Recent events in Italy’s banking industry – an alliance of two big banks, a sell-off of another and hints that staff cuts are in the wind – may appear revolutionary in a country where, traditionally, shareholder value has not been a prime consideration. But analysts argue that much greater rationalization is needed if the banks are to compete effectively in Europe.
The first ripple came in May when Banco Ambrosiano Veneto (Ambroveneto) and Cassa di Risparmio delle Provincie Lombarde (Cariplo) – Italy’s largest savings bank – agreed a strategic alliance to establish the country’s second largest banking group. At end-1996, the banks had combined assets of just over L250 billion ($148 billion). Moody’s and other analysts responded positively to this symbolic message; the US ratings agency noted the alliance had “the potential for significant commercial and cost benefits in the longer term [and] represents an important step in the ongoing consolidation taking place in the Italian banking sector.” Longer term, analysts agree the alliance represents the first step towards the privatization of Cariplo. It also represents a blow to the expansionary ambitions of Banca Commerciale Italiana (BCI), which had bid aggressively for a holding in Cariplo which it was “desperate to acquire”, according to one Italian banker.
The second ripple, a week later, was the successful sell-off of about 30% of the capital of Italy’s largest commercial banking group, Istituto San Paolo di Torino, in a secondary share offering with $1.4 billion led by San Paolo itself and Morgan Stanley, which was more than three times oversubscribed. This was the second stage of a $2.7 billion sale, making the overall transaction the largest bank privatization in Italy. The first stage, completed in April, involved the sale of L1,915 billion (or 22% of the bank’s share capital) to a group of six core shareholders – including foreign banks such as Banco Santander and Kredietbank.
The San Paolo privatization reduced the stake held by the charitable foundation, its former majority shareholder, from 66% to 20%, and its share of the bank’s voting shares to around 5%. One banker close to the deal says the sale “at last breaks the chain to the foundation and gives the bank the freedom it needs to say no to bad loans”.
The public offering, in which some 40% of the shares ended up with retail investors and a further 8% with the bank’s employees, owed much of its success to the earlier sale to core shareholders which, say the deal’s lead managers, gave the transaction the credibility it needed to ensure the subsequent over-subscription in the public sale.
A Morgan Stanley case study on the sale published in June shows it also reflected a change of strategic focus at San Paolo. “Despite an historic return on equity (ROE) of 6.2% the management of San Paolo [was] able to convince investors during the roadshow that its profitability would increase significantly over the next two to three years,” it said. Morgan Stanley expects the bank’s ROE to “exceed the management’s own medium-term 9% target by 1999”.
The backdrop to the sale was investor frustration. “The success of the privatization has to be viewed against the background of the share price underperformance post the IPO in 1992, a limited appetite for Italian bank stocks due to poor profitability and concern over corporate governance in Italy,” notes Morgan Stanley.
Labour pains
Another stir was caused by a recent agreement – or National Contract – between the Association of Italian Banks (ABI) and the banking unions which appears to pave the way for staff cuts within an industry notorious for overstaffing. Monica Kapoor, a banking analyst at Fox, Pitt, Kelton in London notes that overstaffing is officially estimated at 10%, although she puts the figure at closer to 20%; a London analyst suggests it is as high as 30%. With labour costs in the industry among the highest in Europe – equating to 1.5% of total assets, according to a recent Moody’s analysis – reducing this expenditure is a prerequisite if Italian banks are to compete in Europe.
“The unions fully understand that Italian banks can’t live with such high levels of overstaffing,” says Stefano Alberti, head of research at Intermobiliare Securities in Milan. He adds that the agreement between the banks and the unions will probably take the form of a pooled fund, to which the banks – rather than the cash-strapped government – contribute the funding for lay-offs. The expected benefit led Inigo Lecubarri, southern European banking analyst at Salomon Brothers in London, to predict overall cost increases in the banking sector of “markedly below inflation – a real and definite step forward”.
There have been other developments in recent months. These include a long-awaited solution to the Banco di Napoli conundrum – the bank, with the insurer, INA, is being absorbed by the Rome-based Banca Nazionale del Lavoro – and an upbeat analysts’ meeting at which Credito Italiano announced it was shooting for an ROE of 11% by 1998. The average ROE is well below 5% in Italy and Credito’s was an abysmal 1.8% in 1994.
But these events do little more than scratch the surface in an industry bedevilled by fragmentation, high loan-loss provisions, penal domestic tax rates and increasingly stiff competition from overseas. Analysts say they do not go far enough.
Some are mystified about the rationale of the Ambroveneto/Cariplo alliance in which the two banks will remain separate entities under a holding company controlled by the current shareholders. For example, the charitable foundation, which historically held 100% of Cariplo, is expected to retain an influential 30% stake in the new holding company. There will be little, if any, scope for cost cutting through staff reductions; Intermobiliare’s Alberti predicts it will be at least five to 10 years before tangible gains arise from the agreement. This may explain the stock market’s lukewarm response. But Italian banks do not have a decade in which to restructure their operations if they are to deal with competition in an increasingly integrated Europe. For the time being, Kapoor at Fox, Pitt Kelton appears unconcerned about this: “Even though we’ve seen a relaxation of barriers to entry in the Italian banking sector, the actual penetration of foreign banks has tended to be quite low – because people in Italy are reluctant to bank with foreigners.”
Anglo-Saxon model
Italy’s legendary campanilismo – or local rivalries underpinning niche market shares – has traditionally dictated that for a depositor in, say, the Naples region, a bank from Milan has seemed as foreign as any from Frankfurt or London. Analysts warn it would be folly for Italy’s banks to rely on regional loyalties in the future: Alberti points out that for the first time Italy’s banks are living in an era of low interest rates. And if, as Rome dearly hopes, Italy qualifies for the first or second round of Emu, those rates are likely to stay low for the foreseeable future.
At Salomon Brothers in London, banking analyst Inigo Lecubarri sees the new, low-interest-rate environment as fundamental to the future of the banking industry. “The structural change in interest rates is the single most important change in the landscape,” he argues. “Banks have to be fast on their feet to anticipate the ways in which savings and investment preferences will change. This will be much closer to the Anglo-Saxon model, with a greater emphasis on equity investment by individual and institutional investors and with more opportunities for companies to raise funds via the debt and equity markets rather than through bank credit. That means we will see a new set of products on the asset and liability sides. The winners will be those which have invested in the technology and the staff which can develop and sell these products.”
This process has already begun. Italian investors’ hunt for yields more attractive than the miserly returns available on bank deposits led to a mini-boom in the Eurolira bond market in the first few weeks of 1997, and an expansion in the domestic corporate bond market.
However, relative to their competitors in northern Europe – and even in Spain and Portugal – Italy’s banks haven’t the size or the capital to harness these opportunities. Although Moody’s estimated there were almost 300 bank mergers and takeovers between 1990 and end-1995, that left almost 1,000 banks serving the local population.
Everyone recognizes this is too many, not least Egidio Giuseppe Bruno, deputy chairman and chief executive of Credito Italiano. He conceded at a recent Euromoney conference: “We cannot continue to have a system where, at the last count, there were 966 banks, 750 of which with only one counter.”
Morgan Stanley’s managing director and head of Italian investment banking, Claudio Sposito, believes that with Italy’s top eight to 10 banks “realizing that the time has come to face reality, there will be a flow of activity in the M&A sector over the coming year or two.” Others agree, pointing to April 1998 as a key date when the next shareholders’ meeting at IMI could presage a closer relationship – or even a merger – between IMI and San Paolo.
Analysts question whether there is the political will to sanction a mega-merger within the industry which would create a banking giant able to compete with other European colossi. But they say tinkering at the edge may be counterproductive. One local banker points to the discussions between two regional banks, Cariverona (based in the Veneto region of the north-east) and Cassa Torino (based in Piedmont, in the north-west). “As I understand it,” he says, “they are talking about an alliance which will be based on the creation of a new holding company, rather than a merger which will bring cost benefits. It’s ridiculous, because it’s precisely the opposite of what they should be doing.”
He says Italy urgently needs “one or two international champions”, because the mergers so far are insignificant by international standards. “The example I always look at is Credito Italiano’s acquisition of Credito Romagnolo [which CI acquired in February 1995]. Credito Italiano paid about $2 billion for that, while SBC paid $800 million to acquire SG Warburg. Can you compare the relative strategic impact of the two acquisitions? Of course not. I would love to see a serious merger of, perhaps, Mediobanca, Credito Italiano and Generali to create an institution capable of competing with the Lehman Brothers of this world.”
While a merger of this scale may be a long way off, for more consolidation, much will depend on the attitudes and flexibility of the charitable foundations (fondazioni) which control the majority of public sector banking assets. Although several remain resistant to calls to reduce their bank holdings – whose dividends finance local community projects – the Dini directive requires they must generate more than 50% of their revenues from sources other than banking by 1999. This, combined with other government incentives aimed at encouraging them to pare bank holdings, may prompt further divestment, especially if equity valuations in the Italian banking sector continue to rise.
As a recent Moody’s report on the sector explains, fondazioni have been reluctant to sell their holdings for commercial as well as political reasons, with bank shares in 1996 fetching only around one times book value. “Owners of banking assets are understandably reluctant to sell at current valuations, and many smaller banks are reported to be holding out for better prices,” Moody’s advises.
