Three years ago, Madrid’s Bolsa had a daily trading volume of 30 million shares. By 1996 the figure was 70 million. In 1997 daily volume reached 90 million. When a stock market develops that fast there are bound to be worries about what is underlying the growth in liquidity. But the Madrid exchange has passed an important test. Only two weeks after last October’s worldwide equity crash, its index recuperated all its losses. It is clear that the value in Spanish equities is based on a sound economy. Consumer demand is growing. Exports continue to rise faster than imports. The government estimates that overall growth in 1997 will have been 3%, outstripping the average for the European Union. At the same time interest rates are low and inflation is being held to a respectable 1.9%.
Bankers claim the sizzling stock market has attracted new financial services companies. In fact, the list of firms has not changed much over the last 10 years. Merrill Lynch has had an office in Spain since the 1959 revolution in Cuba forced it to relocate. Goldman Sachs has been there since 1987, Morgan Stanley since 1986. Salomon Brothers has been in Madrid more than a decade. Paribas came in 1979.
The two-year equity bull run may not have been the siren song for newcomers everyone claims but it has prompted an increased commitment in personnel and capital from some established firms that are pursuing similar strategies across Europe. Had Spanish capital markets not developed so rapidly over the last two years, several of the now dominant players might not have invested so heavily in Madrid so soon. Now Spain is becoming a test market for the pan-European strategies developing among the top global banks. This is good news for Spanish companies, which are reaping the benefits of a new range of global banking and investment banking services. Pricing is highly competitive. For these companies’ bankers this means fighting harder for market share and focusing on a broader range of clients and services in order to justify their investments.
Three clear strategies have emerged. The first is to be a full-service domestic bank for domestic clients. The second is to offer global capital-raising capability and advisory services to Spanish multinationals. The third is to offer these to a broader range of Spanish companies, including mid-sized, as well as offering foreign clients investment services in Spain. Not surprisingly, the first category is filled by Spanish banks while the other two strategies are pursued by foreign commercial and investment banks.
“There are local and global competitors in this market,” says Fernando Gumuzio Iniques de Onzono, deputy general manager of Banco Central Hispano. “The bad thing is to be neither one nor the other. But there is room in the market for both types of players.”
At one end of the spectrum is a group of foreign banks that has decided to maintain a selective presence. Dominated by US investment banks, it includes Goldman Sachs, Morgan Stanley, Credit Suisse First Boston and, as a second tier, Salomon Brothers and Lehman Brothers. These firms are applying a global coverage strategy to Europe, focusing on the largest companies in any given market. Their focus has been on the top 30 Spanish companies such as oil and gas company Repsol, electricity utility Endesa and telecoms provider Telefonica.
“Our competitors are all the major US banks as well as SBC Warburg, Dresdner and UBS, all of which provide similar value-added services cross-border in Europe,” says Miguel Salis, director and co-head of Spanish investment banking at Salomon Brothers International. “Going forward, and once the privatization recedes, the focus will shift more to mid-cap companies.”
In research these firms use the sectoral approach, basing analysts in London to cover European industry groups. They have representative offices in Spain with small origination teams that usually divide their time between London and Madrid. Transaction specialists are based in London and flown in to advise on assignments that crop up in Madrid. Their strength is their global-placement capability, particularly their access to the US market. Their bread-and-butter business so far in Spain has come from the privatization of large state corporations. The banks compete among themselves to be global coordinators.
Although the big foreign firms all claim pre-eminence, the business seems to have been spread fairly evenly. All of them have been co-leads or global coordinators on a tranche of the big privatizations – Repsol, Endesa and Telefonica.
Goldman has lost two key executives in the past three years: Claudio Aguirre to Merrill Lynch and Emilio Saracho to Santander. This left executive director Juan del Rivero to hold the fort. Competitors say Goldman temporarily disappeared from the market but its recent showing has been so strong that the hiatus may have been more a result of strategic interest in only the top deals than evidence of attrition and therefore lack of coverage.
Goldman has advised on some of the larger mergers and acquisitions in the Spanish market, including Endesa’s bid for regional utility Sevillana and Banco Santander’s for First Fidelity. Goldman also seems to have developed a franchise among some of Spain’s wealthy family empires. It advised the Madrid-based March brothers on the sale of Banco Urquijo and is advising Alicia Koplowitz on the sale of her share of the holdings she amassed with her sister Eva.
Morgan Stanley may have something of a lead in privatization business. It was the global coordinator of the $4.8 billion privatization of Telefonica last February and was joint bookrunner of the telecoms company’s $600 million convertible-debt issue in July, the largest ever done for a Spanish corporation. It is a joint bookrunner of the US tranche and co-lead of the Asia Pacific tranche of the $5.1 billion Endesa privatization. It advised the Spanish government on the securitization of $5.6 billion in nuclear moratorium assets via a $1.7 billion bond issue and loan packages of $2.5 billion and $1.4 billion each. Most recently, Morgan Stanley has won the mandate for the final $1.6 billion privatization of Argentaria.
Salomon Brothers also has its share of privatization business. It is advising government agency Sepi on its sale of the leading potash company in Europe – Grupo Potassas – and advised the economics ministry on the valuation of Telefonica Internacional. Salomon also advised tobacco company Tabacalera on its acquisition of a US cigar company and Banco Bilbao Vizcaya (BBV) on its acquisition of Banco Ganadero in Colombia.
Credit Suisse First Boston has done a lot of M&A advisory business in Spain. It advised Tabacalera on its $770 million sale of subsidiary Intavex, the world’s third-largest tobacco-trading company. The firm has also advised several Spanish clients on Latin American acquisitions, including Repsol’s acquisition of Astra in Argentina, and Endesa’s attempted takeover of Argentine gas company Bridas.
These banks rode the wave of privatization that fuelled a large part of the growth in the stock market as the Aznar government raised cash to pay off government debt. But the last big privatizations should be completed this year, with the final tranches of Argentaria, Endesa and Tabacalera hitting the market. Banks that have been big in this business are beginning to take an interest in clients slightly further down the scale, but not too much further. “We’re not worried about privatizations drying up,” says a representative of Morgan Stanley. “It’s true that the government has pushed so hard on privatization that there are less and less companies to be privatized. The important thing is that these companies now have access to the international capital markets.”
Credit Suisse First Boston’s managing director in Spain, Antonio Rodriguez Pina, sees tremendous opportunity in the post-privatization environment. “Once all the large companies are fully deregulated and privatized,” he says, “M&A advisory will take off in Spain. There will be acquisitions in electrical utilities, banking and telecommunications.”
Even if this is so there is some question whether such deals will offer spreads attractive enough for the likes of Goldman Sachs and Morgan Stanley. Morgan Stanley’s fee on the Argentaria tranche is only 1.75%, a new low for Spain and the rest of Europe. Considering that the fee for Banco di Roma’s $3 billion privatization is 3.7%, globally oriented bankers are frustrated by what is going on in Spain.
“Spreads have fallen steadily since three years ago when you could get 3.5% to 3.75% for being a global coordinator,” gripes one US investment banker in Spain. “A year ago you could still get 3%, then Repsol was done at 2.5%, and the last Endesa deal at 1.95%. We’re all worried about this trend. People can’t be making money on these deals.”
Bankers claim the service that clients are getting is hurt as a result. On the final privatization of retailer Aldeasa, a $300 million deal for which SBC Warburg reputedly received a 2.1% fee, the government had to retain a 3% stake. “The company was a good story,” says one foreign banker who did not participate in the deal. “But the syndicate was weak. Warburgs was the only big name in it. They couldn’t afford to pay for a decent syndicate.”
Nor are spreads narrow only on privatizations. Spanish debt and equity markets have the tightest commission structures in Europe. Many foreign bankers doubt that Spain’s top-30 companies can create sufficient business at the right spreads for the cherry-picking banks to survive on. They are pursuing a different strategy.
The second group of foreigners competes with the rep-office crowd, but its strategy has a lot more local depth. It is epitomized by Merrill Lynch, which made history in the Spanish market in 1996 by buying outright local broker FG Inversores Bursatiles. Merrill now has a significant investment in personnel covering debt and equity markets based in Spain. It has analysts in London who do sectoral coverage of Europe and a team of local analysts who cover Spanish companies. It offers its clients all the services of a global, full-service investment bank but is committed to offering these services to mid-cap companies as well as the top 30. Foreign bankers pursuing this more local strategy believe there is a gold mine of mid-caps that will come to market over the next few years.
“We call it a ‘glocal’ strategy,” says Claudio Aguirre, president of Merrill Lynch Capital Markets Espana. “When I left Goldman Sachs in 1994 I was attracted to Merrill because we shared the same vision. I felt it was important to go local in key markets in Europe. It is critical in Spain where there are very few multinational companies. There are only 35 companies in Spain with revenues of more than $1 billion. But there are a lot of family-owned companies and private wealth. Only 20% of Spain’s top 500 companies are listed on the stock exchange.”
Jose Antonio Garay, president of Chase Manhattan Bank in Madrid, agrees with Aguirre. “Medium-sized Spanish companies will play a major role in the unified European market, and a wholesale banking structure will not capture them.”
Many commercial banks, and most of the European banks, have been following the Merrill strategy for years. SBC Warburg, Paribas, ABN Amro, Union Bank of Switzerland, JP Morgan and Société Générale among others fit into this group. They tie their services more or less to commercial lending and go after even smaller-sized business, depending on the institution. Like Merrill Lynch, which has separate subsidiaries for these activities, asset management and private banking are key segments of their Spanish business.
Aguirre sees growth in private banking as Merrill’s number-one priority in Spain. It has 70 people dedicated to this business in Merrill Lynch Espanola Agencia de Valores, whose president is Miguel Matossian. Merrill has well over $1 billion in funds under management from private individuals in Spain. There is a lot of competition in this business. Union Bank of Switzerland has $3 billion in assets under management in its private-banking group. JP Morgan is focused on private banking, as is Chase. ABN Amro has 300 private-banking clients. Paribas is also very active in this area.
Another area where the full-service foreign banks hold sway is fund management for institutional clients. “Asset management is probably the most attractive business in Spain over the last three years,” says Chase’s Garay. Part of the growth springs from a sudden shift in values between the debt and equity markets, he says. Spanish stocks now offer a more attractive investment than ever before. Formerly a fixed-income investment would offer a government credit with a 13% or 14% return. With fixed-income rates now puttering along at 5% and 6%, the 20% and 30% returns available on the stock exchange are hard to pass up.
Institutional investors in Spain are now dramatically increasing the proportions of their portfolios invested in equities. The average institutional portfolio used to have no more than 6% of its assets in equities, by far the largest part of investment being in government bonds. The equity proportion is now creeping up towards 10% and equity salespeople are convinced it will continue to grow slowly. With Spanish banks having excess liquidity, interest rates are not likely to rise in the near future, keeping institutional investors focused on ways to improve returns. The number of corporate pension funds is also increasing because of a change in Spanish law. As a result, investment funds have more than doubled in the last year.
Chase has $1 billion in funds under management and manages 17 different funds, including equity, fixed income and foreign exchange. Merrill Lynch Asset Management Espana, which now incorporates some funds from Mercury Asset Management as well as FG Gestion, has 21 funds via FG alone and close to $1 billion in funds under management in institutional assets from the combined entity. It is a priority growth area for Merrill. JP Morgan has $1.5 billion in funds under management. Paribas offers international asset management for Spanish clients, as well as managing two special funds for Spain and Portugal.
Pursuing the mid-caps
In capital markets, Merrill is up there with Morgan Stanley and Goldman Sachs for the big deals. Merrill was the sole global coordinator for the $5 billion privatization of Endesa. It advised Banco Santander on the $700 million IPO of Latina American subsidiary Banco Rio. But in the past two years, the focus has been on penetrating the mid-cap and family-owned market, as seen in the international tranche of the Pta11 billion ($44 million) IPO of Telepizza and the $500 million IPO of construction company ACS. Competitors assert that despite its claims to local service, Merrill is still interested in a fairly narrow band of clients and that the market share of FG Inversores declined after the Merrill acquisition. This may reflect a targeted approach to its client base, particularly if Merrill is seeking to expand in private banking.
Nor is Merrill the only one from this group with clients among the Spanish multinationals. JP Morgan has advised Telefonica, BBV, Repsol and Endesa on Latin American acquisitions. UBS was a joint bookrunner on the Telefonica convertible. Chase was a co-arranger of the loans on the nuclear moratorium securitization.
Led by the top four commercial banks – BBV, Banco Santander, Banco Central Hispano (BCH) and Argentaria, which all have investment-banking operations – the domestic players seek to serve their strong base of domestic clients with a broad range of services. Their strength lies in the longevity of their relationships and the size of their local branch networks. Most of their investment-banking business is in Spain but they also have a particular strength in Latin America. Of this group, Santander Investments, the investment banking activity of Banco Santander, is the most like its foreign competition.
“By name we are an investment bank,” observes Emilio Osuna Heredia, executive director in Santander’s treasury area. “We are different from BBV and BCH in that we are more of a global investment bank. We look sort of like Bankers Trust did 10 years ago, not a niche player, but not fully global either.” Santander perceives Merrill Lynch to be its major competitor.
Rather than separating their investment banking from their commercial banking as Santander and Argentaria have done, BBV and BCH use a more integrated approach. At BCH, a relationship manager handles the clients for all corporate services, including traditional lending. This key person pulls in execution specialists as needed. BBV’s operation runs more or less the same way.
“We are more relationship-oriented,” says Gumuzio of BCH’s investment banking services. “We want to be there for all the critical events in a corporation’s life – from its initial bank funding to its IPO.” In contrast to BBV and BCH, Santander is perceived in the market as being more transaction-oriented.
The range of services has increased as the local institutions defend their relationships from poaching by foreign competitors. Each has had a presence in the large privatizations (Endesa, Telefonica and steel company Aceralia), placing the domestic tranches. The government’s approach to these asset sales has been to use one or two domestic banks for local distribution and one or two foreign banks as global coordinators on each deal. Viewing their pricing and services as roughly comparable, the government has rotated its use of the top-four domestic banks on these deals. The foreign ones are chosen according to price.
In IPOs, the competition is more influenced by relationships. BCH and Argentaria placed the domestic tranche of the $350 million IPO of hotel group Grupo Sol, the largest IPO of a family-owned company in Spain to date. Union Bank of Switzerland placed the foreign tranche. BBV placed the domestic side of Telepizza’s IPO, Merrill Lynch taking the global role. BCH handled the IPO of beverage company Adolfo Dominguez.
These top banks are also the key players in the bond market, which is dominated by government issues. Here some of the largest of the cajas, the Spanish equivalents of building societies or savings & loans, such as La Caixa and Caja Madrid, also have a significant market share buoyed by their retail networks. The top-four commercial banks are important in the matador market (peseta-denominated bonds issued by foreign issuers) with Santander on top for the past four years.
Bread and butter
In addition to the banks, there is a group of Spanish brokerages that concentrates on retail. Several of these have a large investment from a foreign partner. The largest broker in terms of capital, with Pta125 billion, is AB Asesores Bursatiles, which has a 30% financial investment from AIG. Beta Capital (30% owned by MeesPierson) and Eurosafei – two of the better-known competitors in this group – have capital bases in the Pta70 billion to Pta80 billion range. Size does not necessarily designate market share, because far smaller Benito y Monjardin, with a capital base of Pta2.4 billion, ranked above these others in market share late last year. All these brokers have their own research teams and funds under management which include equity funds, fixed-income funds and mixed funds. Although they service institutional clients, retail is their bread and butter. “We are more at risk to lose our institutional clients to the global players,” says Ignacio Garralda, vice-president at AB Asesores. “But we’ve got a retail network of 35 offices in Spain.”
The retail market is relatively untapped so far as investment in capital markets instruments is concerned. But retail investors are beginning to take a more active role in the stock market, in part spurred by retail banks offering mutual fund alternatives to interest-bearing accounts. Mutual funds are tax-free for the first two years and then only liable for capital gains at a 20% rate. The inherent attraction of such an investment has led to a proliferation of Spanish equity funds aimed at retail investors.
Educating this group of investors could be big business in Spain and it is the local brokers that are positioned to do it. “I’m not worried about Merrill Lynch,” says Pedro Monjardin of Benito y Monjardin. “They’ve got a big, expensive structure to support and they’ll have to go after the upper echelon of clients to do it. They won’t go to little towns in provinces like Murcia. The big Spanish banks have the network but their branch guys don’t have the capital markets expertise. They’re only used to selling big company names like Endesa or mutual funds.”
Benito y Monjardin has used a retail strategy to turn the company around in the past few years in a painstaking process that required writing off some underwriting losses and reducing staff – a very costly process in Spain. Having streamlined, its return on equity for the nine months ending in the third quarter of 1997 was 29%, far higher than that of Merrill Lynch. Nonetheless, the capital required to support a Spanish retail network may require foreign investment for these smaller players. “It’s not normal to have a firm with 70% of the equity concentrated in one hand,” observes Monjardin of his father’s shareholding in the firm.
It may not be that hard to sell off an equity broker. Several of the foreign banks are in expansion mode, among them Chase Manhattan, which is looking to make an acquisition in Spain. Merrill has 125 people in Madrid in capital markets and over the next three to four years expects to open offices in the three other important commercial cities in Spain – Barcelona, Valencia and Bilbao.
This expansion is predicated on continued growth in equities, as Spanish investors bring the proportion of their portfolios invested in equities much closer to the European norm. Supplying Spanish clients with international equities is a business that will grow once Emu eliminates currency risk and European equities move toward trading solely on credit, as they do in the US.
But the excitement in Spain’s capital markets is not limited to equity. The Spanish fixed-income market has potential waiting to be exploited. Medium-sized (around $174 billion including treasury bills), it is dominated by government issues. Aside from the federal government, the main issuers are state and municipal governments. Then comes a small amount of paper regularly issued by the banks. This market will develop in many directions over the next few years, say bankers. Many see the bond market opening up for corporations, particularly as their names become known in the equity market. In a borderless Europe, Spanish companies should offer highly competitive credits.
Another spur to the bond markets could be leveraged buy-outs. “LBOs will be part of the market evolution because of interest rates,” says Victor Arbulu, managing director and general manager of JP Morgan Spain and Portugal. JP Morgan has already done two this year in the $15 million to $20 million range.
Securitization and project financing will also help the bond market to develop. Legislation is now pending to legalize securitization of all types of assets. It could go through in anything between two months and two years, depending on who you ask. There have been some mortgage-backed issues by the banks, but this market could become much more important for lending institutions and other corporate credits competing for capital cross-border. To date, project financing in Spain has generally been the province of the banks. As municipalities become more ambitious in their infrastructure plans and investment capital becomes available from the rest of Europe, this could be a type of financing that taps the bond markets.
Clearly the more locally oriented strategies will be in a better position to tap a lot of this growth but whether that business can be profitable enough to sustain as many players as are currently serving the Spanish market remains to be seen. In a few years the map of Spain and the map of Europe may look very different when it comes to the top investment banks.
