A spate of landmark deals is helping the world's third-largest bank emerge as an investment banking powerhouse
It may be the world's third-largest bank, but HSBC Holdings has never made it into the big leagues of investment banking. Until now, that is. In recent months, HSBC's investment banking arm has been at the center of two of Europe's biggest-ever merger and acquisition deals.
In January the bank was tapped to advise Mittal Steel on its $43 billion hostile bid for France's Arcelor. A month later, HSBC was hired as the sole adviser to German utility company E.On on its $35 billion offer for Spanish rival Endesa. And on Mar. 6, HSBC announced it was helping Italian insurer Assicurazioni Generali raise $5 billion in debt to fund a major restructuring. "The advisory business has generated clear momentum that will continue in 2006 with such landmark deals," said HSBC Group Chairman Sir John Bond at March 6 press conference to announce 2005 results.
TAKING A CHANCE. The spate of recent deals may finally silence HSBC's rivals, who have long questioned its commitment to investment banking. Indeed, speculation had been mounting recently that HSBC was about to beat a retreat from its costly three-year effort to beef up the unit, which has lagged industry heavyweights such as Goldman Sachs (GS ) and Morgan Stanley. In the past, notoriously risk-averse HSBC never placed much emphasis on investment banking, fearing the increased volatility it could bring to earnings. What's more, the industry's big bonuses and even bigger egos seemed a poor match for the 140-year-old bank's collegial culture and tradition of Scottish thrift.
Yet three years ago, Bond decided to shift gears. He poached John Studzinski, a well-known rainmaker, from Morgan Stanley to co-head the corporate, investment banking, and markets (CIBM) division. Studzinski joined Stuart Gulliver, a long-time HSBC veteran who is credited with building the Asian capital markets business into a top regional player. Their mission: to capitalize on HSBC's gold-plated client roster, which includes the world's biggest companies and most of its governments.
Instead of competing head-to-head with the big boys, however, HSBC is targeting a select group of industries such as energy, oil, utilities, telecom, and financial services, where it already has significant corporate-banking relationships. "This is not an exercise in cold calling," says Gulliver. "This is about getting deeper and closer relationships with existing clients."
BALANCE SHEET BETS. So far, it seems to be working. The spate of recent deals has vaulted HSBC up the investment-league tables. HSBC is now ranked sixth in European mergers and acquisitions, up from 15th in 2005. Part of its success stems from the fact that the bank, like many of its rivals, now is using its balance sheet to clinch bigger M&A deals.
For instance, HSBC is putting up $15 billion to help finance E.On's bid for Endesa. The loan is a sign that the bank is increasingly prepared to take on more risk in order to win lucrative advisory roles. Of course, HSBC can easily afford it. On Mar. 6, the group declared an 11% increase in 2005 pretax profits, to $21 billion, the biggest ever for any British bank.
But even for the likes of HSBC, building up a credible investment bank costs big money. Over the past three years, the bank has spent heavily to lure away top talent from rivals. The CIBM division added 1,400 bankers in 2005 alone. Key senior hires, coupled with investment in technology, pushed up the division's costs by 18%, to $6.8 billion, and contributed to a 2% dip in profit, to $5.2 billion, last year. Now, Bond says the spending spree is at an end. "The investment phase is nearing completion, and the cost growth has slowed significantly, having peaked in 2005," Bond says.
Despite the fall in profit, the CIBM division remains one of HSBC's best-performing units. It's the bank's second-biggest profit driver, accounting for nearly one-quarter of the group's overall profits. One of the biggest challenges remains the U.S., where HSBC is attempting to build an advisory business from scratch. With a market capitalization in excess of $195 billion, HSBC could easily afford to buy its way into the market. But "taking over an investment bank is probably the riskiest thing we could do, which is why we don't do it," says Bond, who will retire in May. His successor, current group CEO Stephen Green, isn't likely to change tack.
CHINESE CLOUT. Globally, one of the driving forces behind HSBC's investment banking expansion has been China. The bank has been involved in three of the biggest initial public offerings in Chinese history, including the $2.2 billion flotation of Bank of Communications, the country's fifth-biggest bank. HSBC is also one of eight banks that has been invited to pitch for the upcoming $10 billion IPO of the Industrial & Commercial Bank of China.
To land these deals, HSBC has traded on its long history in China. The bank was founded 140 years ago to capitalize on the growing trade links between Europe and China. "On any given day I get one or two calls from clients who want to hire us to advise them in China," Studzinski says. Looks like Studzinski and his partner Gulliver are ready to retire their junior varsity jerseys.
FT.com, 6 March 2006
Sir John Bond likes to make it sound as if banking is full of thrills. While HSBC reported record 2005 profits and an encouraging short-term outlook, its group chairman also warned investors that it could all go wrong: "unprecedented" trade imbalances, demographic change and protectionism are among the threats facing the global financial markets.
HSBC's strong numbers, which beat analysts' estimates, included a lot of one-off gains, which helped compensate for the substantial negative impact of the flattening of the yield curve last year. Investors may worry that sustaining revenue growth may be tricky - particularly if lurking dangers emerge from the shadows.
The other way of reading these numbers, though, is that a large, global, diversified bank like HSBC is a pretty safe place to be. The bank has invested heavily in investment banking and says it is half-way through its five-year plan, with the bulk of investment already completed. Indeed, in recent months, there has been some gradual shedding of some expensive hires. Profits from corporate, investment banking and markets actually fell slightly last year, despite favourable market conditions. Net fee income from corporate finance, although higher than in 2004, dropped sharply from $124m in the first half to $87m in the second half of 2005. But, for a bank that made $21bn in pre-tax profits last year, the overall impact for shareholders is insignificant.
This helps explain the apparent lack of excitement over the stock, which has historically traded at a substantial premium to the European banking sector, but is currently roughly at a par with its peers for both 2006 and 2007, based on price/earnings valuations. Despite a strong capital base, there is no plan to give loads of cash back to shareholders. A safe haven in a dangerous world is not what investors are looking for - at the moment.
