionism going on. So, I doubt an US bank can take over DB or Barclay. I do find it interesting that Barclays purchased most of Lehman Brothers during the GFC.

 

That said, I don't think merging DB with Commerzbank would the worst idea out there. I don't think merging UBS with DB would be bad either. If you look at ECB/EU literature, they do admit to be overbanked and consolidation is happening, but slowly. I think their consolidate in EU banks will happen quicker once their IT systems are updated. They were way under-invested in... so, once you have a modernized system with true risk management, merging is a matter of moving assets... and firing people. Now, it's a moving target of firing people, figuring out which IT system is the best (all of which are Window 95, Cobol based systems... so, they is a huge investment that they need to make).. but, if you take the baseline IT out of the way, it is literally moving bits and bytes.

 

I will accept that some of their balance sheet has subpar assets, but if you look at all EU banks.. they are all making decent profits holding these crappy assets.. because they marked it down in prior quarters.. so, whatever the case may be, they are marked to market or already sold. Much like BAC and C, they sold off all their non-core (subprime, small market) assets. That alone takes risk off the table and reduces management effort on "shiny things".

 

As for your EU existential risk, it is non-zero.. but, gain, when the USSR broke up.... there is a disruption and markets are created and adjusted. I would be surprised that 20 years later, the EU is so unscalable that they need to build walls. The EU reduced trade and travel restrictions.... adding them back would add needless friction.  We will see with Brexit. We might rally once that is over with.

 

From asset size, BB&T should never be able to buy a SocGen or Unicredit.. but, based upon market cap, it can.. that's is how crazy this world is.... It would be like a dolphin eating a whale.. but, do you know what.. If BB&T just made a SocGen a wholly owned entity and not try to integrate it into one system, it would be a great investment.... one bank buying another at 50% below TBV... that's a great acquisition...  BNP actually owns Bank of Hawaii... It is almost like DB owning DB of Mexico... or DB of Poland (Which they are divesting).... but, any bank buying another bank at 50% below TBV is not a bad thing.. DB, Commerzbank, BNP can generate 5-10% ROIC as a going entity is not the worst thing one can do.

 

[Rasputin]

I just quickly looked at the 3 banks you mentioned, Deutsche Bank, Commerzbank, BNP Paribas.

 

They are not adequately capitalized when I use US rules.  Forget their CET1 ratios, their RWAs are fake.  Look at their leverage ratios, all under 5% non stressed (4.1% for DB, 4.8% for Commerzbank, 4.5% for BNP Paribas). 

 

In the US, minimum is 5%, and 3% minimum stressed. 

 

Comparable US banks leverage ratio: WFC 7.7%, JPM 6.4%, BAC 6.77%, C 6.68%

Min stressed leverage ratio from 2018 CCAR results (after dividend and share repurchase): 

WFC 4.5%, JPM  3.2%, BAC 3.6%, C 3.4%

[schin]

I just quickly looked at the 3 banks you mentioned, Deutsche Bank, Commerzbank, BNP Paribas.

 

They are not adequately capitalized when I use US rules.  Forget their CET1 ratios, their RWAs are fake.  Look at their leverage ratios, all under 5% non stressed (4.1% for DB, 4.8% for Commerzbank, 4.5% for BNP Paribas). 

 

In the US, minimum is 5%, and 3% minimum stressed. 

 

Comparable US banks leverage ratio: WFC 7.7%, JPM 6.4%, BAC 6.77%, C 6.68%

Min stressed leverage ratio from 2018 CCAR results (after dividend and share repurchase): 

WFC 4.5%, JPM  3.2%, BAC 3.6%, C 3.4%

 

You cannot compare the US banks and their leverage ratio to the EU banks now. The EU banks are like 2-3 years behind, but trending up because the ECB/EU are forcing them to get healthy to support the EU economy. 

 

The leverage ratio discrepancy is reflected in their relative market caps. JPM, BAC, WFC, C's market cap is 3x-10x as much as the EU banks. I am saying that differential is too high between EU/US banks.

 

BB&T or SunTrust should not be roughly the same market cap as SocGen, Barclays, etc.

[Spos]

I just quickly looked at the 3 banks you mentioned, Deutsche Bank, Commerzbank, BNP Paribas.

 

They are not adequately capitalized when I use US rules.  Forget their CET1 ratios, their RWAs are fake.  Look at their leverage ratios, all under 5% non stressed (4.1% for DB, 4.8% for Commerzbank, 4.5% for BNP Paribas). 

 

In the US, minimum is 5%, and 3% minimum stressed. 

 

Comparable US banks leverage ratio: WFC 7.7%, JPM 6.4%, BAC 6.77%, C 6.68%

Min stressed leverage ratio from 2018 CCAR results (after dividend and share repurchase): 

WFC 4.5%, JPM  3.2%, BAC 3.6%, C 3.4%

 

One thing to consider is the accounting for derivatives.  In IFRS, the banks have to put gross derivatives assets on the balance sheet (with an offsetting liability), while in US GAAP they just put net amount.  This can make a big difference in the leverage ratio.

[Rasputin]

https://www.davispolk.com/files/Davis_Polk_-_Visual_Comparison_Chart_-_U.S._Supplementary_Leverage_Ratio_SLR_vs._Basel_III_Leverage_Ratio.pdf

 

It seems that even though US GAAP allows netting, for the purpose of calculating the denominator for SLR, unless certain criterias are met, GSIBs must reverse the netting.  Point 2 in that presentation (page 4 through 10) seem to indicate similar treatment of derivatives for total exposure calculation.