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Portfolio > Alternative Investments > Private Equity

Financial Services At The Center Of M&A Party

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With private equity giant Blackstone Group taking over Equity Office Properties Trust, Nasdaq Stock Markets bid for the London Stock Exchange, and Bank of America’s plan to buy Schwab’s U.S. Trust division, financial services are in the thick of the merger-mania that is sweeping global markets.

According to Sam Stovall, Standard & Poor’s chief investment strategist, about $3.1 trillion in M&A activity has been booked over the past 12 months — with the financial services sector accounting for more than one-fifth of that total.

Within the financial services sector, Matt Albrecht, S&P’s investment bank equity analyst, said the industry as a whole is benefiting from a very strong environment for M&A. “Interest rates have remained at relatively low levels, allowing companies that wish to purchase others to borrow money cheaply,” he said. “Strong equity markets, which have provided acquiring companies with high stock prices an incentive to use that to their advantage, are purchasing companies with shares of stock.”

In addition, Albrecht cited the enormous amount of private equity money currently available. “They are searching out bigger and bigger deals, trying to make a splash for investors,” he said. Indeed, the deal for EOP is valued at $36 billion, including debt, making it the largest private equity transaction in history, surpassing this year’s $33 billion purchase of hospital operator HCA Inc.

“Also, global restrictions are being loosened, allowing more deals to cross national boundaries and are opening up new target markets, such as China etc.,” Albrecht said.

Frank Braden, S&P’s diversified financials equity analyst, noted that some insurance brokers like Willis Group Holding, Brown & Brown, and Marsh & McLennan might make M&A targets. “Marsh had been rumored as a possible take-over target, because they had several business units that had been underperforming,” he said. “Now, however, they have improved performance and are accepting bids for their Putnam business.”

Royal F. Shepard, S&P’s REIT equity analyst, noted that most of the takeover activity under his coverage has been within the office REIT segment, as exemplified by today’s historic EOP buyout. Shepard said his only 4-STARS ranked stock in the office sector is Brookfield Properties. “BPO is well positioned in growth markets, including lower Manhattan, Southern California, Toronto, and Calgary,” he said. “It potentially is a target, although I don’t have any intelligence to suggest anything is imminent.”

Shepard also notes that another REIT, Maguire Office Properties, has been talked about as a potential buyout candidate in the press. “However, I don’t find the current valuation attractive,” he cautioned.

Stuart Plesser, S&P banking analyst, finds a number of banks and thrifts that would make attractive takeover targets. “Banco Santander currently has an option to buy Sovereign Bancorp at $40 a share starting in June 2008. Jay Sidhu recently stepped down as Sovereign’s CEO. We think the company might be put up for sale sooner than June 2008.”

Plesser also cites Astoria Financial. “With close to $25 billion in assets, this thrift could serve as an entree for a larger bank looking to establish a presence in the New York metropolitan market,” he said. Speculation persists that Washington Mutual will be acquired by one of the U.S. banking giants within the next few years, he added, most likely by J.P. Morgan Chase or Citigroup. Cullen/Frost Bankers ranks as another possible target. “Cullen is well entrenched in a strong Texas market, and with a recent pullback in price, it appears inexpensive compared to its regional peers,” he said.

Within the regional banks, S&P equity analyst Erik Oja believes M&A will start to increase soon. “The larger banks are interested in buying smaller, high quality banks, and will look to purchase regional banks with excellent credit quality, growing markets, unique franchises (such as ethnic markets), the ability to gather non-interest bearing deposits, and broad lines of fee income-generating businesses,” he said.

Potential candidates for takeover, Oja said, include Zions Bancorp, which has high credit quality, low rates paid on deposits, high loan yields, and a wealth management division. Cathay General, East-West Bancorp, and UCBH Holdings–three banks that serve Chinese communities in California and New York–are attractive because they are conservatively run, possess high credit quality, low deposit rates, and large amounts of interest-free deposits.

Oja also identifies Associated Bancorp, SunTrust Bank, and Marshall & Ilsley as potential targets. “KeyCorp has been mentioned by analysts as a attractive fit for a much larger bank, such as Bank America,” he added.


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