The International Investment
Banking Industry
The International Investment
Banking Industry
The Swiss Banking Institute
Zurich, Switzerland
June 24 & 25, 1999
Presented By
Presented By
William L. Megginson
Professor & Rainbolt Chair In Finance
The University of Oklahoma USA
&
Visiting Professor Of Banking & Finance
Swiss Banking Institute
Zurich, Switzerland
[email protected]
What Is Investment Banking?
What Is Investment Banking?
• Can Be Defined To Encompass Many Activities
• Definition Usually Involves At Least:
– Underwriting And Distributing New Security Issues
– Offering Brokerage Services To Public &
Institutional Investors
– Providing Financial Advice To Corporate Clients,
Especially On Security Issues, M&A Deals
– Providing Financial Research To Investors,
Corporate Customers
– Market-Making In Particular Securities
De Facto Definition OF IB
Today Is Much Broader
De Facto Definition OF IB
Today Is Much Broader
• Many IB Firms Now Offer Additional Services:
– Providing Fee-Based Asset Management Services
– Proprietary Trading For Customers, Own Account
– Merchant Banking, Venture Capital Investing
– Providing Bridge Loans For M&A, New Financing
– Arranging & Funding Syndicated Loans
– Foreign Exchange Trading & Hedging
– Arranging Swaps, Other Risk Management Tools
– Providing Private Banking Services
Risks Assumed By Financial
Intermediaries
Risks Assumed By Financial
Intermediaries
• Financial Intermediaries Defined By Type Of Risk
They Assume:
– Commercial Banks Assume Credit Risk
– Insurance Companies Assume Event Risk
– Investment Bankers Assume Market Risk
• Course Will Focus On IB’s Classic Corporate
Finance Role Of Bearing Market Risk:
– Specifically, Underwriting & Selling Securities
– Other Roles Important, But Not Unique To IB
Key Laws Governing
Investment Banking Practices
Key Laws Governing
Investment Banking Practices
• Most Key Rules Of The Game Set By Depression-
Era US Laws:
– Securities Act of 1933 Mandated Disclosure Of All
Relevant Information In Security Issues
– Glass-Steagall Act of 1933 (Not Really Act Itself)
Separated Investment & Commercial Banking
– Securities & Exchange Act Of 1934 Set Up SEC,
Established Financing & Governance Procedures
• Though Frequently Amended, All Are Still Law
– Glass-Steagall Weakened, But Not Repealed
International Rules & Treaties
Much Less Stringent
International Rules & Treaties
Much Less Stringent
• European Countries Generally Less Restrictive
– Germany Allows Universal Banking
– Other Countries Allow Almost As Much Freedom
– UK The Center Of International Finance & British
Commercial Law Is The De Facto Standard
• Japan Saddled With Article 65 By Occupation
• Eurobond, Eurocurrency Markets Unregulated
• UK Big Bang Of 1986 Solidified London’s Position
• Basle Accords Of 1988 Set Capital Standards For
International Banks
Course Will Cover Ten Key
Topics
Course Will Cover Ten Key
Topics
• Patterns in Worldwide Securities Issuance During
The 1990s
• The Strengths, Weaknesses, And Strategies Of
The Key Players In The IB Industry
• Capital Markets And The Three Basic Models Of
Corporate Finance
• Investment Banking Practices In International
Debt Security Markets (Eurobonds, MTN, etc)
• Bank-Based IB Products (Syndicated Loans And
Project Finance)
Course Will Cover Ten Key
Topics (Cont.)
Course Will Cover Ten Key
Topics (Cont.)
• International Stock Markets & Privatization’s
Critical Role In Their Development
• The Euro’s Likely Impact On Global Capital
Markets
• The Increasing Importance of Mergers &
Acquisitions To The Global IB Industry
• American Investment Banking Characteristics
And Industry Practices
• Venture Capital And Initial Public Offerings In The
United States
Course Will Conclude With A
Summary of Key IB Challenges
Course Will Conclude With A
Summary of Key IB Challenges
• The Impact Of Information Technology &
Telecommunications On Investment Banking
• Deregulation, Privatization, and The Growth of
Private Infrastructure Financing
• The Rise of Funded Pension Systems
• Dueling Currencies: Dollarization and The Growth
of Euro Zone Capital Markets
• The Continuing Rise Of The Bulge Bracket
• Are Financial Groups The Wave Of The Future?
Topic 1:
Topic 1:
Patterns In Worldwide
Securities Issuance
During The 1990s
Trends In Investment
Banking Worldwide
Trends In Investment
Banking Worldwide
• The Revolutionary 1990s: An Incredible Decade
• $15 Trillion In Total Security Issuance
• $10 Trillion In Mergers & Acquisitions
• A Major New Currency Is Born
• Privatization & The Growth Of Stock Markets
• Capital Markets Vs Banks In Corporate Finance
• The Evolution Of A Truly Global Industry
• US Industry Practices Spreading Worldwide
• The Rise of Funded Pension Programs
Details Of Worldwide Securities
Issuance During the 1990s
Details Of Worldwide Securities
Issuance During the 1990s
• Over $2.5 Trillion Securities Issued On Public
Capital Markets Worldwide During 1998
• Almost $0.5 Trillion More In Private Placements
• Over $15 Trillion Total Public Offers This Decade
• Each Year, US Issuers Account For Two-Thirds Of
Total Public Issue Volume, Most Private Issues
• Debt Securities Account For Over Three-Fourths
Of Total Every Year
• New Common Stock Issues Play Small Role In
Corporate Finance Everywhere, Even US
Number And Value Of Worldwide
Security Issues In 1998
Number And Value Of Worldwide
Security Issues In 1998
Security Type # Of Offerings Value $US Bn
Total Debt & Equity 17,906 $2,532
International Debt 4,682 $888
Eurobonds 2,735 $606
Yankee Bonds 1,704 $241
International
Common Stock
575 $74
Number And Value Of Public Security
Offerings By US Issuers In 1998
Number And Value Of Public Security
Offerings By US Issuers In 1998
Security Type # Of Offerings Value $US Bn
All Domestic Issues 14,395 $1,820
Capital-Raising Issues 12,121 $1,228
Investment-Grade
Debt
10,850 $1,065
Corporate Debt 6,406 $654
Collateralized
Securities
2,151 $561
Number And Value Of Public Security
Offerings By US Issuers (Continued)
Number And Value Of Public Security
Offerings By US Issuers (Continued)
Security Type # Of Offerings Value $US Bn
Tax-Exempt Municipal
Bonds
13,469 $265
Common Stock 240 $108
Initial Public Offerings 372 $37
Preferred Stock 238 $42
Convertible Debt &
Preferred Stock
167 $33
Number And Value Of Private
Placements On US Markets In 1998
Number And Value Of Private
Placements On US Markets In 1998
Security Type # Of Offerings Value $US Bn
Overall Private
Placements
4,049 $464
Rule 144A Offers 2,635 $336
Straight Debt 3,450 $363
Plain Vanilla Equity 417 $75
Yankee Private
Placements
1,110 $147
The Importance Of Privatizations
To Global Capital Markets
The Importance Of Privatizations
To Global Capital Markets
• Not Included In Most Previous Totals Of
International Common Stock Issuance
• The 18 Largest Stock Offerings In History Have
All Been SIPs
• 675+ SIPs Have Raised Almost $700 Billion Since
1980, Over Two-Thirds Of This Since 1990
• Outside Of Entire US Corporate Sector, SIPs The
Largest Total Equity Offerings Ever
• Have Transformed Liquidity, Total Capitalization
Of Most Non-US Stock Markets
Privatization Proceeds
$US Billions
Privatization Proceeds
$US Billions
0
20
40
60
80
100
120
140
160
180
1
9
8
1
8
3
8
5
8
7
8
9
9
1
9
3
9
5
9
7
Major Changes To The Investment
Banking Industry Since 1970
Major Changes To The Investment
Banking Industry Since 1970
• Major Changes Began In US In Early-1970s
– After DLJ ’s 1970 IPO, Most Firms Went Public
– Collapse Of Bretton Woods, Rise Of OPEC In
1973 Increased Volatility In Financial Markets
– ERISA Of 1974 Mandated Prudent Man Rule For
Pension Fund Managers
– May Day 1975 Repeal Of Fixed Commissions
• Changes Accelerated In 1980s:
– Rule 415 (Shelf Registration) Adopted In 1982
– Wave Of Mergers And Consolidation
Major Changes To The Investment
Banking Industry Since 1970 (Cont.)
Major Changes To The Investment
Banking Industry Since 1970 (Cont.)
• International Capital Markets Began To Grow
Dramatically Shortly After US Markets:
– UK Markets Propelled By Privatizations, Big Bang
– Privatizations, Competition, Deregulation Also
Boosted Other European Markets
– International P/F Investment Began In 1980s,
Surged In 1990s
– EEC & EU Market Integration Initiatives
– Development Of GDR In 1990 For Equity Offers
• US Adoption Of Rule 144A Opened New Market
Shocks To International IB
Industry During Mid & Late-1990s
Shocks To International IB
Industry During Mid & Late-1990s
• As Markets Grew, They Became More Volatile:
– Mexican Devaluation & Tequila Effect Shocked
Latin American Operations, Issues (Dec 1994)
– Asian Economic Crisis Destroyed Great Wealth,
Turned P/F Investment Negative (J uly 1997)
– Russian Default Caused Flight From Risky Assets
In All Financial Markets (Aug 1998)
– LTCM Near-Collapse Almost Disastrous (Sep 98)
• Somehow, Industry Survived & Prospered
– However, Late 1998 A Very Frightening Period
Asian Financial Markets
Were Devastated By Crisis
Asian Financial Markets
Were Devastated By Crisis
0 20 40 60 80
Indonesia
Philippines
Thailand
South Korea
Malaysia
Hong Kong
Taiwan
Singapore
End 1998
Peak 1998
End 1996
Investment Banking Trends
Emerging In 1999
Investment Banking Trends
Emerging In 1999
• Tremendous Surge In Euro-Denominated
Securities After Launch
– E15 bn First Two Months Exceeded $ Total
• Continuing Growth In Issuance By US Firms
– IPO Market Dominated By Internet Offerings
• Rebirth Of Investor Interest In Emerging Markets
• Continuing Surge In M&A Activity, Privatizations
• The Race To Join The Global Bulge Bracket
Topic 2:
Topic 2:
Key Players In The
International Investment
Banking Industry
Everybody Wants To Be An
Investment Banker
Everybody Wants To Be An
Investment Banker
• Extremely Attractive Industry Due To Growth,
Profitability, Glamour, and Economic Impact
• Long Dominated By “ Bulge Bracket” US Firms
• Most Investment Banking Houses Now Part Of
Larger Financial Groups
• European Commercial Banks Have Tried To Buy
Their Way Into Top Ranks
• American Firms’ Grip On US Market, M&A
Expertise Key Competitive Advantages
The Life And Death Importance of
League Tables
The Life And Death Importance of
League Tables
• Rankings of IB Firms Compiled By Euromoney,
IDD Called League Tables
• Compile Rankings For Many Categories
• Firms Tend To Emphasize Those Where They
Look The Best (Security, Region, Currency, etc)
• Great Stability in Relative Rankings--The Bulge
Bracket Rarely Changes
• Firms Both Compete And Cooperate On Deals
• Lead Manager Position Carries Most Prestige And
Largest Fees
Top 15 Investment Banking Firms,
Ranked By 1998 Underwriting
Top 15 Investment Banking Firms,
Ranked By 1998 Underwriting
Company Total Proceeds, $Bn
Merrill Lynch $357
Salomon Smith Barney $250
Morgan Stanley Dean Witter $249
Goldman, Sachs $237
Lehman Brothers $168
Credit Suisse First Boston $163
J.P. Morgan $128
Bear, Stearns $92
Top 15 Investment Banking Firms,
Ranked By Underwriting (Cont)
Top 15 Investment Banking Firms,
Ranked By Underwriting (Cont)
Company Total Proceeds, $Bn
Warburg Dillon Read $83
Chase Manhattan $79
Donaldson, Lufkin & Jenrette $62
ABN AMRO $61
Deutsche Bank $58
PaineWebber $54
Paribas $47
How To Tell The Key Players
From Each Other
How To Tell The Key Players
From Each Other
• Some Countries Over-Represented: US (10),
Switzerland (2), Netherlands (1)
• Other Countries Under-Represented: France (1),
Germany (1), Japan (0)
• Five Are Stand-Alone IB Firms
• Five Are Commercial Banks With IB Arms
• Five Are Subsidiaries of Financial Groups
• All Pursuing Similar Strategies, But Have Varying
Strengths & Weaknesses
• Examine Each Firm In Turn
Merrill Lynch
Merrill Lynch
• Headquarters: New York
• 63,100 Employees
Worldwide
• 900 Offices in 43 Countries
• $515 Billion Assets Under
Management
• $1.478 Trillion in Client
Assets Under Management
• First Large US Brokerage
Firm To GO Public (1970)
www.merrilllynch.com
Salomon Smith Barney
Salomon Smith Barney
• Headquarters: New York
• 35,000 Employees
Worldwide
• 500 Offices in 23 Countries
• Smith Barney Acquired By
Travelers In 1987
• Travelers & Salomon
Merged In 1997, Formed
Salomon Smith Barney
• Now Part Of Citigroup,
With $700 Billion In Total
Assets
www.salomonsmithbarney.com
Morgan Stanley Dean Witter
Morgan Stanley Dean Witter
• Headquarters: New York
• 494 Offices In 23 Countries
• $385 Billion Assets Under
Management
• Dean Witter Acquired By
Sears, Roebuck In 1980
• Dean Witter Spun-Off By
Sears In Early 1990s
• MSDW Formed In 1997
Merger Of Dean Witter,
Discover & Morgan
Stanley
www.msdw.com
Goldman, Sachs
Goldman, Sachs
• Headquarters: New York
• 16,500 Employees
Worldwide
• 41 Offices In 23 Countries
• $195 Billion Total Assets
Under Management
• Was Last Remaining Wall
Street Partnership Until
1999 IPO
www.goldmansachs.com
Lehman Brothers
Lehman Brothers
• Headquarters: New York
• 8,873 Employees
Worldwide
• 39 Offices In US, Europe,
Asia
• $154 Billion In Total
Assets
• Acquired By Shearson
American Express In 1984
• Spun-Off By American
Express In 1994
www.lehman.com
Credit Suisse First Boston
Credit Suisse First Boston
• Headquarters: Zurich,
Switzerland
• 14,000 Employees
Worldwide
• 60 Offices In Over 30
Countries
• Total Assets of $291
Billion
• Wholly-Owned Subsidiary
of Credit Suisse Group
• AA Credit Rating High For
Investment Banking
www.corp.csfb.com
J.P. Morgan
J.P. Morgan
• Headquarters: New York
• Glass-Steagall Act Split
House of Morgan In 1935
• Chartered As Commercial
Bank, With Only 25%Of
Revenues From IB
• Began Underwriting
Corporate Securities 1989
• 15,674 Employees
Worldwide
• Total Assets $261 Billion
www.morgan.com
Bear, Stearns
Bear, Stearns
• Headquarters: New York
• 9,180 Employees
Worldwide
• 17 Offices In 9 Countries
• $154 Billion Total Assets
• Though Independent,
Frequently Mentioned As
Takeover Target
www.bearstearns.com
Warburg Dillon Read
Warburg Dillon Read
• Headquarters: Basel &
Zurich, Switzerland
• 15,000 Employees
Worldwide
• Offices in More Than 40
Countries
• SBC Acquired S.G.
Warburg In 1995, Dillon
Read in 1997
• UBS & SBC Merged In
June 1998
www.wdr.com
Chase Manhattan
Chase Manhattan
• Headquarters: New York
• Primarily A Commercial
Bank, Trying To Build IB
• $366 Billion Total Assets
• Operations In 49 Countries
• 72,683 Employees
Worldwide
• Formed By 1995 Merger of
Chase, Chemical Banks
• Dominant Arranger of
Syndicated Loans
www.chase.com
Donaldson, Lufkin &
Jenrette
Donaldson, Lufkin &
Jenrette
• Headquarters: New York
• 8,150 Employees
• 25 Offices In US, Europe,
Latin America & Asia
• $72 Billion Total Assets
• Never In Bulge Bracket,
But Very Profitable
• First IPO By IB (Apr 1970)
• Acquired By Equitable In
1985, ECO Of 20% In 1995.
• Equitable Still Holds 71%
www.dlj.com
ABN AMRO
ABN AMRO
• Headquarters: Amsterdam,
The Netherlands
• Primarily Commercial
Bank, Formed In 1991
Merger
• Operates In 64 Countries
• $450 Billion Total Assets
www.abnamro.com
Deutsche Bank
Deutsche Bank
• Headquarters; Frankfurt,
Germany
• 75,306 Employees
Worldwide; Soon 100,000
• Total Assets Will Soon Be
About $1 Trillion, Making It
The World’s Largest Bank
• Commercial Bank With
Lofty IB Ambitions
• Acquired Morgan Grenfell
In 1989, Acquiring Bankers
Trust (& Alex Brown) Now
www.deutsche-bank.com
PaineWebber
PaineWebber
• Headquarters: New York
• 18,051 Employees
• 305 Offices Worldwide
• Total Assets $367 Billion
• Serves More Than 2 Million
Individual Clients
• Acquired Kidder, Peabody
In 1994
• Often Rumored As A
Takeover Target, Though
Still Independent
www.painewebber.com
Paribas
Paribas
• Headquarters: Paris,
France
• 20,000 Employees
Worldwide
• 220 Offices In 60 Countries
• $245 Billion (Dec 1997)
• Nationalized In 1982, Then
Privatized By French
Government In 1987
• Engaged In Three-Way
Takeover Battle With BNP,
Societe Generale
www.paribas.com
Topic 3:
Topic 3:
Capital Markets And The Three
Basic Models Of Corporate
Finance
The Three Basic Models of
Corporate Finance
The Three Basic Models of
Corporate Finance
• Three separate corporate finance models (or
systems) have emerged in recent years:
– The capital-market-based system
– The financial-intermediary-based system
– The industrial group system
• These models are associated with, respectively:
– The US, Britain, & Canada (especially the US)
– Europe (espec. Germany), developing countries
– J apan (Keiretsu), Korea (Chaebol), other Asian
countries
All Three Models Have Been
Successes & Have Many Similarities
All Three Models Have Been
Successes & Have Many Similarities
• All The Key Countries Involved Are Democracies
• All The Key Countries (Now) Stress Private Over
Public-Sector Ownership
• All The Key Countries Involved Have Large, Rich
Consumer Markets
• All Three Systems Are Dominated By Numerous
Large, Publicly-Traded Firms
Systems Differ With Respect To:
Systems Differ With Respect To:
• Primary Source(s) Of External Financing
– Banks Vs. Markets
• Ownership Structure Of The Firm
– Atomistic Vs. Concentrated
• Stock Market’s Role In Monitoring Managers
• Power Of Professional Managers Vs. Other
Stakeholders
• Corporate Governance Role Of Fincl Institutions
• Rights & Duties Of Individual Shareholders
Systems Differ With Respect To
(Cont):
Systems Differ With Respect To
(Cont):
• Importance of equity-based compensation for
executives
• Importance of formal contracts and regulations
• Strategic role of mergers & acquisitions in
corporate control
• Legal System Used:
– British Common Law
– German Or Scandinavian Commercial Law
– French Civil Law
Characteristics Of The Capital-Market-
Based System Of Corporate Finance
Characteristics Of The Capital-Market-
Based System Of Corporate Finance
• Many Large, Independent, Publicly-Traded Firms
• Great Reliance On Capital Markets--Rather Than
On FIs--For External Financing
• Very Large, Efficient Capital Markets
• Small Stockholders The Focus Of Corporate
Governance; Much Disclosure Required
• Great Reliance On Equity-Based Compensation
• Very Active Market For Corporate Control,
Including Hostile Takeovers & LBOs
• Heavy Reliance On Formal Contracts
Strengths Of The Capital-Market-Based
System Of Corporate Finance
Strengths Of The Capital-Market-Based
System Of Corporate Finance
• Can Raise Huge Sums For Corporate investments
• Spreads Economy's Financial Risk To Diversified
Investors
• Transparency--Becoming Increasingly Important
• Allocative Efficiency--Capital Goes To Best Use
• Allows For Great Specialization Of Labor
• Liquid Capital Markets Allow Private, Funded
Pension System
• Good At Financing Entrepreneurial Growth Firms
• Technology Seems To Favor Capital Markets
Weaknesses Of The Capital-Market-
Based System Of Corporate Finance
Weaknesses Of The Capital-Market-
Based System Of Corporate Finance
• Separation Of Ownership And Control
• Managers Have Strong Entrenchment Incentives
• Hard To Enforce Proper Investment Incentives:
– Over-Investing In Negative-NPV Projects, Or
– Under-Investing In Positive-NPV Projects With
Long-Maturity Payoffs
• Required Information Disclosure Often Excessive
– Can Reduce Value Of Proprietary Information
• Bankruptcy Procedures Very Cumbersome
Characteristics Of The Financial-
Intermediary-Based Corp Fin System
Characteristics Of The Financial-
Intermediary-Based Corp Fin System
• Relatively Few Large, Independent, Publicly-
Traded Companies (Except Privatized Firms)
• A Few, Very Strong Commercial Banks Dominate
Corporate Financing
• Commercial Banks Serve As Universal Banks
• Capital Markets Play Small, But Growing, Role In
Corporate Finance
• Very Little Mandated Information Disclosure
• Far Less Reliance On Professional Managers
• Relatively Inactive Corporate Control Market
Strengths Of The Financial-
Intermediary-Based Corp Fin System
Strengths Of The Financial-
Intermediary-Based Corp Fin System
• Intermediaries Make Natural Corporate Monitors
• Commercial Banks Enjoy Natural Comparative
Advantages At Raising & Allocating Funds
• FIs Can Build Long-Term Relationships With
Client Firms
• FIs Better Able To Handle Borrower Financial
Distress (Laws Tend To Favor Creditors)
• Able To Commit To Funding Multi-Year Client
Investment Programs
Weaknesses Of The Financial-
Intermediary-Based Corp Fin System
Weaknesses Of The Financial-
Intermediary-Based Corp Fin System
• Inherent Conflict Of Interest For Bankers
(Creditor & Shareholder)
• Little Transparency In Corporate Financing And
Corporate Governance Systems
• Large Scale Debt Or Equity Financing Through
FIs Can Be Very Costly
• Unless Financial System Very Competitive, Can
Lead To Collusion & High Financing Costs
• Information Processing Technology Is Weakening
The Value Of Bank Franchises
Characteristics Of The Industrial-
Group System Of Corporate Finance
Characteristics Of The Industrial-
Group System Of Corporate Finance
• National Economies Are Dominated By A Few
Powerful Industrial Groups (Keiretsu & Chaebol)
• Lead Company (Usually A Commercial Bank)
Exercises Control & Coordinates Group Activities
• Groups Are Their Countries' Leading Exporters &
Enjoy Close Relationships With The Government
• Capital Markets Play Little Role In Corporate
Finance Or Governance
• Significant Share Ownership Is Rare For Group
Company Managers (Except Chaebol)
Strengths Of The Industrial-Group
System Of Corporate Finance
Strengths Of The Industrial-Group
System Of Corporate Finance
• Groups Seem Able To Achieve Rapid Economic
Development
• Groups Can Build Networks Of Strong, Inter-
Related Companies With Vast Capabilities
• Strong Intra-Group Links Allow Efficient Financial
Contracting
• Allows Rapid Spread Of Market Information,
Manufacturing Expertise, New technology
Weaknesses Of The Industrial-Group
System Of Corporate Finance
Weaknesses Of The Industrial-Group
System Of Corporate Finance
• Cross-Subsidization: Strong Companies Often
“ Taxed” To Subsidize Weaker Companies
• Very Hard To Inject Market Discipline Into Group
Contracting
• Groups Impose Immense Costs On Consumers
• Severe Weaknesses And Fragility Of “ Crony
Capitalism”
• Government Officials Typically Play Critical--But
Unaccountable--Roles In Corporate Finance
Conclusions
Conclusions
• Capital-Market Based System Seems To Be
“ Winning”
• All Countries Trying To Promote Capital Markets
For Economic & Pension Funding Reasons
• Technological Advantage Of Capital Markets Is
Proving Decisive
• Industrial Group System Seems To Be A “ Failed
Economic Model”
• Key Questions: What Model Will Be Chosen By
China, Russia, & India?
Topic 4:
Topic 4:
Investment Banking Practices
In International Debt Security
Markets
The International Bond Market
The International Bond Market
• There Is No Unified International Bond Market
• Instead, International Bond Market Has Three
Broad Market Groups:
– Domestic Bonds: Issued By Local Borrower, In
Local Currency
– Foreign Bonds: Sold On Local Market By Foreign
Borrower, In Local Currency
– Eurobonds: Sold Mainly In Countries Other Than
The One Whose Currency Bond Is In
• Wide Variety Of Instruments Issued
Statistical Overview Of World
Bond Markets
Statistical Overview Of World
Bond Markets
• Total Worldwide Value Of Publicly-Issued Bonds
Probably Close To $25 Trillion
• US Domestic Market Accounts For ~45% Of Total
• Government Debt Accounts For Roughly Two-
Thirds Of Total
• Roughly Half Of All Bonds Denominated In $US
• 20-25% Of Bonds Denominated In Yen
– Share Rising Due To Huge Budget Deficits
• Remaining 25-30% In European Currencies
– Euro Share Certain To Rise Over Time
Features Of US Domestic
Bond Market
Features Of US Domestic
Bond Market
• Treasuries O/S Jumped From $1 Trillion To Over
$5 Trillion Due To 1981-96 Deficits
• Rule 415 Dramatically Increased Size, Growth
Rate Of Corporate Market
• Declining Interest Rates 1991-99 Has Prompted
Refinancings
• Securitization A Very Important Feature
• Municipal Bond Market Unique To US
• High-Yield Market Once Again Vibrant
Features Of Key Non-US
Domestic Bond Markets
Features Of Key Non-US
Domestic Bond Markets
• Many Domestic Bond Markets Relatively Small
Until 1990s; Now Growing Fast
• Many Were Reserved For Governments, Banks
– French, Italian Markets Reserved For Govt
– J apanese Market For Govt, Long-Term Banks
– UK, Swiss Markets Always More Open To Firms
– German Market Small Until Unification
• Government Bonds Always Key Assets, Issues
– Gilts (UK), OATs (France) Widely-Held
– IBs Help Issue Bonds, But Low Margins
Foreign Bond Markets
Foreign Bond Markets
• Largest Foreign Bond Markets Traditionally US,
Japan, Switzerland
– $241 Bn Yankee Bonds In 1998, $13 Bn In 1990
• Often Given Colorful Names
– Samurai (J apan), Bulldog (UK), Heidi (Swiss),
Rembrandt (Holland), Matador (Spain) Bonds
• Foreign Bonds Must Meet Local Listing Rules
– Yankee Bonds Must Meet SEC Regulations
– SF Can Be Used Only Foreign, Not Eurobonds
Foreign Bond Markets (Cont.)
Foreign Bond Markets (Cont.)
• Governments Have Reduced Withholding Taxes
– US Interest Equalization Tax Repealed in 1984
– Tax Treaties Determine Rates Of Withholding
– Swiss Stamp Tax Encourages Offshore Trading
• Principal Borrowers In Foreign Bond Markets:
– MNCs Needing Funding In Local Currency
– Multilateral Organizations, Especially World Bank
– National Governments (Forex Reserves), SOEs
Eurobond Market Overview
Eurobond Market Overview
• Eurobond Market Is Totally Self-Regulated
– Birth, Growth Of Market Prompted By Regulation
– Issuing, Trading Rules Set By ISMA
– Clearing Through Euroclear Or Cedel
– Typically Listed On Luxembourg Stock Exchange
• Extremely Innovative, Efficient Market
• Fraction Of Eurobonds In $US Usually 30-65%
– Increases When $ Strong, Declines When $ Weak
– US Citizens Cannot Buy Newly-Issued Bonds
Patterns Observed In
Eurobond Issuance
Patterns Observed In
Eurobond Issuance
• Almost Always Bearer Bonds
• Frequently Dual-Currency Instruments
• Typically Intermediate-Term Debt (5-10 Years)
• Underwriting Syndicate Often Very Large
– Can Have 50-100 Banks For Large Issues
– US Commercial Banks Actively Participate
– Can be Sold In 5 Weeks Or Less
• Often Have Complex Options, Other Features
– J apanese Convertibles Very Popular Until 1990
• Typically Pay Interest Annually
Emerging Market And Brady
Bonds
Emerging Market And Brady
Bonds
• Few International Bond Issues By LDC Until 1990
– Debt Build-Up Of 1970s Mostly Bank Credit
– Latin American Countries Gained Access In 90s
– Asian “Tigers” Had Access Until 1997
• Collapse Of Communism Had Major Impact
– Eastern European Countries Soon Had Access
– Even Russia Could (Briefly) Issue Eurobonds
• Brady Bond Program Very Successful
– Non-Traded Bank Debt Collateralized, Securitized
• Soon Likely To See First Eurobond Defaults
Russia’ Access To Eurobond
Market Was Brief & Painful
Russia’ Access To Eurobond
Market Was Brief & Painful
0 50 100
Jan 1st 98
Nov 4th 98
Restructured
Soviet Debt
Eurobond
2028
Eurobond
2001
The Importance Of Swaps In
International Bond Markets
The Importance Of Swaps In
International Bond Markets
• Many Eurobond Issues Actually Used For Swaps
• Swaps Involve Trading Streams Of Liability
Payments Between Two Parties
– Can Be Interest Rate Or Currency Swaps
– Only Net Amount Trades Hands
• Allows Each Party To Borrow Where They Have
Comparative Advantage
– US Firm Needing Floating-Rate FF Debt
– Can Borrow Cheaply In Fixed-Rate $, Then Swap
• Total Value Estimated To Be Several $Trillion
Key Recent Innovations In
International Debt Markets
Key Recent Innovations In
International Debt Markets
• Floating Rate Notes Launched Early 1980s
– Shifts Interest Rate Risk To Borrower
– Proven Very Popular With Investors
– Critical Parameters: Spread & Index
• Bonds Linked To Gold, Oil, Other Commodities
• Governments Issuing Inflation-Adjusted Bonds
• Pre-1999 European Bonds Often “ Tributary”
– Automatically Convert To Euro If Country J oins
• Euro Launch Certain To Become The Single Most
Important Innovation Ever
Topic 5:
Topic 5:
Bank-Based Investment
Banking Products: Syndicated
Loans & Project Finance
Where Investment &
Commercial Banking Overlap
Where Investment &
Commercial Banking Overlap
• Course Focus On Raising Capital For Firms
• Mostly Done By Investment Banks Or By
Commercial Banks That Have Purchased IB
• For Two Important Products, Markets Overlap:
– Syndicated Loans
– Project Finance
• Syndicated Loan Market Larger Than Any Other
Single Debt Market
– Over $13 Trillion Since 1980, Over $1 Trillion/Year
– Now Largest US Corporate Financing Market
History Of Syndicated Loan
Market
History Of Syndicated Loan
Market
• Syndicated Loans Long Observed In US Markets
– Needed Because Of McFadden Act’s Effects
– One Of Few Remaining “Unchallenged” Markets
• Modern Eurocurrency Loan Market Dates To 1969
– Traditionally Based On Eurodollar Time Deposits
– “Recycling” Of Petrodollars In 1970s To LDCs
– Today Overwhelmingly A Corporate Loan Market
– Takeover Loans The Largest, Most Profitable
• US Banks Dominate Arranging, But Not Funding
– Chase Alone Has 23% Market Share
Typical Features Of
Syndicated Loans
Typical Features Of
Syndicated Loans
• Most Are Significantly Larger Than Bond Issues
– Average Size $146 Million, $1 Billion+ Common
– E53 Billion Olivetti Loan Largest Financing Ever
• Can Be Arranged Very Quickly
– $14 Bn Loan To Chevron Arranged In 48 Hrs
• Structured As Line Of Credit, So Very Flexible
– Can Be Drawn-Down, Repaid As Borrower Needs
• Trend Is To Structure As Security Issues
– Attractive For Banks, Issuers & Investors
Uses Of Syndicated Loans
Uses Of Syndicated Loans
• Uses Of 90,784 Syndicated Loans Since 1980:
– Corporate Control: 10,795 Loans ($2.3 Trillion)
– Capital Structure: 25,313 Loans ($5.3 Trillion)
– General Purpose: 39,653 Loans ($4.3 Trillion)
– Project Finance: 4,956 Loans ($634 Billion)
– Fixed-Asset Loans: 4,680 Loans ($410 Billion)
• Most Common Use Today To Fund M&A
– Record Volume Of Takeovers In US, Europe
– Larger Avg Size ($212m), Spread Than Others
The Syndicate Structure Of
Syndicated Loans
The Syndicate Structure Of
Syndicated Loans
• Lead Manager Role The Most Prestigious & Risky
– Depending Upon Loan Size, May Invest $50 Mn+
– Co-Leads Might Have To Put Up $25 Mn
– Participating Banks $5-15 Mn Required
– Could Have Over 30 Banks For Large Loans
– Average Syndicate Size 11 Banks
• Lion’s Share Of Fees Kept By Lead, Co-Leads
– Average Max Participation Fee 37 Basis Points
– Average Initial Commitment Fees 31 Basis Points
The Pricing & Maturity Of
Syndicated Loans
The Pricing & Maturity Of
Syndicated Loans
• Most Are Priced As Spread Above LIBOR
– 69% Priced Versus LIBOR
– Other Benchmarks: SIBOR, HIBOR, US Prime
– Only 6% Have Fixed Rate Pricing
– Average Spread Vs. LIBOR: 134 Basis Points
• Loans Typically Short To Intermediate Term
– Average Maturity 4.8 Years
– Except For PF, Loans Over 10 Years Fairly Rare
Nationalities Of Syndicated
Loans Borrowers, 1980-99
Nationalities Of Syndicated
Loans Borrowers, 1980-99
Borrower Nationality Total Value, $Bn % Of Total
United States $8,170 61.4%
United Kingdom $1,230 9.3%
Other EU $1,383 10.4%
South East Asia $688 5.2%
Australia $349 2.6%
The Rise Of Project Finance
The Rise Of Project Finance
• Specialized Loan Form Pioneered In North Sea
• Limited Or Non-Recourse Lending To A Specially-
Created Vehicle Company
• Ideally Suited For Infrastructure Lending In
Relatively Risky Countries
• Though Many Successes, Best Known For Three
Financial Failures:
– Channel Tunnel (Eurotunnel)
– Euro Disneyland
– Dabhol India Power Project (Enron)
Characteristics Of Project
Finance Lending
Characteristics Of Project
Finance Lending
• Stand-Alone Financing; No Corporate Backing
• Highly Complex Contracting Between Parties:
– Project Sponsors (MNCs, Governments)
– Vehicle Company: Owns & Operates Project
– Lenders & Guarantors (ECAs, World Bank)
• Long-Term Lending For Tangible Assets
– Natural Resource Or Energy Projects
– Infrastructure (Roads, Tunnels, Bridges, Ports)
• Build Operate Transfer (BOT) Often Used For
Infrastructure Projects
Project Finance Borrowers,
By Industry, 1980-99
Project Finance Borrowers,
By Industry, 1980-99
Borrower Industry Total Value, $Bn % Of Total
Electric Utility $137 21.5%
Oil & Gas $120 18.8%
Communications $51 8.1%
Transportation $49 7.7%
Mining & Natural
Resources
28 4.4%
Project Finance Borrowers,
By Nationality, 1980-99
Project Finance Borrowers,
By Nationality, 1980-99
Borrower Nationality Total Value, $Bn % Of Total
South East Asia $151 23.8%
United States $107 16.8%
United Kingdom $92 14.5%
Other EU $66 10.3%
Middle East $59 9.3%
Latin America $52 8.3%
How Project Finance Loans Differ
From Other Syndicated Credits
How Project Finance Loans Differ
From Other Syndicated Credits
• Smaller Loans, But Larger Syndicates
– Average Size $128 Mn (Versus $146 Mn)
– 14.5 Banks In PF Loan Syndicate (Vs. 10.7)
– Higher Total Fees For PF: 93 bp Vs. 67.7 bp
• PFLs Much Longer Term, To Riskier Borrowers
– Average Maturity 8.6 Yrs Vs. 4.8 Yrs
– Average Risk Rank of 31.8 For PFL Vs. 12.8
– Only 11.6% Of PFL To US Borrowers Vs. 56.9%
• Pricing, However, Very Similar
– Average Spread On PFL 130 bp Vs. 134 bp
Six Largest Project Finance
Loans Since 1980
Six Largest Project Finance
Loans Since 1980
Borrower Name Launch Date Amount, $Bn
Eurotunnel plc June 90 $13.2
Eurotunnel plc Aug 87 $7.9
Formosa Plastics Mar 93 $5.5
Qatar Liquified Gas Feb 93 $4.2
Railtrack plc Nov 95 $3.7
NEXTEL Communictns Jan 98 $1.7
Summary Of Syndicated
Loans & Project Finance
Summary Of Syndicated
Loans & Project Finance
• Both SL And PFL Have Emerged As Important
Capital-Raising Tools
• Seem To Be Gaining Market Share
– SL Especially Useful For M&A Financing
– PFL Can Fund Otherwise Unfinanceable Projects
• Ideal Instruments For Corporate Borrowers,
Unless Truly L-T Funding Required
– Never Shut Down Last Year, As Markets Did
• One Of Few Areas Where Commercial Banks
Have Held Market Share
Topic 6:
Topic 6:
International Stock Markets &
Privatization’s Critical Role In
Their Development
Non-US Stock Markets Historically
Limited In Scale & Scope
Non-US Stock Markets Historically
Limited In Scale & Scope
• Outside Of US & UK, National Stock Markets Small,
Dominated By A Few Stocks
– US, UK, Swiss Market Cap > 100% Of GDP
– Most European Market Caps $25 Trillion
• DJIA Was 775 In 1982; Now 11,000
– Many European, Asian Markets Up Even More
• Average US Trading Volume Increased 20 Times
Since Late-1970s
– Non-US Markets Even Greater % Growth
– Emerging Markets Greatest % Growth & Volatility
• Number Of S/Hs has Increased Phenomenally
– Roughly Half Of US Adults Own Stock
– Figures In EU Often In 20-35% Range
Factors Accounting For
Stock Market Growth
Factors Accounting For
Stock Market Growth
• Economic Prosperity & End Of Cold War
• Spread Of Economic Liberalism, Democracy
• Liberalization Of Trade In Goods & Services
• Spread & Increased Capabilities Of Technology
• Rapid Growth Of FDI, Portfolio Investment
• Spread Of Funded Pension Systems
• European Integration & Launch Of Euro
• Growth Of “ Equity Culture” In EU
– Evidenced By Success Of German Neue Market
World Economic Growth
Rates,1968-1997
World Economic Growth
Rates,1968-1997
0
1
2
3
4
5
6
7
1968 80 92
Percent Change in “ World GDP” Over Previous Year
The Growth In World Trade,
1968-1997
The Growth In World Trade,
1968-1997
0
1000
2000
3000
4000
5000
6000
1
9
6
8
7
2
7
6
8
0
8
4
8
8
9
2
9
6
Total Value Of Exports, $ Billions
World
Industrial Countries
Foreign Direct Investment Has Grown
Dramatically Since Early-1980s
Foreign Direct Investment Has Grown
Dramatically Since Early-1980s
0
200
400
600
800
1000
1200
1400
1600
1970 82 94
Investment Flows By Multinational Corporations, $ Bn
Adjusted FDI Outflows
FDI Outflows
But Most Important Reason For
Growth Of Non-US Stock Markets
But Most Important Reason For
Growth Of Non-US Stock Markets
PRIVATIZATION
(Particularly Share Issue Privatizations)
Brief History Of Privatization
Brief History Of Privatization
• FRG’s Adenauer Government Actually First (1961)
• Small British Petroleum, Other Sales (1977)
• First Thatcher Government (1979-83)
• The Turning Point: British Telecom (Nov 84)
• Chile Shows Privatization Possible in DCs (80-85)
• The French Chirac Government (1986-88)
• Privatization Spreads To Asia (NTT 1987-88)
• Telefonos de Chile Pioneers ADRs (1990)
• European SDs Embrace Privatization (Since 1993)
The Impact of Privatization
The Impact of Privatization
• Has Significantly Reduced State’s Role in OECD
– SOEs Effectively Eliminated From UK Economy
– Rapidly Shrinking Role In Western Europe, Asia
• Transition Economies Have Been Transformed
– SOE Role Cut Up To Two-Thirds In Eastern Europe
– Russia Privatized, But Not Commercialized
• Much Less Change In Developing Countries
– Little Change In Africa, Latin America
– Non-OECD Asia Has Actually Increased
• Little Impact Thus Far In China, India
Privatization’s Impact on Stock
Market Capitalization
Privatization’s Impact on Stock
Market Capitalization
• 34 SIPs Firms Have Market Caps > $15 bn
• 75 of Business Week Global 1000 Are SIPs
• 29 of BW Top 100 Emerging Markets Firms SIPs
– Four Largest Firms All SIPs
– SIPs Account For 36.6% of Top 100 Total Value
• Total Capitalization of 104 SIPs, $1.683 Trillion
– Equal to 9.7% of Combined BW Samples
– Equal to 20.1% of non-US Firms Market Cap
• SIPs Almost Always Country’s Largest Cap Firm
Market Value & Country Rank of
Privatized Firms (BW Global 1000)
Market Value & Country Rank of
Privatized Firms (BW Global 1000)
Company Rank Mkt Cap ($ mm)
Nippon Tel & Tel 1 130,911
British Petroleum 2 85,283
Deutsche Telekom 2 73,640
British Telecom 6 66,261
ENI 1 56,424
France Telecom 1 56,011
Telecom Italia 2 51,301
Telefonica 1 45,854
Market Value & Country Rank of
Privatized Firms (Emerging Markets)
Market Value & Country Rank of
Privatized Firms (Emerging Markets)
Company Country Mkt Cap ($ mm)
Gazprom Russia 20,462
Telebras Brazil 32,759
China Telecom China (HK/SAR) 20,676
Telmex Mexico 19,999
Hellenic Telecom Greece 13,334
YPF Argentina 10,983
Telekom Malaysia Malaysia 6,871
Korea Elec Power Korea 6,293
Privatizations As Equity Issues
Privatizations As Equity Issues
• 18 Largest Share Offerings Are All SIPs
• 29 SIPs Larger Than $4.4 bn Conoco IPO (Oct 98)
• 41 Of 47 Issues Over $3 bn Are SIPs
• 630+ SIPs Have Raised > $500 bn Since 1977
• 112 SIPs Have Raised More Than $1 bn
• Differences From Private-Sector Issues:
– Typically Pure Secondary Offerings
– Highly Politicized Offer Terms & Share Allocations
• SIPs Almost Always Nation’s Largest Share Issue
The Largest Share Offerings In
Financial History Are All SIPs
The Largest Share Offerings In
Financial History Are All SIPs
Nov 87 Nippon Tel & Tel $40.3 bn
Oct 88 Nippon Tel & Tel 22.4
Oct 98 NTT DoCoMo * 18.4
Oct 97 Telecom Italia 15.5
Feb 87 Nippon Tel & Tel * 15.1
Nov 96 Deutsche Telekom * 13.3
Oct 87 British Petroleum 12.4
Nov 97 Telstra * 10.5
Nov 98 France Telecom 10.5
Governments Use Three Basic
Methods To Privatize
Governments Use Three Basic
Methods To Privatize
• Direct (Asset) Sale: Sale Of A Company To Another
Firm Or Group Of Investors For Cash.
• Share Issue Privatizations (SIPs): Public Offering
of Common Stock Currently Owned By Government.
• Voucher Privatization: Exchangeable Vouchers
Distributed To Citizens For Free (Or At Reduced
Cost). Convertible Into SOE Shares.
Characteristics Of SIPs Versus
Asset Sales
Characteristics Of SIPs Versus
Asset Sales
Variables SIPs Asset Sales
#Of Privatizations 558 831
#Of Countries 58 71
% Of Capital Sold 44% 71%
(Median) (30%) (76%)
$US Offer Size, mm $748 $212
(Median) ($138) ($49)
Total $US Sold, mm $417,532 $175,988
How Politicized Are Pricing &
Share Allocation Terms In SIPs?
How Politicized Are Pricing &
Share Allocation Terms In SIPs?
• Results From One Forthcoming Study:
– Find SIPs Significantly & Deliberately Underpriced
– Govts Almost Always Choose Fixed Price Offers
– Allocate Shares To Citizens, SOE Employees
– Few Govts Sell 100%, Rarely Sell Control
– Often Have Control Restrictions (“Golden Share”)
– IR Directly Related To % Capital Sold, Gini Coeff
– IR Negatively Related To Govt’s “Populism”
– IR Not Significantly Related To Firm Size (Not AI)
Average Pricing, Share & Control
Allocation Terms In SIPs
Average Pricing, Share & Control
Allocation Terms In SIPs
Variable Initial SIPs Seasoned SIPs
Issue Size, $US mm 555.7 1,068.9
Initial Return, % 34.1 9.4
% Offer At Fixed Price 85.0 61.0
Gross Spread, % 4.4 2.5
% w/Employ Allocation 91.0 65.8
Employee Allocation % 8.5 4.8
% Of Capital Sold 43.9 22.7
% w/Control Restriction 93 (UK) 76 (Non-UK)
Have Investors Benefited From
Privatization?
Have Investors Benefited From
Privatization?
• Paper Studies L-R Returns For 201 Unseasoned &
63 Seasoned SIPs From 36 Countries, 1981-97:
– Compute 1,3 & 5-Yr HPR In $ And Local Currency
– Compare HPR To Local, World & US Market Index
– Also Compute Matching-Firm Returns Based On
Currency, Size And Industry
– Test Significance Of Net Returns, WR, % Positive
– Document Significantly Positive LRR For IPOs
– Find Insignificant LRR For Seasoned Issues
Investment Banking
Practices In Privatizations
Investment Banking
Practices In Privatizations
• Lead Privatization Underwriters Are British
– N. M. Rothschild The Leader Most Years
– US Firms Still Strong (Goldman, Morgan Stanley)
• Most SIPs Use Fixed Price Offerings
• Spreads Much Lower Than In Private Offers
• Share Allocations Vastly Different
• SIPs Are Cash Offers, Not Rights Issues As In EU
• SIPS Leading To Spread Of US-Style U/W Tools
– Book-Building And Price Discovery
Topic 7:
Topic 7:
The Euro’s Likely Impact On
Global Capital Markets
The Long Birth Of A New
Super-Currency
The Long Birth Of A New
Super-Currency
• Deep Roots Of European Monetary, Political Union
• Several Attempts To Fix Intra-European Forex
Rates Since 1973 Collapse Of Bretton Woods
• German Mark Served As Benchmark Currency
• Convergence Began to Occur During 1980s
• EMU Rates Locked In 1987: Seemed To Work
• Maastricht Treaty 1991 Set Course For Monetary
Union By 1999
– Established Macroeconomic Conditions For Entry
– Only Hard Core Actually Expected In Round 1
The Long Birth Of A New
Super-Currency (Cont.)
The Long Birth Of A New
Super-Currency (Cont.)
• Early 1990s Saw Repeated Crises
– UK, Italy Knocked Out Of EMS In Sept 1992
– Narrow Currency Bands Widened In Aug 1993
– Very Few Countries Meeting Targets Thru 1996
• Peculiar Dynamic Took Hold In Mid-90s:
– No Country Wanted To Be Precluded From Entry
– Spain, Italy, Portugal All Began Fiscal Tightening
– Franc Fort Withstood Political, Financial Crises
– Political Will To Succeed Became Overwhelming
The Long Birth Of A New
Super-Currency (Cont.)
The Long Birth Of A New
Super-Currency (Cont.)
• At Final Accession Meeting, 11 Countries Invited
– All Who Wanted In Except Greece Allowed In
– Greece Likely In 2001-02
– UK, Sweden, Denmark Opted Not To J oin
– Switzerland, Norway Voted Not To J oin EU
• Euro Began Life As Currency Jan 2, 1999
– Began At $1.17/E, But Then Steadily Declined
– Notes & Coins Won’t Circulate Until J an 2002
– Few European Citizens Enraptured By Euro
Monetary Policy In New
Euro Zone
Monetary Policy In New
Euro Zone
• European Central Bank Set Up As Monetary Body
– National CBs Are “Branches” Of ECB
– Headquartered In Frankfurt, English As Language
– Wim Duisenberg First Head (French Objected)
• ECB Set Up To Have Great Independence
– Not Really Accountable To Any Elected Body
– Not Required To Publish Minutes
– Given Sole Task Of Maintaining Price Stability
– Much Agitation For A “Political Counter-Weight”
Many Early Signs Have
Been Hopeful For Euro
Many Early Signs Have
Been Hopeful For Euro
• Launch Went Well, With No Technical Problems
• Pricing Initially Limited To Financial Markets
• Overwhelming Support By European Elites For
Monetary Union
• Begins Life With Very Low Inflation In EU
• Europe Growing Steadily During 1999
• Many Countries Hoping To Join EU & EMU
• Lead To Immediate Surge In Capital Market
Issues Denominated In Euros
• EU Banks Making Strong Run For Top Tier
Other Signs Much Less
Positive
Other Signs Much Less
Positive
• Due To Interest & Growth Rate Differentials, Has
Been A Weak Currency Vs. Dollar
– But Also Weak Versus £ And ¥
– Good For Exports, Bad For Investor Confidence
• Differential Growth Rates In EU Troubling
– Periphery Growing Fast, Core Barely Growing
– Monetary Policy Set By Core, Bad For Others
• UK, Switzerland Outside By Choice
• Flawed Nature Of EU, ECB Decision-Making
• Structural Nature Of EU Economic Problems
Europe Has Long-Term Growth,
Competitiveness Problems
Europe Has Long-Term Growth,
Competitiveness Problems
• Several Core Competitiveness Problems
– Excessive Regulation Of All Markets
– Unemployment, Total Lack of J ob Creation
– Noncompetitive Tax, Welfare Regimes
– Relatively Weak Capital Markets
– Technology Lagging U.S., J apan
– Pay As You Go Pension Systems
– Very Slow Population Growth
Europe’s Unemployment Rate
Europe’s Unemployment Rate
0
2
4
6
8
10
12
1974 84 94
European
Uni on
North Ameri ca
Japan
Job Creation: Europe’s Great
Economic Failing
Job Creation: Europe’s Great
Economic Failing
-5
0
5
10
15
20
25
30
35
40
North Ameri ca European
Uni on
Government
Private
Estimated Change 1970-94, Millions
Weak Capital Markets: Europe’s
Great Financial Failing
Weak Capital Markets: Europe’s
Great Financial Failing
$ Bn % of GDP
Spain 11 2
Italy 23 2
France 50 4
Germany 111 6
USA 4,527 67
Private Pension Financing, 1994
Europe’s Fiscal Time Bomb:
Unfunded Pension Liabilities
Europe’s Fiscal Time Bomb:
Unfunded Pension Liabilities
France 42.4 113.6
Germany 52.5 110.7
Italy 112.9 75.5
J apan 33.2 106.8
USA 63.3 25.7
UK 37.7 4.6
As % of GDP
Net Public
Debt,
End 1994
Net Pension
Liability,
1995-2050
Europe’s Technology Gap
Europe’s Technology Gap
Business With
Internet Access
47% 61%
Households With
Internet Access
5.5% 18%
Total Spending On
Info Technology
$196 bn $320 bn
Total Spending on
Telecom Services
$182 bn $230 bn
Households With
Personal Computers
24% 46%
Europe U.S.
In Spite Of Problems, Euro’s
Long-Term Outlook Is Positive
In Spite Of Problems, Euro’s
Long-Term Outlook Is Positive
• Europe Has Formidable Economic Strengths
– Economy Comparable To US, Larger Population
– Higher Share Of World Trade (15% Vs 12%)
– Much Higher Savings Rate Than US
• US Running Persistent Current Account Deficits
• Diversification Of World Reserves Favors Euro
• Euro’s Launch Likely To Promote Reforms
– Will Foster Great Price Transparency, Competition
• Capital Markets Likely To Grow Fast To “ Catch Up”
Topic 8:
Topic 8:
The Increasing Importance of
Mergers & Acquisitions To The
Global IB Industry
What A Year!
What A Year!
• 1998 Broke All Records For M&A
• $2.51 Trillion In Announced Deals Worldwide
– 54% Higher Than 1997’s Level (Previous Record)
– $2.09 Trillion In Completed Deals
• $1.63 Trillion In US Announced Deals
– 79% Higher Than 1997’s Record Level
– $1.32 Trillion In Completed Deals
• Hugely Profitable For Investment Bankers
– Total Disclosed Fees In US $2.68 Billion
The Role Of Investment Bankers In
M&A Transactions
The Role Of Investment Bankers In
M&A Transactions
• Both Bidder & Targets Use IBs
– Provide Advice, Certification, Even Financing
• Often Brought In To Initiate Takeovers
– Firm Wishing To Be Acquired Can Use IB
– Prospective Acquirers Use IBs To Shop
– Both Parties Seeking Contacts, Advice, Discretion
• Always Brought In Once Bid Is Underway
– Especially Important In Contested Bids
– Extremely Important Role In Valuation
The Role Of Investment Bankers In
M&A Transactions (Cont.)
The Role Of Investment Bankers In
M&A Transactions (Cont.)
• Roles Differ In Cash Versus Stock Mergers
– Cash Deals: Financial, Strategic Advice
– Stock Deals: Legal, Regulatory, Governance
Advice; More Complicated, Longer Process
– Cross-Border Deals Usually Pay With Cash
• Roles Differ In Friendly Versus Hostile Mergers
– Vast Majority Of M&As Are Friendly
– IBs Help Arrange, Sell Deal To S/Hs, Regulators
– In Hostile Deals, Play Strategic Role, Find White
Knights
M&A Becoming Increasingly
International
M&A Becoming Increasingly
International
• Cross-Border Deals Now One-Quarter Of Total
– $685 Bn In 1998 Versus $399 Bn In 1997
– $292 Bn Of These Involved European Targets
– $247 Bn Involved US Targets
• Total Deals With European Targets $529 Bn 1998
– Involves Both Intra-National, Cross-Border Deals
– Biggest Deal Of 1998: ZENECA/Astra ($34Bn)
– Two Mega-Mergers So far In 1999
• Europeans Largest Intl Acquirers Of US Firms
– UK, Germany, Canada, France, Netherlands
Even In European M&A,
However, US Banks Dominate
Even In European M&A,
However, US Banks Dominate
Financial Adviser Value Announced Deals
Morgan Stanley Dean Witter $174 Bn
Goldman, Sachs $173 Bn
Credit Suisse First Boston $101 Bn
Merrill Lynch $81 Bn
J.P. Morgan $79 Bn
Warburg Dillon Read $78 Bn
In US: Goldman Sachs Out
Front, Pulling Away
In US: Goldman Sachs Out
Front, Pulling Away
Financial Adviser Value Announced Deals
Goldman, Sachs $756 Bn
Merrill Lynch $520 Bn
Salomon Smith Barney $430 Bn
Morgan Stanley Dean Witter $417 Bn
Credit Suisse First Boston $298 Bn
J.P. Morgan $214 Bn
1998 Saw Largest Announced
Mergers In US History
1998 Saw Largest Announced
Mergers In US History
Target Name Bidder Name Deal Value
Mobil Exxon $79 Bn
Citicorp Travelers $73 Bn
Ameritech SBC Communicat $63 Bn
BankAmerica NationsBank $62 Bn
TCI AT&T $53 Bn
GTE Bell Atlantic $53 Bn
Amoco British Petroleum $48 Bn
Chrysler Daimler-Benz $40 Bn
1999 Shaping Up As Another
Good Year, Particularly In Europe
1999 Shaping Up As Another
Good Year, Particularly In Europe
• Two Colossal Mergers Underway In EU
– BNP Vs Societe Generale, Paribas In France
– Olivetti Vs. Telecom Italia, Deutsche Telecom
– Five Of Six Contestants Are Privatized Firms
• EU Integration, Competition Driving Mergers
– Search For Scale & Synergies
– Synergies Hard To Achieve If Staff Cuts Required
• Large Cross-Border Mergers Still Quite Rare
– Hostile Cross-Border Deals Non-Existent
Topic 9:
Topic 9:
American Investment Banking
Characteristics And Industry
Practices
Finance In America: An
Enormous Industry
Finance In America: An
Enormous Industry
• Finance Accounts For 11% Of US GDP
• In NYC Alone, Brokerage Firms Employ 250K+
• Financial Markets Play A Large Role In US Life
– Only Rivaled In Impact By Switzerland, UK
– Pension Fund Assets Now $6.4 Trillion
– 25% Of Americans Own Stock Directly
– Half Own Stock Directly Or Thru Pension Funds
– Stock Mkt “Wealth Effect” Has Fueled Spending
– Entrepreneurship Key Part Of US Culture
– “The Business Of America Is Business”
US Investment Banking
Provides Many Retail Services
US Investment Banking
Provides Many Retail Services
• Retail Brokerage Business Unusually Important
– Merrill Lynch Pioneered After WWII
– Over 5,000 Mutual Funds Available
• Asset Management A Large & Growing Business
– IBs Compete With Specialized Asset Managers
– Fidelity, Vanguard Family Of Funds
• Provide Trust, Custodial Services
– Compete With Commercial Bank Trust Depts
• Money Market Mutual Funds, CMAs Have Been
Enormously Successful
Will Concentrate On Services
Provided To Corporations
Will Concentrate On Services
Provided To Corporations
• Provide Advice To Firms On Financing, M&A
• Provide Risk Management, Hedging Tools
• Help Private Firms Go Public (Next Topic)
• Help Public Firms Go Private (LBOs)
• Offer Merchant Banking Services, Venture Capital
• Arrange Private Financing (Private Placements)
• Guide Issuing Firms Through Regulatory Process
• Underwrite Security Offerings
– The Focus Of This Topic
Many Types Of Securities
Sold On US Capital Markets
Many Types Of Securities
Sold On US Capital Markets
• Short & Intermediate Term Debt Securities
– Treasury Bills: Sold Directly By Govt
– Commercial Paper: 270 Day Maturity Or Less
– Medium-Term Notes: Floating & Fixed Rate
– Asset-Backed Securities: Credit Card, Car Loans
• Long-Term Government Securities
– Treasury Notes & Bonds: Looming “Shortage”
– “Agency Securities”: Backed Implicitly Or Explicitly
By US Government
– Municipal Sec: Revenue & General Obligation
Many Types Of Securities
Sold On US Markets (Cont.)
Many Types Of Securities
Sold On US Markets (Cont.)
• Long-Term Corporate Debt Securities
– Mortgage Bonds, Equipment Trust Receipts
– Corporate Debentures
– High-Yield Debt (J unk Bonds)
– Collateralized Securities: MBS, ABS
– Convertible Debt
• Equity Securities
– Preferred Stock: Convertible & Nonconvertible
– Common Stock: Seasoned & Unseasoned
Many Types Of Underwritings
Observed In US
Many Types Of Underwritings
Observed In US
• Best Efforts Versus Firm Commitment
– Most Issues Are Firm Commitments
• Competitive Versus Negotiated Underwriting
– Negotiated Used Unless Competitive Required
• Rights Offering Versus General Cash Offer
– Unlike EU, Rights Offering Rare In US
• Private Placement Versus Registered Public Offer
– Spectrum Of Privates: LPs, True PP, Rule 144A
– Three Levels Of ADRs For Non-US Issuers
– Shelf Versus Traditional Registered Offer
Overview Of The
Registration Process
Overview Of The
Registration Process
• All Securities Offered For Public Sale Must Be
Registered & Approved By SEC (SEC Act of 1934)
• Disclosure Procedures Detailed In Securities Act
– Most Security Offerings Must Use Form S-1
– S-1 Requires 3 Yrs Audited Data, Reg S-X Acctg
– Smaller Firms (
Banking Industry
The International Investment
Banking Industry
The Swiss Banking Institute
Zurich, Switzerland
June 24 & 25, 1999
Presented By
Presented By
William L. Megginson
Professor & Rainbolt Chair In Finance
The University of Oklahoma USA
&
Visiting Professor Of Banking & Finance
Swiss Banking Institute
Zurich, Switzerland
[email protected]
What Is Investment Banking?
What Is Investment Banking?
• Can Be Defined To Encompass Many Activities
• Definition Usually Involves At Least:
– Underwriting And Distributing New Security Issues
– Offering Brokerage Services To Public &
Institutional Investors
– Providing Financial Advice To Corporate Clients,
Especially On Security Issues, M&A Deals
– Providing Financial Research To Investors,
Corporate Customers
– Market-Making In Particular Securities
De Facto Definition OF IB
Today Is Much Broader
De Facto Definition OF IB
Today Is Much Broader
• Many IB Firms Now Offer Additional Services:
– Providing Fee-Based Asset Management Services
– Proprietary Trading For Customers, Own Account
– Merchant Banking, Venture Capital Investing
– Providing Bridge Loans For M&A, New Financing
– Arranging & Funding Syndicated Loans
– Foreign Exchange Trading & Hedging
– Arranging Swaps, Other Risk Management Tools
– Providing Private Banking Services
Risks Assumed By Financial
Intermediaries
Risks Assumed By Financial
Intermediaries
• Financial Intermediaries Defined By Type Of Risk
They Assume:
– Commercial Banks Assume Credit Risk
– Insurance Companies Assume Event Risk
– Investment Bankers Assume Market Risk
• Course Will Focus On IB’s Classic Corporate
Finance Role Of Bearing Market Risk:
– Specifically, Underwriting & Selling Securities
– Other Roles Important, But Not Unique To IB
Key Laws Governing
Investment Banking Practices
Key Laws Governing
Investment Banking Practices
• Most Key Rules Of The Game Set By Depression-
Era US Laws:
– Securities Act of 1933 Mandated Disclosure Of All
Relevant Information In Security Issues
– Glass-Steagall Act of 1933 (Not Really Act Itself)
Separated Investment & Commercial Banking
– Securities & Exchange Act Of 1934 Set Up SEC,
Established Financing & Governance Procedures
• Though Frequently Amended, All Are Still Law
– Glass-Steagall Weakened, But Not Repealed
International Rules & Treaties
Much Less Stringent
International Rules & Treaties
Much Less Stringent
• European Countries Generally Less Restrictive
– Germany Allows Universal Banking
– Other Countries Allow Almost As Much Freedom
– UK The Center Of International Finance & British
Commercial Law Is The De Facto Standard
• Japan Saddled With Article 65 By Occupation
• Eurobond, Eurocurrency Markets Unregulated
• UK Big Bang Of 1986 Solidified London’s Position
• Basle Accords Of 1988 Set Capital Standards For
International Banks
Course Will Cover Ten Key
Topics
Course Will Cover Ten Key
Topics
• Patterns in Worldwide Securities Issuance During
The 1990s
• The Strengths, Weaknesses, And Strategies Of
The Key Players In The IB Industry
• Capital Markets And The Three Basic Models Of
Corporate Finance
• Investment Banking Practices In International
Debt Security Markets (Eurobonds, MTN, etc)
• Bank-Based IB Products (Syndicated Loans And
Project Finance)
Course Will Cover Ten Key
Topics (Cont.)
Course Will Cover Ten Key
Topics (Cont.)
• International Stock Markets & Privatization’s
Critical Role In Their Development
• The Euro’s Likely Impact On Global Capital
Markets
• The Increasing Importance of Mergers &
Acquisitions To The Global IB Industry
• American Investment Banking Characteristics
And Industry Practices
• Venture Capital And Initial Public Offerings In The
United States
Course Will Conclude With A
Summary of Key IB Challenges
Course Will Conclude With A
Summary of Key IB Challenges
• The Impact Of Information Technology &
Telecommunications On Investment Banking
• Deregulation, Privatization, and The Growth of
Private Infrastructure Financing
• The Rise of Funded Pension Systems
• Dueling Currencies: Dollarization and The Growth
of Euro Zone Capital Markets
• The Continuing Rise Of The Bulge Bracket
• Are Financial Groups The Wave Of The Future?
Topic 1:
Topic 1:
Patterns In Worldwide
Securities Issuance
During The 1990s
Trends In Investment
Banking Worldwide
Trends In Investment
Banking Worldwide
• The Revolutionary 1990s: An Incredible Decade
• $15 Trillion In Total Security Issuance
• $10 Trillion In Mergers & Acquisitions
• A Major New Currency Is Born
• Privatization & The Growth Of Stock Markets
• Capital Markets Vs Banks In Corporate Finance
• The Evolution Of A Truly Global Industry
• US Industry Practices Spreading Worldwide
• The Rise of Funded Pension Programs
Details Of Worldwide Securities
Issuance During the 1990s
Details Of Worldwide Securities
Issuance During the 1990s
• Over $2.5 Trillion Securities Issued On Public
Capital Markets Worldwide During 1998
• Almost $0.5 Trillion More In Private Placements
• Over $15 Trillion Total Public Offers This Decade
• Each Year, US Issuers Account For Two-Thirds Of
Total Public Issue Volume, Most Private Issues
• Debt Securities Account For Over Three-Fourths
Of Total Every Year
• New Common Stock Issues Play Small Role In
Corporate Finance Everywhere, Even US
Number And Value Of Worldwide
Security Issues In 1998
Number And Value Of Worldwide
Security Issues In 1998
Security Type # Of Offerings Value $US Bn
Total Debt & Equity 17,906 $2,532
International Debt 4,682 $888
Eurobonds 2,735 $606
Yankee Bonds 1,704 $241
International
Common Stock
575 $74
Number And Value Of Public Security
Offerings By US Issuers In 1998
Number And Value Of Public Security
Offerings By US Issuers In 1998
Security Type # Of Offerings Value $US Bn
All Domestic Issues 14,395 $1,820
Capital-Raising Issues 12,121 $1,228
Investment-Grade
Debt
10,850 $1,065
Corporate Debt 6,406 $654
Collateralized
Securities
2,151 $561
Number And Value Of Public Security
Offerings By US Issuers (Continued)
Number And Value Of Public Security
Offerings By US Issuers (Continued)
Security Type # Of Offerings Value $US Bn
Tax-Exempt Municipal
Bonds
13,469 $265
Common Stock 240 $108
Initial Public Offerings 372 $37
Preferred Stock 238 $42
Convertible Debt &
Preferred Stock
167 $33
Number And Value Of Private
Placements On US Markets In 1998
Number And Value Of Private
Placements On US Markets In 1998
Security Type # Of Offerings Value $US Bn
Overall Private
Placements
4,049 $464
Rule 144A Offers 2,635 $336
Straight Debt 3,450 $363
Plain Vanilla Equity 417 $75
Yankee Private
Placements
1,110 $147
The Importance Of Privatizations
To Global Capital Markets
The Importance Of Privatizations
To Global Capital Markets
• Not Included In Most Previous Totals Of
International Common Stock Issuance
• The 18 Largest Stock Offerings In History Have
All Been SIPs
• 675+ SIPs Have Raised Almost $700 Billion Since
1980, Over Two-Thirds Of This Since 1990
• Outside Of Entire US Corporate Sector, SIPs The
Largest Total Equity Offerings Ever
• Have Transformed Liquidity, Total Capitalization
Of Most Non-US Stock Markets
Privatization Proceeds
$US Billions
Privatization Proceeds
$US Billions
0
20
40
60
80
100
120
140
160
180
1
9
8
1
8
3
8
5
8
7
8
9
9
1
9
3
9
5
9
7
Major Changes To The Investment
Banking Industry Since 1970
Major Changes To The Investment
Banking Industry Since 1970
• Major Changes Began In US In Early-1970s
– After DLJ ’s 1970 IPO, Most Firms Went Public
– Collapse Of Bretton Woods, Rise Of OPEC In
1973 Increased Volatility In Financial Markets
– ERISA Of 1974 Mandated Prudent Man Rule For
Pension Fund Managers
– May Day 1975 Repeal Of Fixed Commissions
• Changes Accelerated In 1980s:
– Rule 415 (Shelf Registration) Adopted In 1982
– Wave Of Mergers And Consolidation
Major Changes To The Investment
Banking Industry Since 1970 (Cont.)
Major Changes To The Investment
Banking Industry Since 1970 (Cont.)
• International Capital Markets Began To Grow
Dramatically Shortly After US Markets:
– UK Markets Propelled By Privatizations, Big Bang
– Privatizations, Competition, Deregulation Also
Boosted Other European Markets
– International P/F Investment Began In 1980s,
Surged In 1990s
– EEC & EU Market Integration Initiatives
– Development Of GDR In 1990 For Equity Offers
• US Adoption Of Rule 144A Opened New Market
Shocks To International IB
Industry During Mid & Late-1990s
Shocks To International IB
Industry During Mid & Late-1990s
• As Markets Grew, They Became More Volatile:
– Mexican Devaluation & Tequila Effect Shocked
Latin American Operations, Issues (Dec 1994)
– Asian Economic Crisis Destroyed Great Wealth,
Turned P/F Investment Negative (J uly 1997)
– Russian Default Caused Flight From Risky Assets
In All Financial Markets (Aug 1998)
– LTCM Near-Collapse Almost Disastrous (Sep 98)
• Somehow, Industry Survived & Prospered
– However, Late 1998 A Very Frightening Period
Asian Financial Markets
Were Devastated By Crisis
Asian Financial Markets
Were Devastated By Crisis
0 20 40 60 80
Indonesia
Philippines
Thailand
South Korea
Malaysia
Hong Kong
Taiwan
Singapore
End 1998
Peak 1998
End 1996
Investment Banking Trends
Emerging In 1999
Investment Banking Trends
Emerging In 1999
• Tremendous Surge In Euro-Denominated
Securities After Launch
– E15 bn First Two Months Exceeded $ Total
• Continuing Growth In Issuance By US Firms
– IPO Market Dominated By Internet Offerings
• Rebirth Of Investor Interest In Emerging Markets
• Continuing Surge In M&A Activity, Privatizations
• The Race To Join The Global Bulge Bracket
Topic 2:
Topic 2:
Key Players In The
International Investment
Banking Industry
Everybody Wants To Be An
Investment Banker
Everybody Wants To Be An
Investment Banker
• Extremely Attractive Industry Due To Growth,
Profitability, Glamour, and Economic Impact
• Long Dominated By “ Bulge Bracket” US Firms
• Most Investment Banking Houses Now Part Of
Larger Financial Groups
• European Commercial Banks Have Tried To Buy
Their Way Into Top Ranks
• American Firms’ Grip On US Market, M&A
Expertise Key Competitive Advantages
The Life And Death Importance of
League Tables
The Life And Death Importance of
League Tables
• Rankings of IB Firms Compiled By Euromoney,
IDD Called League Tables
• Compile Rankings For Many Categories
• Firms Tend To Emphasize Those Where They
Look The Best (Security, Region, Currency, etc)
• Great Stability in Relative Rankings--The Bulge
Bracket Rarely Changes
• Firms Both Compete And Cooperate On Deals
• Lead Manager Position Carries Most Prestige And
Largest Fees
Top 15 Investment Banking Firms,
Ranked By 1998 Underwriting
Top 15 Investment Banking Firms,
Ranked By 1998 Underwriting
Company Total Proceeds, $Bn
Merrill Lynch $357
Salomon Smith Barney $250
Morgan Stanley Dean Witter $249
Goldman, Sachs $237
Lehman Brothers $168
Credit Suisse First Boston $163
J.P. Morgan $128
Bear, Stearns $92
Top 15 Investment Banking Firms,
Ranked By Underwriting (Cont)
Top 15 Investment Banking Firms,
Ranked By Underwriting (Cont)
Company Total Proceeds, $Bn
Warburg Dillon Read $83
Chase Manhattan $79
Donaldson, Lufkin & Jenrette $62
ABN AMRO $61
Deutsche Bank $58
PaineWebber $54
Paribas $47
How To Tell The Key Players
From Each Other
How To Tell The Key Players
From Each Other
• Some Countries Over-Represented: US (10),
Switzerland (2), Netherlands (1)
• Other Countries Under-Represented: France (1),
Germany (1), Japan (0)
• Five Are Stand-Alone IB Firms
• Five Are Commercial Banks With IB Arms
• Five Are Subsidiaries of Financial Groups
• All Pursuing Similar Strategies, But Have Varying
Strengths & Weaknesses
• Examine Each Firm In Turn
Merrill Lynch
Merrill Lynch
• Headquarters: New York
• 63,100 Employees
Worldwide
• 900 Offices in 43 Countries
• $515 Billion Assets Under
Management
• $1.478 Trillion in Client
Assets Under Management
• First Large US Brokerage
Firm To GO Public (1970)
www.merrilllynch.com
Salomon Smith Barney
Salomon Smith Barney
• Headquarters: New York
• 35,000 Employees
Worldwide
• 500 Offices in 23 Countries
• Smith Barney Acquired By
Travelers In 1987
• Travelers & Salomon
Merged In 1997, Formed
Salomon Smith Barney
• Now Part Of Citigroup,
With $700 Billion In Total
Assets
www.salomonsmithbarney.com
Morgan Stanley Dean Witter
Morgan Stanley Dean Witter
• Headquarters: New York
• 494 Offices In 23 Countries
• $385 Billion Assets Under
Management
• Dean Witter Acquired By
Sears, Roebuck In 1980
• Dean Witter Spun-Off By
Sears In Early 1990s
• MSDW Formed In 1997
Merger Of Dean Witter,
Discover & Morgan
Stanley
www.msdw.com
Goldman, Sachs
Goldman, Sachs
• Headquarters: New York
• 16,500 Employees
Worldwide
• 41 Offices In 23 Countries
• $195 Billion Total Assets
Under Management
• Was Last Remaining Wall
Street Partnership Until
1999 IPO
www.goldmansachs.com
Lehman Brothers
Lehman Brothers
• Headquarters: New York
• 8,873 Employees
Worldwide
• 39 Offices In US, Europe,
Asia
• $154 Billion In Total
Assets
• Acquired By Shearson
American Express In 1984
• Spun-Off By American
Express In 1994
www.lehman.com
Credit Suisse First Boston
Credit Suisse First Boston
• Headquarters: Zurich,
Switzerland
• 14,000 Employees
Worldwide
• 60 Offices In Over 30
Countries
• Total Assets of $291
Billion
• Wholly-Owned Subsidiary
of Credit Suisse Group
• AA Credit Rating High For
Investment Banking
www.corp.csfb.com
J.P. Morgan
J.P. Morgan
• Headquarters: New York
• Glass-Steagall Act Split
House of Morgan In 1935
• Chartered As Commercial
Bank, With Only 25%Of
Revenues From IB
• Began Underwriting
Corporate Securities 1989
• 15,674 Employees
Worldwide
• Total Assets $261 Billion
www.morgan.com
Bear, Stearns
Bear, Stearns
• Headquarters: New York
• 9,180 Employees
Worldwide
• 17 Offices In 9 Countries
• $154 Billion Total Assets
• Though Independent,
Frequently Mentioned As
Takeover Target
www.bearstearns.com
Warburg Dillon Read
Warburg Dillon Read
• Headquarters: Basel &
Zurich, Switzerland
• 15,000 Employees
Worldwide
• Offices in More Than 40
Countries
• SBC Acquired S.G.
Warburg In 1995, Dillon
Read in 1997
• UBS & SBC Merged In
June 1998
www.wdr.com
Chase Manhattan
Chase Manhattan
• Headquarters: New York
• Primarily A Commercial
Bank, Trying To Build IB
• $366 Billion Total Assets
• Operations In 49 Countries
• 72,683 Employees
Worldwide
• Formed By 1995 Merger of
Chase, Chemical Banks
• Dominant Arranger of
Syndicated Loans
www.chase.com
Donaldson, Lufkin &
Jenrette
Donaldson, Lufkin &
Jenrette
• Headquarters: New York
• 8,150 Employees
• 25 Offices In US, Europe,
Latin America & Asia
• $72 Billion Total Assets
• Never In Bulge Bracket,
But Very Profitable
• First IPO By IB (Apr 1970)
• Acquired By Equitable In
1985, ECO Of 20% In 1995.
• Equitable Still Holds 71%
www.dlj.com
ABN AMRO
ABN AMRO
• Headquarters: Amsterdam,
The Netherlands
• Primarily Commercial
Bank, Formed In 1991
Merger
• Operates In 64 Countries
• $450 Billion Total Assets
www.abnamro.com
Deutsche Bank
Deutsche Bank
• Headquarters; Frankfurt,
Germany
• 75,306 Employees
Worldwide; Soon 100,000
• Total Assets Will Soon Be
About $1 Trillion, Making It
The World’s Largest Bank
• Commercial Bank With
Lofty IB Ambitions
• Acquired Morgan Grenfell
In 1989, Acquiring Bankers
Trust (& Alex Brown) Now
www.deutsche-bank.com
PaineWebber
PaineWebber
• Headquarters: New York
• 18,051 Employees
• 305 Offices Worldwide
• Total Assets $367 Billion
• Serves More Than 2 Million
Individual Clients
• Acquired Kidder, Peabody
In 1994
• Often Rumored As A
Takeover Target, Though
Still Independent
www.painewebber.com
Paribas
Paribas
• Headquarters: Paris,
France
• 20,000 Employees
Worldwide
• 220 Offices In 60 Countries
• $245 Billion (Dec 1997)
• Nationalized In 1982, Then
Privatized By French
Government In 1987
• Engaged In Three-Way
Takeover Battle With BNP,
Societe Generale
www.paribas.com
Topic 3:
Topic 3:
Capital Markets And The Three
Basic Models Of Corporate
Finance
The Three Basic Models of
Corporate Finance
The Three Basic Models of
Corporate Finance
• Three separate corporate finance models (or
systems) have emerged in recent years:
– The capital-market-based system
– The financial-intermediary-based system
– The industrial group system
• These models are associated with, respectively:
– The US, Britain, & Canada (especially the US)
– Europe (espec. Germany), developing countries
– J apan (Keiretsu), Korea (Chaebol), other Asian
countries
All Three Models Have Been
Successes & Have Many Similarities
All Three Models Have Been
Successes & Have Many Similarities
• All The Key Countries Involved Are Democracies
• All The Key Countries (Now) Stress Private Over
Public-Sector Ownership
• All The Key Countries Involved Have Large, Rich
Consumer Markets
• All Three Systems Are Dominated By Numerous
Large, Publicly-Traded Firms
Systems Differ With Respect To:
Systems Differ With Respect To:
• Primary Source(s) Of External Financing
– Banks Vs. Markets
• Ownership Structure Of The Firm
– Atomistic Vs. Concentrated
• Stock Market’s Role In Monitoring Managers
• Power Of Professional Managers Vs. Other
Stakeholders
• Corporate Governance Role Of Fincl Institutions
• Rights & Duties Of Individual Shareholders
Systems Differ With Respect To
(Cont):
Systems Differ With Respect To
(Cont):
• Importance of equity-based compensation for
executives
• Importance of formal contracts and regulations
• Strategic role of mergers & acquisitions in
corporate control
• Legal System Used:
– British Common Law
– German Or Scandinavian Commercial Law
– French Civil Law
Characteristics Of The Capital-Market-
Based System Of Corporate Finance
Characteristics Of The Capital-Market-
Based System Of Corporate Finance
• Many Large, Independent, Publicly-Traded Firms
• Great Reliance On Capital Markets--Rather Than
On FIs--For External Financing
• Very Large, Efficient Capital Markets
• Small Stockholders The Focus Of Corporate
Governance; Much Disclosure Required
• Great Reliance On Equity-Based Compensation
• Very Active Market For Corporate Control,
Including Hostile Takeovers & LBOs
• Heavy Reliance On Formal Contracts
Strengths Of The Capital-Market-Based
System Of Corporate Finance
Strengths Of The Capital-Market-Based
System Of Corporate Finance
• Can Raise Huge Sums For Corporate investments
• Spreads Economy's Financial Risk To Diversified
Investors
• Transparency--Becoming Increasingly Important
• Allocative Efficiency--Capital Goes To Best Use
• Allows For Great Specialization Of Labor
• Liquid Capital Markets Allow Private, Funded
Pension System
• Good At Financing Entrepreneurial Growth Firms
• Technology Seems To Favor Capital Markets
Weaknesses Of The Capital-Market-
Based System Of Corporate Finance
Weaknesses Of The Capital-Market-
Based System Of Corporate Finance
• Separation Of Ownership And Control
• Managers Have Strong Entrenchment Incentives
• Hard To Enforce Proper Investment Incentives:
– Over-Investing In Negative-NPV Projects, Or
– Under-Investing In Positive-NPV Projects With
Long-Maturity Payoffs
• Required Information Disclosure Often Excessive
– Can Reduce Value Of Proprietary Information
• Bankruptcy Procedures Very Cumbersome
Characteristics Of The Financial-
Intermediary-Based Corp Fin System
Characteristics Of The Financial-
Intermediary-Based Corp Fin System
• Relatively Few Large, Independent, Publicly-
Traded Companies (Except Privatized Firms)
• A Few, Very Strong Commercial Banks Dominate
Corporate Financing
• Commercial Banks Serve As Universal Banks
• Capital Markets Play Small, But Growing, Role In
Corporate Finance
• Very Little Mandated Information Disclosure
• Far Less Reliance On Professional Managers
• Relatively Inactive Corporate Control Market
Strengths Of The Financial-
Intermediary-Based Corp Fin System
Strengths Of The Financial-
Intermediary-Based Corp Fin System
• Intermediaries Make Natural Corporate Monitors
• Commercial Banks Enjoy Natural Comparative
Advantages At Raising & Allocating Funds
• FIs Can Build Long-Term Relationships With
Client Firms
• FIs Better Able To Handle Borrower Financial
Distress (Laws Tend To Favor Creditors)
• Able To Commit To Funding Multi-Year Client
Investment Programs
Weaknesses Of The Financial-
Intermediary-Based Corp Fin System
Weaknesses Of The Financial-
Intermediary-Based Corp Fin System
• Inherent Conflict Of Interest For Bankers
(Creditor & Shareholder)
• Little Transparency In Corporate Financing And
Corporate Governance Systems
• Large Scale Debt Or Equity Financing Through
FIs Can Be Very Costly
• Unless Financial System Very Competitive, Can
Lead To Collusion & High Financing Costs
• Information Processing Technology Is Weakening
The Value Of Bank Franchises
Characteristics Of The Industrial-
Group System Of Corporate Finance
Characteristics Of The Industrial-
Group System Of Corporate Finance
• National Economies Are Dominated By A Few
Powerful Industrial Groups (Keiretsu & Chaebol)
• Lead Company (Usually A Commercial Bank)
Exercises Control & Coordinates Group Activities
• Groups Are Their Countries' Leading Exporters &
Enjoy Close Relationships With The Government
• Capital Markets Play Little Role In Corporate
Finance Or Governance
• Significant Share Ownership Is Rare For Group
Company Managers (Except Chaebol)
Strengths Of The Industrial-Group
System Of Corporate Finance
Strengths Of The Industrial-Group
System Of Corporate Finance
• Groups Seem Able To Achieve Rapid Economic
Development
• Groups Can Build Networks Of Strong, Inter-
Related Companies With Vast Capabilities
• Strong Intra-Group Links Allow Efficient Financial
Contracting
• Allows Rapid Spread Of Market Information,
Manufacturing Expertise, New technology
Weaknesses Of The Industrial-Group
System Of Corporate Finance
Weaknesses Of The Industrial-Group
System Of Corporate Finance
• Cross-Subsidization: Strong Companies Often
“ Taxed” To Subsidize Weaker Companies
• Very Hard To Inject Market Discipline Into Group
Contracting
• Groups Impose Immense Costs On Consumers
• Severe Weaknesses And Fragility Of “ Crony
Capitalism”
• Government Officials Typically Play Critical--But
Unaccountable--Roles In Corporate Finance
Conclusions
Conclusions
• Capital-Market Based System Seems To Be
“ Winning”
• All Countries Trying To Promote Capital Markets
For Economic & Pension Funding Reasons
• Technological Advantage Of Capital Markets Is
Proving Decisive
• Industrial Group System Seems To Be A “ Failed
Economic Model”
• Key Questions: What Model Will Be Chosen By
China, Russia, & India?
Topic 4:
Topic 4:
Investment Banking Practices
In International Debt Security
Markets
The International Bond Market
The International Bond Market
• There Is No Unified International Bond Market
• Instead, International Bond Market Has Three
Broad Market Groups:
– Domestic Bonds: Issued By Local Borrower, In
Local Currency
– Foreign Bonds: Sold On Local Market By Foreign
Borrower, In Local Currency
– Eurobonds: Sold Mainly In Countries Other Than
The One Whose Currency Bond Is In
• Wide Variety Of Instruments Issued
Statistical Overview Of World
Bond Markets
Statistical Overview Of World
Bond Markets
• Total Worldwide Value Of Publicly-Issued Bonds
Probably Close To $25 Trillion
• US Domestic Market Accounts For ~45% Of Total
• Government Debt Accounts For Roughly Two-
Thirds Of Total
• Roughly Half Of All Bonds Denominated In $US
• 20-25% Of Bonds Denominated In Yen
– Share Rising Due To Huge Budget Deficits
• Remaining 25-30% In European Currencies
– Euro Share Certain To Rise Over Time
Features Of US Domestic
Bond Market
Features Of US Domestic
Bond Market
• Treasuries O/S Jumped From $1 Trillion To Over
$5 Trillion Due To 1981-96 Deficits
• Rule 415 Dramatically Increased Size, Growth
Rate Of Corporate Market
• Declining Interest Rates 1991-99 Has Prompted
Refinancings
• Securitization A Very Important Feature
• Municipal Bond Market Unique To US
• High-Yield Market Once Again Vibrant
Features Of Key Non-US
Domestic Bond Markets
Features Of Key Non-US
Domestic Bond Markets
• Many Domestic Bond Markets Relatively Small
Until 1990s; Now Growing Fast
• Many Were Reserved For Governments, Banks
– French, Italian Markets Reserved For Govt
– J apanese Market For Govt, Long-Term Banks
– UK, Swiss Markets Always More Open To Firms
– German Market Small Until Unification
• Government Bonds Always Key Assets, Issues
– Gilts (UK), OATs (France) Widely-Held
– IBs Help Issue Bonds, But Low Margins
Foreign Bond Markets
Foreign Bond Markets
• Largest Foreign Bond Markets Traditionally US,
Japan, Switzerland
– $241 Bn Yankee Bonds In 1998, $13 Bn In 1990
• Often Given Colorful Names
– Samurai (J apan), Bulldog (UK), Heidi (Swiss),
Rembrandt (Holland), Matador (Spain) Bonds
• Foreign Bonds Must Meet Local Listing Rules
– Yankee Bonds Must Meet SEC Regulations
– SF Can Be Used Only Foreign, Not Eurobonds
Foreign Bond Markets (Cont.)
Foreign Bond Markets (Cont.)
• Governments Have Reduced Withholding Taxes
– US Interest Equalization Tax Repealed in 1984
– Tax Treaties Determine Rates Of Withholding
– Swiss Stamp Tax Encourages Offshore Trading
• Principal Borrowers In Foreign Bond Markets:
– MNCs Needing Funding In Local Currency
– Multilateral Organizations, Especially World Bank
– National Governments (Forex Reserves), SOEs
Eurobond Market Overview
Eurobond Market Overview
• Eurobond Market Is Totally Self-Regulated
– Birth, Growth Of Market Prompted By Regulation
– Issuing, Trading Rules Set By ISMA
– Clearing Through Euroclear Or Cedel
– Typically Listed On Luxembourg Stock Exchange
• Extremely Innovative, Efficient Market
• Fraction Of Eurobonds In $US Usually 30-65%
– Increases When $ Strong, Declines When $ Weak
– US Citizens Cannot Buy Newly-Issued Bonds
Patterns Observed In
Eurobond Issuance
Patterns Observed In
Eurobond Issuance
• Almost Always Bearer Bonds
• Frequently Dual-Currency Instruments
• Typically Intermediate-Term Debt (5-10 Years)
• Underwriting Syndicate Often Very Large
– Can Have 50-100 Banks For Large Issues
– US Commercial Banks Actively Participate
– Can be Sold In 5 Weeks Or Less
• Often Have Complex Options, Other Features
– J apanese Convertibles Very Popular Until 1990
• Typically Pay Interest Annually
Emerging Market And Brady
Bonds
Emerging Market And Brady
Bonds
• Few International Bond Issues By LDC Until 1990
– Debt Build-Up Of 1970s Mostly Bank Credit
– Latin American Countries Gained Access In 90s
– Asian “Tigers” Had Access Until 1997
• Collapse Of Communism Had Major Impact
– Eastern European Countries Soon Had Access
– Even Russia Could (Briefly) Issue Eurobonds
• Brady Bond Program Very Successful
– Non-Traded Bank Debt Collateralized, Securitized
• Soon Likely To See First Eurobond Defaults
Russia’ Access To Eurobond
Market Was Brief & Painful
Russia’ Access To Eurobond
Market Was Brief & Painful
0 50 100
Jan 1st 98
Nov 4th 98
Restructured
Soviet Debt
Eurobond
2028
Eurobond
2001
The Importance Of Swaps In
International Bond Markets
The Importance Of Swaps In
International Bond Markets
• Many Eurobond Issues Actually Used For Swaps
• Swaps Involve Trading Streams Of Liability
Payments Between Two Parties
– Can Be Interest Rate Or Currency Swaps
– Only Net Amount Trades Hands
• Allows Each Party To Borrow Where They Have
Comparative Advantage
– US Firm Needing Floating-Rate FF Debt
– Can Borrow Cheaply In Fixed-Rate $, Then Swap
• Total Value Estimated To Be Several $Trillion
Key Recent Innovations In
International Debt Markets
Key Recent Innovations In
International Debt Markets
• Floating Rate Notes Launched Early 1980s
– Shifts Interest Rate Risk To Borrower
– Proven Very Popular With Investors
– Critical Parameters: Spread & Index
• Bonds Linked To Gold, Oil, Other Commodities
• Governments Issuing Inflation-Adjusted Bonds
• Pre-1999 European Bonds Often “ Tributary”
– Automatically Convert To Euro If Country J oins
• Euro Launch Certain To Become The Single Most
Important Innovation Ever
Topic 5:
Topic 5:
Bank-Based Investment
Banking Products: Syndicated
Loans & Project Finance
Where Investment &
Commercial Banking Overlap
Where Investment &
Commercial Banking Overlap
• Course Focus On Raising Capital For Firms
• Mostly Done By Investment Banks Or By
Commercial Banks That Have Purchased IB
• For Two Important Products, Markets Overlap:
– Syndicated Loans
– Project Finance
• Syndicated Loan Market Larger Than Any Other
Single Debt Market
– Over $13 Trillion Since 1980, Over $1 Trillion/Year
– Now Largest US Corporate Financing Market
History Of Syndicated Loan
Market
History Of Syndicated Loan
Market
• Syndicated Loans Long Observed In US Markets
– Needed Because Of McFadden Act’s Effects
– One Of Few Remaining “Unchallenged” Markets
• Modern Eurocurrency Loan Market Dates To 1969
– Traditionally Based On Eurodollar Time Deposits
– “Recycling” Of Petrodollars In 1970s To LDCs
– Today Overwhelmingly A Corporate Loan Market
– Takeover Loans The Largest, Most Profitable
• US Banks Dominate Arranging, But Not Funding
– Chase Alone Has 23% Market Share
Typical Features Of
Syndicated Loans
Typical Features Of
Syndicated Loans
• Most Are Significantly Larger Than Bond Issues
– Average Size $146 Million, $1 Billion+ Common
– E53 Billion Olivetti Loan Largest Financing Ever
• Can Be Arranged Very Quickly
– $14 Bn Loan To Chevron Arranged In 48 Hrs
• Structured As Line Of Credit, So Very Flexible
– Can Be Drawn-Down, Repaid As Borrower Needs
• Trend Is To Structure As Security Issues
– Attractive For Banks, Issuers & Investors
Uses Of Syndicated Loans
Uses Of Syndicated Loans
• Uses Of 90,784 Syndicated Loans Since 1980:
– Corporate Control: 10,795 Loans ($2.3 Trillion)
– Capital Structure: 25,313 Loans ($5.3 Trillion)
– General Purpose: 39,653 Loans ($4.3 Trillion)
– Project Finance: 4,956 Loans ($634 Billion)
– Fixed-Asset Loans: 4,680 Loans ($410 Billion)
• Most Common Use Today To Fund M&A
– Record Volume Of Takeovers In US, Europe
– Larger Avg Size ($212m), Spread Than Others
The Syndicate Structure Of
Syndicated Loans
The Syndicate Structure Of
Syndicated Loans
• Lead Manager Role The Most Prestigious & Risky
– Depending Upon Loan Size, May Invest $50 Mn+
– Co-Leads Might Have To Put Up $25 Mn
– Participating Banks $5-15 Mn Required
– Could Have Over 30 Banks For Large Loans
– Average Syndicate Size 11 Banks
• Lion’s Share Of Fees Kept By Lead, Co-Leads
– Average Max Participation Fee 37 Basis Points
– Average Initial Commitment Fees 31 Basis Points
The Pricing & Maturity Of
Syndicated Loans
The Pricing & Maturity Of
Syndicated Loans
• Most Are Priced As Spread Above LIBOR
– 69% Priced Versus LIBOR
– Other Benchmarks: SIBOR, HIBOR, US Prime
– Only 6% Have Fixed Rate Pricing
– Average Spread Vs. LIBOR: 134 Basis Points
• Loans Typically Short To Intermediate Term
– Average Maturity 4.8 Years
– Except For PF, Loans Over 10 Years Fairly Rare
Nationalities Of Syndicated
Loans Borrowers, 1980-99
Nationalities Of Syndicated
Loans Borrowers, 1980-99
Borrower Nationality Total Value, $Bn % Of Total
United States $8,170 61.4%
United Kingdom $1,230 9.3%
Other EU $1,383 10.4%
South East Asia $688 5.2%
Australia $349 2.6%
The Rise Of Project Finance
The Rise Of Project Finance
• Specialized Loan Form Pioneered In North Sea
• Limited Or Non-Recourse Lending To A Specially-
Created Vehicle Company
• Ideally Suited For Infrastructure Lending In
Relatively Risky Countries
• Though Many Successes, Best Known For Three
Financial Failures:
– Channel Tunnel (Eurotunnel)
– Euro Disneyland
– Dabhol India Power Project (Enron)
Characteristics Of Project
Finance Lending
Characteristics Of Project
Finance Lending
• Stand-Alone Financing; No Corporate Backing
• Highly Complex Contracting Between Parties:
– Project Sponsors (MNCs, Governments)
– Vehicle Company: Owns & Operates Project
– Lenders & Guarantors (ECAs, World Bank)
• Long-Term Lending For Tangible Assets
– Natural Resource Or Energy Projects
– Infrastructure (Roads, Tunnels, Bridges, Ports)
• Build Operate Transfer (BOT) Often Used For
Infrastructure Projects
Project Finance Borrowers,
By Industry, 1980-99
Project Finance Borrowers,
By Industry, 1980-99
Borrower Industry Total Value, $Bn % Of Total
Electric Utility $137 21.5%
Oil & Gas $120 18.8%
Communications $51 8.1%
Transportation $49 7.7%
Mining & Natural
Resources
28 4.4%
Project Finance Borrowers,
By Nationality, 1980-99
Project Finance Borrowers,
By Nationality, 1980-99
Borrower Nationality Total Value, $Bn % Of Total
South East Asia $151 23.8%
United States $107 16.8%
United Kingdom $92 14.5%
Other EU $66 10.3%
Middle East $59 9.3%
Latin America $52 8.3%
How Project Finance Loans Differ
From Other Syndicated Credits
How Project Finance Loans Differ
From Other Syndicated Credits
• Smaller Loans, But Larger Syndicates
– Average Size $128 Mn (Versus $146 Mn)
– 14.5 Banks In PF Loan Syndicate (Vs. 10.7)
– Higher Total Fees For PF: 93 bp Vs. 67.7 bp
• PFLs Much Longer Term, To Riskier Borrowers
– Average Maturity 8.6 Yrs Vs. 4.8 Yrs
– Average Risk Rank of 31.8 For PFL Vs. 12.8
– Only 11.6% Of PFL To US Borrowers Vs. 56.9%
• Pricing, However, Very Similar
– Average Spread On PFL 130 bp Vs. 134 bp
Six Largest Project Finance
Loans Since 1980
Six Largest Project Finance
Loans Since 1980
Borrower Name Launch Date Amount, $Bn
Eurotunnel plc June 90 $13.2
Eurotunnel plc Aug 87 $7.9
Formosa Plastics Mar 93 $5.5
Qatar Liquified Gas Feb 93 $4.2
Railtrack plc Nov 95 $3.7
NEXTEL Communictns Jan 98 $1.7
Summary Of Syndicated
Loans & Project Finance
Summary Of Syndicated
Loans & Project Finance
• Both SL And PFL Have Emerged As Important
Capital-Raising Tools
• Seem To Be Gaining Market Share
– SL Especially Useful For M&A Financing
– PFL Can Fund Otherwise Unfinanceable Projects
• Ideal Instruments For Corporate Borrowers,
Unless Truly L-T Funding Required
– Never Shut Down Last Year, As Markets Did
• One Of Few Areas Where Commercial Banks
Have Held Market Share
Topic 6:
Topic 6:
International Stock Markets &
Privatization’s Critical Role In
Their Development
Non-US Stock Markets Historically
Limited In Scale & Scope
Non-US Stock Markets Historically
Limited In Scale & Scope
• Outside Of US & UK, National Stock Markets Small,
Dominated By A Few Stocks
– US, UK, Swiss Market Cap > 100% Of GDP
– Most European Market Caps $25 Trillion
• DJIA Was 775 In 1982; Now 11,000
– Many European, Asian Markets Up Even More
• Average US Trading Volume Increased 20 Times
Since Late-1970s
– Non-US Markets Even Greater % Growth
– Emerging Markets Greatest % Growth & Volatility
• Number Of S/Hs has Increased Phenomenally
– Roughly Half Of US Adults Own Stock
– Figures In EU Often In 20-35% Range
Factors Accounting For
Stock Market Growth
Factors Accounting For
Stock Market Growth
• Economic Prosperity & End Of Cold War
• Spread Of Economic Liberalism, Democracy
• Liberalization Of Trade In Goods & Services
• Spread & Increased Capabilities Of Technology
• Rapid Growth Of FDI, Portfolio Investment
• Spread Of Funded Pension Systems
• European Integration & Launch Of Euro
• Growth Of “ Equity Culture” In EU
– Evidenced By Success Of German Neue Market
World Economic Growth
Rates,1968-1997
World Economic Growth
Rates,1968-1997
0
1
2
3
4
5
6
7
1968 80 92
Percent Change in “ World GDP” Over Previous Year
The Growth In World Trade,
1968-1997
The Growth In World Trade,
1968-1997
0
1000
2000
3000
4000
5000
6000
1
9
6
8
7
2
7
6
8
0
8
4
8
8
9
2
9
6
Total Value Of Exports, $ Billions
World
Industrial Countries
Foreign Direct Investment Has Grown
Dramatically Since Early-1980s
Foreign Direct Investment Has Grown
Dramatically Since Early-1980s
0
200
400
600
800
1000
1200
1400
1600
1970 82 94
Investment Flows By Multinational Corporations, $ Bn
Adjusted FDI Outflows
FDI Outflows
But Most Important Reason For
Growth Of Non-US Stock Markets
But Most Important Reason For
Growth Of Non-US Stock Markets
PRIVATIZATION
(Particularly Share Issue Privatizations)
Brief History Of Privatization
Brief History Of Privatization
• FRG’s Adenauer Government Actually First (1961)
• Small British Petroleum, Other Sales (1977)
• First Thatcher Government (1979-83)
• The Turning Point: British Telecom (Nov 84)
• Chile Shows Privatization Possible in DCs (80-85)
• The French Chirac Government (1986-88)
• Privatization Spreads To Asia (NTT 1987-88)
• Telefonos de Chile Pioneers ADRs (1990)
• European SDs Embrace Privatization (Since 1993)
The Impact of Privatization
The Impact of Privatization
• Has Significantly Reduced State’s Role in OECD
– SOEs Effectively Eliminated From UK Economy
– Rapidly Shrinking Role In Western Europe, Asia
• Transition Economies Have Been Transformed
– SOE Role Cut Up To Two-Thirds In Eastern Europe
– Russia Privatized, But Not Commercialized
• Much Less Change In Developing Countries
– Little Change In Africa, Latin America
– Non-OECD Asia Has Actually Increased
• Little Impact Thus Far In China, India
Privatization’s Impact on Stock
Market Capitalization
Privatization’s Impact on Stock
Market Capitalization
• 34 SIPs Firms Have Market Caps > $15 bn
• 75 of Business Week Global 1000 Are SIPs
• 29 of BW Top 100 Emerging Markets Firms SIPs
– Four Largest Firms All SIPs
– SIPs Account For 36.6% of Top 100 Total Value
• Total Capitalization of 104 SIPs, $1.683 Trillion
– Equal to 9.7% of Combined BW Samples
– Equal to 20.1% of non-US Firms Market Cap
• SIPs Almost Always Country’s Largest Cap Firm
Market Value & Country Rank of
Privatized Firms (BW Global 1000)
Market Value & Country Rank of
Privatized Firms (BW Global 1000)
Company Rank Mkt Cap ($ mm)
Nippon Tel & Tel 1 130,911
British Petroleum 2 85,283
Deutsche Telekom 2 73,640
British Telecom 6 66,261
ENI 1 56,424
France Telecom 1 56,011
Telecom Italia 2 51,301
Telefonica 1 45,854
Market Value & Country Rank of
Privatized Firms (Emerging Markets)
Market Value & Country Rank of
Privatized Firms (Emerging Markets)
Company Country Mkt Cap ($ mm)
Gazprom Russia 20,462
Telebras Brazil 32,759
China Telecom China (HK/SAR) 20,676
Telmex Mexico 19,999
Hellenic Telecom Greece 13,334
YPF Argentina 10,983
Telekom Malaysia Malaysia 6,871
Korea Elec Power Korea 6,293
Privatizations As Equity Issues
Privatizations As Equity Issues
• 18 Largest Share Offerings Are All SIPs
• 29 SIPs Larger Than $4.4 bn Conoco IPO (Oct 98)
• 41 Of 47 Issues Over $3 bn Are SIPs
• 630+ SIPs Have Raised > $500 bn Since 1977
• 112 SIPs Have Raised More Than $1 bn
• Differences From Private-Sector Issues:
– Typically Pure Secondary Offerings
– Highly Politicized Offer Terms & Share Allocations
• SIPs Almost Always Nation’s Largest Share Issue
The Largest Share Offerings In
Financial History Are All SIPs
The Largest Share Offerings In
Financial History Are All SIPs
Nov 87 Nippon Tel & Tel $40.3 bn
Oct 88 Nippon Tel & Tel 22.4
Oct 98 NTT DoCoMo * 18.4
Oct 97 Telecom Italia 15.5
Feb 87 Nippon Tel & Tel * 15.1
Nov 96 Deutsche Telekom * 13.3
Oct 87 British Petroleum 12.4
Nov 97 Telstra * 10.5
Nov 98 France Telecom 10.5
Governments Use Three Basic
Methods To Privatize
Governments Use Three Basic
Methods To Privatize
• Direct (Asset) Sale: Sale Of A Company To Another
Firm Or Group Of Investors For Cash.
• Share Issue Privatizations (SIPs): Public Offering
of Common Stock Currently Owned By Government.
• Voucher Privatization: Exchangeable Vouchers
Distributed To Citizens For Free (Or At Reduced
Cost). Convertible Into SOE Shares.
Characteristics Of SIPs Versus
Asset Sales
Characteristics Of SIPs Versus
Asset Sales
Variables SIPs Asset Sales
#Of Privatizations 558 831
#Of Countries 58 71
% Of Capital Sold 44% 71%
(Median) (30%) (76%)
$US Offer Size, mm $748 $212
(Median) ($138) ($49)
Total $US Sold, mm $417,532 $175,988
How Politicized Are Pricing &
Share Allocation Terms In SIPs?
How Politicized Are Pricing &
Share Allocation Terms In SIPs?
• Results From One Forthcoming Study:
– Find SIPs Significantly & Deliberately Underpriced
– Govts Almost Always Choose Fixed Price Offers
– Allocate Shares To Citizens, SOE Employees
– Few Govts Sell 100%, Rarely Sell Control
– Often Have Control Restrictions (“Golden Share”)
– IR Directly Related To % Capital Sold, Gini Coeff
– IR Negatively Related To Govt’s “Populism”
– IR Not Significantly Related To Firm Size (Not AI)
Average Pricing, Share & Control
Allocation Terms In SIPs
Average Pricing, Share & Control
Allocation Terms In SIPs
Variable Initial SIPs Seasoned SIPs
Issue Size, $US mm 555.7 1,068.9
Initial Return, % 34.1 9.4
% Offer At Fixed Price 85.0 61.0
Gross Spread, % 4.4 2.5
% w/Employ Allocation 91.0 65.8
Employee Allocation % 8.5 4.8
% Of Capital Sold 43.9 22.7
% w/Control Restriction 93 (UK) 76 (Non-UK)
Have Investors Benefited From
Privatization?
Have Investors Benefited From
Privatization?
• Paper Studies L-R Returns For 201 Unseasoned &
63 Seasoned SIPs From 36 Countries, 1981-97:
– Compute 1,3 & 5-Yr HPR In $ And Local Currency
– Compare HPR To Local, World & US Market Index
– Also Compute Matching-Firm Returns Based On
Currency, Size And Industry
– Test Significance Of Net Returns, WR, % Positive
– Document Significantly Positive LRR For IPOs
– Find Insignificant LRR For Seasoned Issues
Investment Banking
Practices In Privatizations
Investment Banking
Practices In Privatizations
• Lead Privatization Underwriters Are British
– N. M. Rothschild The Leader Most Years
– US Firms Still Strong (Goldman, Morgan Stanley)
• Most SIPs Use Fixed Price Offerings
• Spreads Much Lower Than In Private Offers
• Share Allocations Vastly Different
• SIPs Are Cash Offers, Not Rights Issues As In EU
• SIPS Leading To Spread Of US-Style U/W Tools
– Book-Building And Price Discovery
Topic 7:
Topic 7:
The Euro’s Likely Impact On
Global Capital Markets
The Long Birth Of A New
Super-Currency
The Long Birth Of A New
Super-Currency
• Deep Roots Of European Monetary, Political Union
• Several Attempts To Fix Intra-European Forex
Rates Since 1973 Collapse Of Bretton Woods
• German Mark Served As Benchmark Currency
• Convergence Began to Occur During 1980s
• EMU Rates Locked In 1987: Seemed To Work
• Maastricht Treaty 1991 Set Course For Monetary
Union By 1999
– Established Macroeconomic Conditions For Entry
– Only Hard Core Actually Expected In Round 1
The Long Birth Of A New
Super-Currency (Cont.)
The Long Birth Of A New
Super-Currency (Cont.)
• Early 1990s Saw Repeated Crises
– UK, Italy Knocked Out Of EMS In Sept 1992
– Narrow Currency Bands Widened In Aug 1993
– Very Few Countries Meeting Targets Thru 1996
• Peculiar Dynamic Took Hold In Mid-90s:
– No Country Wanted To Be Precluded From Entry
– Spain, Italy, Portugal All Began Fiscal Tightening
– Franc Fort Withstood Political, Financial Crises
– Political Will To Succeed Became Overwhelming
The Long Birth Of A New
Super-Currency (Cont.)
The Long Birth Of A New
Super-Currency (Cont.)
• At Final Accession Meeting, 11 Countries Invited
– All Who Wanted In Except Greece Allowed In
– Greece Likely In 2001-02
– UK, Sweden, Denmark Opted Not To J oin
– Switzerland, Norway Voted Not To J oin EU
• Euro Began Life As Currency Jan 2, 1999
– Began At $1.17/E, But Then Steadily Declined
– Notes & Coins Won’t Circulate Until J an 2002
– Few European Citizens Enraptured By Euro
Monetary Policy In New
Euro Zone
Monetary Policy In New
Euro Zone
• European Central Bank Set Up As Monetary Body
– National CBs Are “Branches” Of ECB
– Headquartered In Frankfurt, English As Language
– Wim Duisenberg First Head (French Objected)
• ECB Set Up To Have Great Independence
– Not Really Accountable To Any Elected Body
– Not Required To Publish Minutes
– Given Sole Task Of Maintaining Price Stability
– Much Agitation For A “Political Counter-Weight”
Many Early Signs Have
Been Hopeful For Euro
Many Early Signs Have
Been Hopeful For Euro
• Launch Went Well, With No Technical Problems
• Pricing Initially Limited To Financial Markets
• Overwhelming Support By European Elites For
Monetary Union
• Begins Life With Very Low Inflation In EU
• Europe Growing Steadily During 1999
• Many Countries Hoping To Join EU & EMU
• Lead To Immediate Surge In Capital Market
Issues Denominated In Euros
• EU Banks Making Strong Run For Top Tier
Other Signs Much Less
Positive
Other Signs Much Less
Positive
• Due To Interest & Growth Rate Differentials, Has
Been A Weak Currency Vs. Dollar
– But Also Weak Versus £ And ¥
– Good For Exports, Bad For Investor Confidence
• Differential Growth Rates In EU Troubling
– Periphery Growing Fast, Core Barely Growing
– Monetary Policy Set By Core, Bad For Others
• UK, Switzerland Outside By Choice
• Flawed Nature Of EU, ECB Decision-Making
• Structural Nature Of EU Economic Problems
Europe Has Long-Term Growth,
Competitiveness Problems
Europe Has Long-Term Growth,
Competitiveness Problems
• Several Core Competitiveness Problems
– Excessive Regulation Of All Markets
– Unemployment, Total Lack of J ob Creation
– Noncompetitive Tax, Welfare Regimes
– Relatively Weak Capital Markets
– Technology Lagging U.S., J apan
– Pay As You Go Pension Systems
– Very Slow Population Growth
Europe’s Unemployment Rate
Europe’s Unemployment Rate
0
2
4
6
8
10
12
1974 84 94
European
Uni on
North Ameri ca
Japan
Job Creation: Europe’s Great
Economic Failing
Job Creation: Europe’s Great
Economic Failing
-5
0
5
10
15
20
25
30
35
40
North Ameri ca European
Uni on
Government
Private
Estimated Change 1970-94, Millions
Weak Capital Markets: Europe’s
Great Financial Failing
Weak Capital Markets: Europe’s
Great Financial Failing
$ Bn % of GDP
Spain 11 2
Italy 23 2
France 50 4
Germany 111 6
USA 4,527 67
Private Pension Financing, 1994
Europe’s Fiscal Time Bomb:
Unfunded Pension Liabilities
Europe’s Fiscal Time Bomb:
Unfunded Pension Liabilities
France 42.4 113.6
Germany 52.5 110.7
Italy 112.9 75.5
J apan 33.2 106.8
USA 63.3 25.7
UK 37.7 4.6
As % of GDP
Net Public
Debt,
End 1994
Net Pension
Liability,
1995-2050
Europe’s Technology Gap
Europe’s Technology Gap
Business With
Internet Access
47% 61%
Households With
Internet Access
5.5% 18%
Total Spending On
Info Technology
$196 bn $320 bn
Total Spending on
Telecom Services
$182 bn $230 bn
Households With
Personal Computers
24% 46%
Europe U.S.
In Spite Of Problems, Euro’s
Long-Term Outlook Is Positive
In Spite Of Problems, Euro’s
Long-Term Outlook Is Positive
• Europe Has Formidable Economic Strengths
– Economy Comparable To US, Larger Population
– Higher Share Of World Trade (15% Vs 12%)
– Much Higher Savings Rate Than US
• US Running Persistent Current Account Deficits
• Diversification Of World Reserves Favors Euro
• Euro’s Launch Likely To Promote Reforms
– Will Foster Great Price Transparency, Competition
• Capital Markets Likely To Grow Fast To “ Catch Up”
Topic 8:
Topic 8:
The Increasing Importance of
Mergers & Acquisitions To The
Global IB Industry
What A Year!
What A Year!
• 1998 Broke All Records For M&A
• $2.51 Trillion In Announced Deals Worldwide
– 54% Higher Than 1997’s Level (Previous Record)
– $2.09 Trillion In Completed Deals
• $1.63 Trillion In US Announced Deals
– 79% Higher Than 1997’s Record Level
– $1.32 Trillion In Completed Deals
• Hugely Profitable For Investment Bankers
– Total Disclosed Fees In US $2.68 Billion
The Role Of Investment Bankers In
M&A Transactions
The Role Of Investment Bankers In
M&A Transactions
• Both Bidder & Targets Use IBs
– Provide Advice, Certification, Even Financing
• Often Brought In To Initiate Takeovers
– Firm Wishing To Be Acquired Can Use IB
– Prospective Acquirers Use IBs To Shop
– Both Parties Seeking Contacts, Advice, Discretion
• Always Brought In Once Bid Is Underway
– Especially Important In Contested Bids
– Extremely Important Role In Valuation
The Role Of Investment Bankers In
M&A Transactions (Cont.)
The Role Of Investment Bankers In
M&A Transactions (Cont.)
• Roles Differ In Cash Versus Stock Mergers
– Cash Deals: Financial, Strategic Advice
– Stock Deals: Legal, Regulatory, Governance
Advice; More Complicated, Longer Process
– Cross-Border Deals Usually Pay With Cash
• Roles Differ In Friendly Versus Hostile Mergers
– Vast Majority Of M&As Are Friendly
– IBs Help Arrange, Sell Deal To S/Hs, Regulators
– In Hostile Deals, Play Strategic Role, Find White
Knights
M&A Becoming Increasingly
International
M&A Becoming Increasingly
International
• Cross-Border Deals Now One-Quarter Of Total
– $685 Bn In 1998 Versus $399 Bn In 1997
– $292 Bn Of These Involved European Targets
– $247 Bn Involved US Targets
• Total Deals With European Targets $529 Bn 1998
– Involves Both Intra-National, Cross-Border Deals
– Biggest Deal Of 1998: ZENECA/Astra ($34Bn)
– Two Mega-Mergers So far In 1999
• Europeans Largest Intl Acquirers Of US Firms
– UK, Germany, Canada, France, Netherlands
Even In European M&A,
However, US Banks Dominate
Even In European M&A,
However, US Banks Dominate
Financial Adviser Value Announced Deals
Morgan Stanley Dean Witter $174 Bn
Goldman, Sachs $173 Bn
Credit Suisse First Boston $101 Bn
Merrill Lynch $81 Bn
J.P. Morgan $79 Bn
Warburg Dillon Read $78 Bn
In US: Goldman Sachs Out
Front, Pulling Away
In US: Goldman Sachs Out
Front, Pulling Away
Financial Adviser Value Announced Deals
Goldman, Sachs $756 Bn
Merrill Lynch $520 Bn
Salomon Smith Barney $430 Bn
Morgan Stanley Dean Witter $417 Bn
Credit Suisse First Boston $298 Bn
J.P. Morgan $214 Bn
1998 Saw Largest Announced
Mergers In US History
1998 Saw Largest Announced
Mergers In US History
Target Name Bidder Name Deal Value
Mobil Exxon $79 Bn
Citicorp Travelers $73 Bn
Ameritech SBC Communicat $63 Bn
BankAmerica NationsBank $62 Bn
TCI AT&T $53 Bn
GTE Bell Atlantic $53 Bn
Amoco British Petroleum $48 Bn
Chrysler Daimler-Benz $40 Bn
1999 Shaping Up As Another
Good Year, Particularly In Europe
1999 Shaping Up As Another
Good Year, Particularly In Europe
• Two Colossal Mergers Underway In EU
– BNP Vs Societe Generale, Paribas In France
– Olivetti Vs. Telecom Italia, Deutsche Telecom
– Five Of Six Contestants Are Privatized Firms
• EU Integration, Competition Driving Mergers
– Search For Scale & Synergies
– Synergies Hard To Achieve If Staff Cuts Required
• Large Cross-Border Mergers Still Quite Rare
– Hostile Cross-Border Deals Non-Existent
Topic 9:
Topic 9:
American Investment Banking
Characteristics And Industry
Practices
Finance In America: An
Enormous Industry
Finance In America: An
Enormous Industry
• Finance Accounts For 11% Of US GDP
• In NYC Alone, Brokerage Firms Employ 250K+
• Financial Markets Play A Large Role In US Life
– Only Rivaled In Impact By Switzerland, UK
– Pension Fund Assets Now $6.4 Trillion
– 25% Of Americans Own Stock Directly
– Half Own Stock Directly Or Thru Pension Funds
– Stock Mkt “Wealth Effect” Has Fueled Spending
– Entrepreneurship Key Part Of US Culture
– “The Business Of America Is Business”
US Investment Banking
Provides Many Retail Services
US Investment Banking
Provides Many Retail Services
• Retail Brokerage Business Unusually Important
– Merrill Lynch Pioneered After WWII
– Over 5,000 Mutual Funds Available
• Asset Management A Large & Growing Business
– IBs Compete With Specialized Asset Managers
– Fidelity, Vanguard Family Of Funds
• Provide Trust, Custodial Services
– Compete With Commercial Bank Trust Depts
• Money Market Mutual Funds, CMAs Have Been
Enormously Successful
Will Concentrate On Services
Provided To Corporations
Will Concentrate On Services
Provided To Corporations
• Provide Advice To Firms On Financing, M&A
• Provide Risk Management, Hedging Tools
• Help Private Firms Go Public (Next Topic)
• Help Public Firms Go Private (LBOs)
• Offer Merchant Banking Services, Venture Capital
• Arrange Private Financing (Private Placements)
• Guide Issuing Firms Through Regulatory Process
• Underwrite Security Offerings
– The Focus Of This Topic
Many Types Of Securities
Sold On US Capital Markets
Many Types Of Securities
Sold On US Capital Markets
• Short & Intermediate Term Debt Securities
– Treasury Bills: Sold Directly By Govt
– Commercial Paper: 270 Day Maturity Or Less
– Medium-Term Notes: Floating & Fixed Rate
– Asset-Backed Securities: Credit Card, Car Loans
• Long-Term Government Securities
– Treasury Notes & Bonds: Looming “Shortage”
– “Agency Securities”: Backed Implicitly Or Explicitly
By US Government
– Municipal Sec: Revenue & General Obligation
Many Types Of Securities
Sold On US Markets (Cont.)
Many Types Of Securities
Sold On US Markets (Cont.)
• Long-Term Corporate Debt Securities
– Mortgage Bonds, Equipment Trust Receipts
– Corporate Debentures
– High-Yield Debt (J unk Bonds)
– Collateralized Securities: MBS, ABS
– Convertible Debt
• Equity Securities
– Preferred Stock: Convertible & Nonconvertible
– Common Stock: Seasoned & Unseasoned
Many Types Of Underwritings
Observed In US
Many Types Of Underwritings
Observed In US
• Best Efforts Versus Firm Commitment
– Most Issues Are Firm Commitments
• Competitive Versus Negotiated Underwriting
– Negotiated Used Unless Competitive Required
• Rights Offering Versus General Cash Offer
– Unlike EU, Rights Offering Rare In US
• Private Placement Versus Registered Public Offer
– Spectrum Of Privates: LPs, True PP, Rule 144A
– Three Levels Of ADRs For Non-US Issuers
– Shelf Versus Traditional Registered Offer
Overview Of The
Registration Process
Overview Of The
Registration Process
• All Securities Offered For Public Sale Must Be
Registered & Approved By SEC (SEC Act of 1934)
• Disclosure Procedures Detailed In Securities Act
– Most Security Offerings Must Use Form S-1
– S-1 Requires 3 Yrs Audited Data, Reg S-X Acctg
– Smaller Firms (