CITIC / CLSA merger comments (APAC-Related)

For anyone interested in the APAC market, a headhunter sent around some comments after the CITIC/CLSA news that was an interesting read:

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This continues the long and slowly unfolding transformation of the old 'British brokers' that rose to prominence in Asia during the 1990's. One time leaders like Barings (now Macquarie), JF (now JPM), WI Carr (deceased ~ a decade ago) and Smith New Court (now BAML) have long since passed into history, but CLSA's 'punchy' persona has survived throughout this period – and most would hope that this transaction does not lead to the loss of the very element which makes it so relevant. Ultimately with CLSA, we believe competitors will focus on a couple of things:

1) Will the culture change?

2) Will CLSA's staff remain loyal?

3) Does this make them a more (or less) potent competitor?

Inevitably the culture will change – it always does – but in the near term it is unlikely to change much, given that there are unlikely to be aggressive bids for their staff (or anyone else's) in this environment, and at least initially, the CLSA management will carry on. That said, like many firms, there is a small coterie of senior managers/producers at CLSA who ultimately have to decide if they 'carry on', retire, or seek out a new challenge externally. While there has been little discussion of major retention packages – at least not of the style made when Nomura acquired Lehman – the more important driver will be whether staff still believe the CLSA/Citic platform continues to be a great place to build a career – and get paid doing so. So, in the near term, will the culture change – yes, marginally, but not likely dramatically. We'd also believe, in the near term, that most staff will remain loyal. But will they be more competitive? We'd argue that at a minimum, it will not be less competitive. The combined entity will have one of the premier franchises in China – and a premier pan-Asian distribution network – a feat few of the bulges have nailed. Yes, there will be execution, strategy and cultural issues to work through, but after well over two years of being 'pregnant' with this deal, the uncertainty is now over and we'll all look forward to seeing how it will play out.

In a world where the ranks of Asia's bulge bracket brokers (BAML, Citi, CLSA, CS, DB, GS, JPM, Macquarie, MS, Nomura & UBS) have largely remained unchanged (bar Mac's purchase of ING, and Nomura's acquisition of LEH) one can probably look at the last decade as a period of 'incremental' change. The key question the industry seems to face is that, here we sit in mid-2012 and the past year has seen a dramatic transformation of prospects for IBs in Asia. Clearly the second tier (BARC, BNP, Daiwa, HSBC, JEF, STAN) all have hopes of breaking into the bulge – but the real crux of the next year is more likely to focus on the gamesmanship between the bulge bracket banks as tough markets and an evolving industry weigh on their current structures and profitability. If one looks at all the legs on an Equities business in Asia (sales, trading, research, ECM, EQD, Algo/DMA, Prime, etc) its pretty apparent that the buyside does not often need 10 or more full blown platforms in each segment. Or, as one Bulge HOE responded to me a month ago, when I asked, "Should we really have 10-11 full scale DMA/Algo platforms in the market, given that CS dominates this space, and #'s 8,9 &10 cannot possibly be making money?" His response was pretty candid… "It may be an even bigger and more relevant question for #'s 4, 5 & 6."

So, while personnel changes in recent years have been most apparent in the second tier, the bulges are still focused on their primary competitors – the other bulges. More tellingly, there is also a bit of gamesmanship occurring at the moment, in that 'no one wants to blink first.' Clearly a number of bulge players in a number of segments know they are overstaffed, given the current environment. But, cutting is not easy – as, in the short term there is the reputational fallout and the fact that they would be ceding share to their peers – and in the long term, if the market bounces, they will look like 'idiots' and equally, will then have to go and recruit staff at a premium in a thin market. Within this mix, CLSA is a very relevant competitor – but one that today is still primarily a top contender to its peers in Cash. That won't change with the Citic marriage, bar the fact that it likely would become more relevant with respect to Chinese IPOs. So, in our view, CLSA/Citic will likely remain the 'standout' in the bulges – from the perspective that it is still primarily a 'broker' – rather than an amorphous universal bank.

The other angle, many in our industry may somewhat overlook, is what impact this transaction may have on PRC firms with respect to their overseas ambitions in IB and equities businesses. We have seen the once prominent CICC fade from dominance on the PRC IPO front, as the major SOEs have now been listed and its connections to top level politicians wane. All the major Chinese banks have tried to build their equities and IB businesses in HK – but little if anything beyond HK – and as yet, are no serious threat to the bulges. And, while ~10 additional PRC brokers are active in some capacity in HK, few compete outside of basic cash equities – and these in sum probably have well less than $100m in secondary cash equities revenues. Hence, while in recent years there has been lots of talk about Chinese firms 'taking on the world' – the brokers are far too small to do any major deal – and while the banks have the balance sheets, and presumably the ability to fund a deal, today they still have very limited experience in IB or in equities.

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