It was hard for James Gorman to contain his exuberance.
The chief executive officer of Morgan Stanley had just ended a decade-long drought of major takeovers by top U.S. banks with his surprise deal to buy E*Trade Financial Corp. for $13 billion. Across the industry, where it’s long been taboo to get “too big,” speculation was erupting that conditions had finally lined up for a wave of similarly hefty acquisitions.
So when analysts asked how it all came together, the normally staid CEO paused for a moment.
“I’ve just strained my vocal cords with all the excitement,” Gorman said on a conference call Thursday. “I must have been screaming from the rooftops or something.”
Morgan Stanley’s announcement is being interpreted by analysts, investors and investment bankers as just the start of a long-predicted series of deals big enough to reshape the upper echelons of the U.S. financial industry. Many of the largest banks are wielding highly valued stock at a time that Silicon Valley innovators are looking to wrest away business. Mergers and acquisitions are one way for banks to both scale up and adapt.
“The financial performance of the industry allows acquirers to transact from a position of strength,” said Anu Aiyengar, co-head of global M&A at JPMorgan Chase & Co. “More broadly, digital disruption is making it more important to optimize cost and efficiency.”
Some observers also point to the prospect that regulation may stiffen after U.S. elections in November if a Democrat wins the presidency. The field of candidates seeking to challenge Donald Trump includes several who have vowed to rein in -- or even break up -- “too big to fail” banks.
More than 40% of top bank executives said in a November study by EY that they planned to actively pursue a deal in the following 12 months. Roughly one-fifth of those executives said they’d use a merger to improve their talent pool, while others said they’d use it to enter new markets. They will have to announce any significant takeovers soon to clear regulatory hurdles and complete transactions by the start of 2021, or potentially take their chances with a new administration.
Gorman had eyed the online retail brokerage for almost 20 years before everything lined up. For Morgan Stanley, the all-stock deal lands E*Trade’s direct-to-consumer digital capabilities as well as $360 billion of client assets. Gorman reassured analysts that his firm is already conferring with regulators -- such as the Federal Reserve, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. -- to win approval for the deal.
“We wouldn’t be entering into this if we didn’t think, from a regulatory perspective, this would be viewed favorably,” Gorman said. “That’s not something we would put to big chance.”
In recent years, regional lenders have made most of the transformational deals in U.S. banking as they try to bulk up to improve earnings, weather the impact of low interest rates on margins and fend off tech startups. Last year saw the combination of SunTrust Banks Inc. and BB&T Corp., which emerged as Truist Financial Corp., the sixth-largest U.S. commercial bank.
While Gorman said he still sees E*Trade as a so-called bolt-on acquisition, the price is significantly larger than the takeovers the largest banks have emphasized in recent years to augment business lines. It may open the way for rivals to seek larger targets too.
“It’s all about growth,” said Julien Courbe, PwC’s financial services advisory leader in New York. “A lot of the banks have addressed their cost structure and continue to do so, but they are looking to get volume and scale, and that’s forcing considerations for deal activity.”
Matchmakers have proposed a wide variety of large takeovers by big U.S. banks over the past decade only to be disappointed. Some suggested, for example, that credit-card lender Discover Financial Services could make a juicy target for a variety of large consumer banks. Reuters Breakingviews floated the idea two years go that Goldman Sachs Group Inc. should buy Bank of New York Mellon. When ValueAct Capital Management later bought a stake in Citigroup Inc., analysts suggested the activist fund could push the bank to buy another of its holdings, Alliance Data Systems. The deals never materialized.
It’s not just banks seeking to grow through mergers and acquisitions. The two biggest U.S. life insurers, MetLife Inc. and Prudential Financial Inc., are both open to acquisitions even as they seek to divest in slower-growth areas. Both firms struck deals last year, with Prudential agreeing to buy a startup consumer platform for $2.35 billion, while MetLife acquired a pet insurance administrator and a digital estate planning service.
Leaders of payments companies also have said they’re looking to participate in the industry’s consolidation. Mastercard Inc.’s CEO Ajay Banga compared his business development team to “gnomes in Santa’s shop” that bring him as many as 60 deals in a year to consider. FleetCor Technologies Inc., a fuel card provider, has said it has a list of “big elephants” it hopes to bag.
Wealth managers and robo-advisers are also appealing targets because of their relatively stable revenue, which can offset volatility from trading businesses. Goldman Sachs bought United Capital for $750 million last year, while Morgan Stanley beefed up its wealth division by buying stock-plan administrator Solium Capital Inc. for $900 million.
Buyers aren’t the only ones under pressure. Charles Schwab Corp.’s acquisition of TD Ameritrade Holding Corp. in November reshaped the brokerage industry and encouraged E*Trade to consider a sale. Goldman Sachs Group Inc. was among firms that also took at least a cursory look at E*Trade before giving it a pass, according to people with knowledge of the matter.
“Frankly, if I’m on the E*Trade board I’m certainly feeling a sense of urgency to find a buyer,” Thomas Bradley, the former president of TD Ameritrade, said at the time.
Still, Gorman cautioned that it’s unlikely that the biggest banks will try to pull off transformational deals. They will instead stick to targets that add capabilities or round out businesses. And not every firm, he noted, has the means to shop.
“You’ve got to be in the condition to do it, your stock has to reflect the value of the company, you have to have momentum that investors want to see,” Gorman said in an interview on Bloomberg Television. “But these bolt-on acquisitions. Listen, if they make sense? Absolutely.”