International -- European Cover Story
Finance, C'est Nous (int'l edition)
With two big deals, the French are suddenly poised to shake up European finance. They may soon be challenging supposedly savvier Continental rivals
During a working dinner at the end of January, Daniel Bouton had a clever idea. The chief executive of French retail bank Societe Generale was deep in merger negotiations with executives from investment bank Paribas. He noticed on the wine list a bottle from a vineyard in which a Paribas board member owned a stake. The selection went over well, recalls Bouton. The two banks tied the knot on Feb. 2, announcing a $17.2 billion merger and the creation of a new European banking goliath.
The very same day, a captain of French finance, AXA Chairman Claude Bebear, announced that his insurance empire would launch a friendly, $5.59 billion bid for Britain's Guardian Royal Exchange PLC. If the deal is consummated, AXA will rival Germany's Allianz as Europe's No. 1 insurer.
Just two years ago, many bank analysts wrote off France's financial institutions as mere takeover bait for bigger, savvier foreign banks. So far, the French have been mostly absent from the merger free-for-all among European financial institutions. Now they are making their move. As the single-currency financial market begins to take shape, France is sizing up the competition and preparing to deploy its unique resources.
The creation of the euro zone robs the French of a great advantage: protected financial markets that channeled capital into domestic institutions and instruments. But French banks bring special expertise to the euro zone battlefield. France has long excelled in finance, with an elite cadre of technicians trained to manage money for the dirigiste state. That's one reason the French have vaulted ahead of the rest of Europe in such sophisticated financial products as derivatives and asset-backed securities. Transferring these skills to the new marketplace could give French banks an edge in money management.FIREPOWER. France has another secret weapon that's potentially more lethal. Its banks and insurers are sitting on centuries' worth of wealth, now locked up in real estate, savings accounts, and low-yielding investment funds. French insurers alone control more than $714 billion. If these assets are unleashed from their national borders and poured into stocks and corporate debt, France could wield enormous financial clout in Europe. The French will have "a pivotal position in the euro zone's financial sphere," says Svenja Nehls-Obegi, senior economist at Deutsche Bank's Paris office.
Insurance contracts and mutual-fund products are still regulated across Europe by a panoply of national laws. But these rules are gradually being dismantled as the European Commission and enlightened finance ministers confront the realities of a single market. Historically, too, French institutions have favored bonds and other fixed-income investments over equities. Now, French investors are beginning to demand higher returns. When the French begin diversifying their accumulated wealth out of domestic bonds into equities across the Continent, they could wind up with a sizable piece of Europe Inc.
For sheer asset firepower, French institutions have most of their European counterparts beaten by a long stretch. They rank No. 1 in Europe in asset management, with 25% of a market totaling more than $5 trillion. French mutual funds alone have more than $625 billion under management, and the French market ranks second-largest in the world behind the U.S. Meanwhile, French insurers rake in 27% of all European life-insurance premiums, and the French life-insurance market overall is the global No. 3.
Aside from the sheer heft of its assets, France is a top-ranked player in global derivatives and bond trading. Paris' electronic derivatives exchanges, the Matif and Monep, were prepared early for trading based on the new stock indexes for the euro zone. Already, the Matif is catching up to the much bigger Eurex--a joint venture between the Frankfurt and Zurich exchanges. Some 20.4 million derivatives contracts trade annually on the Matif, vs. 23.6 million on the Eurex. In addition, the Matif, the exchange that trades bond-based derivatives, has forged alliances with the Italian and Spanish exchanges to extend its 10% market share in euro-denominated bond futures. The Matif may also link up with Singapore's Simex to give French exchange members access to Asian-based derivatives.
But for French institutions to make the most of their wealth and market share, they will not only need more strategic mergers domestically. They will also need to build management strength, streamline operations, and forge cross-border ties. That means taking a cutthroat approach to winning market share that doesn't come easily in France. "The French financial-services sector can only become as strong as French capitalism, which is a concept that still has some distance to go before being totally accepted," says Felix Rohatyn, U.S. ambassador to France.
There's no question that French banks are weaklings in the lucrative global mergers-and-acquisitions business. They also underperform rivals in return on equity. French banks' ROEs are expected to average 11% to 12% over the next three years, compared with 18% to 20% for British and Irish banks and 15% to 20% for Swedish and Iberian banks.
The issue now is whether France's institutions can open when their markets are thrown open. The insurance industry has benefited enormously from tax-exempt life-insurance contracts introduced in 1983. Then, in 1992, the government created a new tax-advantaged savings plan to spur investment in French mutual funds. That was meant to counterbalance British and U.S. pension funds, which now control some 40% of the equity in quoted French companies. So far, the plan has attracted some $54.6 billion.
Artificial barriers to foreign competition already are coming down. Brussels-based EASDAQ, the Europe-wide exchange for small-cap stocks, has challenged the legality of special tax treatment for French mutual funds that invest in French stocks. And European Union officials are likely to force the French to eliminate any treatment that favors French stocks over others in the euro zone.
In some areas, France has taken the lead in introducing new rules for euro zone investment. For example, in October, 1998, before the single currency became official, the government allowed French bond-fund managers to allocate assets throughout the euro zone. The government is also working on legislation for this year to create a new category of mutual funds for institutional investors. Euro zone mutual funds will be able to invest anywhere in the region without constraints.
As special products mandating investment in French stocks and bonds disappear, competition in France's asset-management market is bound to heat up. That will require the French financial elite to improve their skills. Rival money managers who are used to shifting clients' assets in and out of global bonds and equities will have an edge, especially since they can boast far better historical returns."UNEASY COHABITATION." A few French visionaries can already see the potential of wider markets. AXA's Bebear is racing to extend his empire from a strong French base, and he's wielding every advantage he can. With assets under management of $550 billion, AXA reaches into every corner of the world. It was Bebear, as the lead shareholder of Paribas, who pressured Paribas to seek a partner. Now, he has the largest stake in France's megabank--just ahead of his fiercest rival, German insurer Allianz.
Bebear's next job is to push growth to the bottom line. With more than twice the revenues of American International Group Inc., Bebear's company shows earnings of $1.4 billion to AIG's $3.3 billion. This earnings lag results in part from Bebear's steady acquisitions--most of which eventually make money. His U.S. portfolio, for example, pulled down earnings initially but now contributes 30% to the bottom line. In fact, AXA officials expect Equitable Cos., 60% owned by AXA, to seek more U.S. acquisitions before the ink dries on the Guardian Royal deal.
AXA is also positioning itself against Allianz for the next grand event in French banking, the privatization of Credit Lyonnais, with its assets of $265 billion. The German behemoth, which has a long relationship with CL, has already been promised a piece of the bank. That has led Bebear to bid for a stake himself--if for no other reason than to make sure Allianz doesn't take control of CL's vast retail network to expand its insurance business in France. "There's going to be an uneasy cohabitation in Credit Lyonnais," predicts one European insurance executive."SITTING DUCK." For Societe Generale's Bouton and Paribas Chairman Andre Levy-Lang, the challenge is getting growth and profits in the euro zone. Levy-Lang and Bouton aim to build on their strengths in wholesale and retail banking while focusing investment banking attention on markets such as media and telecommunications. The result, they say, may be a bank that looks more like Chase Manhattan Corp. than like Merrill Lynch & Co. (box). "M&A is important and visible, and it's an area we need to improve," admits Bouton. "But we are not trying to run and catch up with the U.S. investment banks."
The next two most obvious targets for bank mergers in France are Banque National de Paris, which considered a tie-up with Paribas and rejected it, and Credit Commercial de France. "BNP is a sitting duck," says Paris-based consultant Christian Saint-Etienne. Possible partners could include Germany's Dresdner Bank. BNP favors a link with Credit Lyonnais in the upcoming privatization, but the merger of two French retail banks in the overbanked French market would entail major layoffs and prompt strong union protests.
That kind of thinking could hobble France's strides into Europe's financial future. The country needs more players like Bebear, who think in terms of the global stage. And like the corporate sector, financial institutions must learn to live without the coddling of a paternalistic government. But France has many of the raw materials it needs to become a heavyweight in the new euro zone. With a few more strategic deals, it could be the surprise of the year.By Gail Edmondson and Stephen Baker in Paris, with Kerry Capell and Heidi Dawley in London and Thane Peterson in FrankfurtReturn to top