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Thomson Reuters data on equity capital markets activity over the first 9 months of the year throws up some pretty exciting data if you are a Cazenove shareholder.
Top of the European league table by a country mile sits JP Morgan with $33.5 billion of deals. And that figure incorporates the ECM deals done by JPM’s UK subsidiary (50 percent plus a share) JP Morgan Cazenove. On its own JPM Caz was responsible for $24.2 billion of deals, making it top of the table by some distance. Its nearest rival was Morgan Stanley with $15.5 billion of deals.This figure has particular resonance because of the possibility that JPM might buy out the Cazenove stake in JPM Caz.$24.2 billion is a touch under 15 billion pounds. Underwriting fees are about 3.25 percent of value these days. Apply this to the figure and you get to about 480 million pounds. JPM Caz doesn’t get to keep all of this: it has to pay JPM for access to its balance sheet and share fees with other institutions when it sub-underwrites. There are also accountants and lawyers to pay.A good rule of thumb might be that JPM Caz gets to keep about half the underwriting fees. That suggests that JPM Caz might have earned 240 million pounds from equity underwriting in the first nine months of the year. This figures compares with the 217 million pounds it earned from all corporate finance activities (including M&A fees) in the whole of 2008.Were the ECM business to keep clanking along at the same rate in the fourth quarter, JPM Caz could be on track to make 320 million in revenues from just this source – not much less than the 350 million pounds the whole firm earned last year. It’s not clear exactly how much of the total revenue ECM accounts for – but somewhere around half might be a good stab.It all points to 2009 being a very lucrative year for Caz.
As your friendly neighbourhood investment bank rarely tells you, something like 80 percent of deals don’t pay off. So why do one if you don’t have to?That is the question facing the mighty City of London firm of Cazenove. Five years after Caz poured its investment banking business into a joint venture with the U.S. bank, JP Morgan, it has to decide whether to go the whole hog and sell the remainder — or to hang on.Technically the shares are the subject of a put and call arrangement — JP Morgan can force Caz’s investors to sell and vice versa. But it is hard to imagine the Americans obliging the shareholders to sell if they clearly don’t want to.Which raises the question: why would they want to?A deal has certain attractions for JP Morgan. The bank’s UK business would be simpler if it owned 100 percent of its UK investment banking operations. The current set-up is quite advantageous for Caz. Not least it gives it access to JP Morgan’s deep pockets and client list.But these are also good reasons for Caz shareholders to hang on. Most commentators have focused on the cultural reasons for leaving the joint venture intact and these are indeed potent. But there are also good financial reasons to leave things where they are. Take the fact that the joint venture perches on JP Morgan’s mega balance sheet. This gives it the best of both worlds. It can use the U.S. bank’s financial heft to haul in equity capital markets business but it doesn’t carry the risk. Any duff underwritings land on JP Morgan’s plate.This means the JV hardly needs any capital. Caz itself is a shell these days — its only asset is its near 50 percent stake in the joint venture. That in turn means almost all its profits are flushed through as dividends. Caz’s share of the joint venture’s after-tax profit last year was 46 million pounds, all of which was paid to its own shareholders (plus a further 3 million generated by Caz itself).Caz’s shares trade intermittently on an internal market. The last traded price was 240 pence per share. On the basis of last year’s dividend of 26 pence a share, the stock yields about 11 percent.This year the joint venture will probably do even better, given the general hunger for equity rather than debt (which is Caz’s stock in trade) and reduced competition in the investment banking business. But that is not the whole point. Essentially, Caz is a sort of money machine geared to the performance of markets and appetite for the sort of investment banking services it provides. Not only is it highly profitable when things are going well, but most of that profit is distributed to shareholders. That is quite an attractive asset.The question ultimately is what sort of exit yield might tempt Caz’s owners — half of whom are former partners who no longer work at the firm — to cash in their stock and invest elsewhere. Assume the dividend rises 30 percent this year and investors sought an exit yield equivalent to the yield on the FTSE100, currently 3.45 percent. That would equate to a price of about 900 pence per Caz share or a valuation of 1.7 billion pounds — implying a total value for the joint venture of 3.4 billion pounds.That might look like a wildly overblown number. After all the entire joint venture was only valued at about 700 million pounds when Caz sold half its business to JP Morgan in 2004. It would also be extremely hard for JP Morgan to justify paying a price earnings multiple of over 25 for the business. After all, Goldman Sachs trades on just 11 times.Of course, some of Caz’s owners might accept a lower price: after all, a JP Morgan takeover is the only way to exit what is otherwise a highly illiquid investment. If there’s a deal to be done, the answer is probably somewhere between the two extremes of the very low internal market price and the very high price justified by Caz’s dividend stream. That wide gap also explains why agreement may be harder to find that it first appears.
Lord Levene, chairman of Lloyds of London, the insurance market that offers a berth for those who fluff their job interviews at the City investment banks, offered the following sage remarks about pay to the British Bankers’ Association dinner on Monday 29th June:
At Lloyd’s we held a conference a few months back in New York discussing the origins of world wide risk and, in particular, the current problems of the banking industry. Speaking at the conference was one of the most successful and best known investment bankers in New York. One remark he made sticks very much in my memory. He said that when he got his first job on leaving business school at a New York investment bank, he was paid $30,000 per year. At that time, the CEO of the bank was paid $300,000 a year. He thought that that was a sensible multiple. Perhaps we might reflect on the highest paid individuals in some of our institutions and ask whether they are paid more than 10 times the amount of a new joiner. I would leave that thought with you.
Fine words. One can imagine the looks on the faces of the City grandees in attendance as they digested this thought with their Sylphides à la Crème d’Écrevisses. But do they butter many parsnips, as the saying goes. Let’s see how Levene measures up by this rough and ready standard. According to the Lloyds website, a graduates’ starting salary is £26,000 a year. Levene’s remuneration in 2008: £806,000. Levene/graduate multiple: 31 times.Humbug rating: five humbugs.