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Morgan Keegan Seen in Sights of Stifel’s Low Margins: Real M&A

Stifel Financial Corp., the St. Louis-based brokerage that has quintupled revenue since 2005 with nine acquisitions, may find its biggest takeover opportunity yet in Regions Financial Corp.’s Morgan Keegan & Co.

Morgan Keegan may be attractive to Stifel for its retail brokerage, fixed-income business and presence in the U.S. Southeast, according to Silvant Capital Management LLC and FBR Capital Markets. Silvant’s Randy Loving said Stifel may be willing to pay as much as $1 billion, or six times more than its largest deal, according to data compiled by Bloomberg. Guggenheim Securities LLC estimates Morgan Keegan may fetch as much as $1.5 billion, for Birmingham, Alabama-based Regions, which said last month it was considering “strategic alternatives” for the unit after paying $200 million to settle claims over subprime mortgage-backed securities.

Stifel’s acquisitions, including Legg Mason Inc.’s capital-markets business and Thomas Weisel Partners Group Inc., have helped the brokerage post record net revenue in every year since Ron Kruszewski became chief executive officer in 1997. While the shares have also more than doubled since 2006, Stifel’s operating margins trail 90 percent of its rivals.

Morgan Keegan “seems to fit the Stifel model,” said Steve Stelmach, an analyst at FBR Capital in Arlington, Virginia. “Ron is an aggressive guy and isn’t bashful about growth through acquisitions. From that perspective, continued acquisitions seem to make sense.”

Stifel’s Kruszewski declined to comment on Morgan Keegan. Tim Deighton, a spokesman for Regions, also declined to comment.

Evaluating Options

Shares of Stifel slipped 0.7 percent to $36.53 at 10:35 a.m. in New York today. Regions declined 2.3 percent to $6.03.

Regions hired Goldman Sachs Group Inc. to evaluate options for Memphis, Tennessee-based Morgan Keegan and find ways to manage capital and increase shareholder value, the bank said June 22. Morgan Asset Management and Regions Morgan Keegan Trust are not part of the review.

Regions agreed to buy Morgan Keegan in December 2000 for about $789 million.

Morgan Keegan resolved claims brought last year by the U.S. Securities and Exchange Commission, Financial Industry Regulatory Authority and state regulators, the SEC said. Regulators said the firm misled clients about asset values and risks of bond funds that caused investor losses during the mortgage crisis. The company didn’t admit or deny wrongdoing.

Regions needs to repay the $3.5 billion in government bailout funds it still holds.

‘Raise Capital’

“Regions is trying to raise capital,” said Walter Todd, who helps manage $950 million at Greenwood Capital in Greenwood, South Carolina. “They can raise capital without having to issue stock by selling this asset. That’s one of the reasons they are putting the company up for sale.”

Morgan Keegan provides brokerage and investment-banking services. Founded with five workers in 1969, it now has more than 300 offices and 4,400 employees across the Southeast and Midwest, including Texas, Missouri, Ohio, the Carolinas and Florida. Stifel’s operations are concentrated in the Midwest and Mid-Atlantic regions.

“The Southeast is a desirable part of the country in terms of growth,” Greenwood’s Todd said. “Morgan Keegan has a very good footprint there and Stifel less so. It would give them a very good jumpstart in the Southeast.”

‘Generally Beneficial’

Stifel could also increase its retail brokerage’s more than 1,900 financial advisers, as of March 31, by adding Morgan Keegan’s 1,200 advisers.

“Retail brokerage is a scale business,” FBR’s Stelmach said. “The more scale you have, you can spread out fixed costs across a much broader network. That’s generally beneficial.”

That may help boost Stifel’s operating margins, which at 0.75 percent in the last 12 months were the second lowest among comparable U.S. investment banks and brokerages with market values greater than $1 billion, data compiled by Bloomberg show. The industry average is 13 percent.

Stifel’s margin was dragged down by a third-quarter loss. In 2009 the company posted an operating margin of 11 percent.

By acquiring Morgan Keegan’s fixed-income platform, Stifel would add to its geographic footprint for businesses such as public finance, Stelmach said.

“You need to have someone local in Cleveland that knows the school board or knows the water and sewer guys,” he said. “To the extent that you can get that local capacity in one acquisition would probably be attractive.”

Takeover Price

Marty Mosby, an analyst for Guggenheim Securities in Memphis, Tennessee, said Morgan Keegan may sell for between 0.75 to 1.5 times his estimated revenue for the unit of about $1 billion. That would peg an acquisition anywhere from $750 million to $1.5 billion.

“If they were able to get it for less than $1 billion, I think that would be something of interest to them,” said Loving, an Atlanta-based portfolio manager for Silvant, which owns Stifel shares. “At a decent enough price, they’ll have additional flexibility to make it work.”

Wells Fargo & Co. may also be interested in buying Morgan Keegan, according to Brian Foran, an analyst at Nomura Holdings Inc. in New York. Wells Fargo CEO John Stumpf said in March the bank may expand by taking over non-bank companies, including wealth-management or insurance businesses.

‘Bigger Question’

“The bigger question for Wells is do they feel like they need to add scale in the wealth-management business or do they feel like it’s not a strategic imperative right now,” Foran said. “I’d be really surprised if they didn’t look.”

Allison Miley, a spokeswoman for San Francisco-based Wells Fargo, said the lender doesn’t comment on speculation regarding acquisitions.

BB&T Corp., which expanded its brokerage business with the acquisition of Scott & Stringfellow in 1999, may also look at Morgan Keegan to add to its brokerage platform, Guggenheim Securities’ Mosby said.

Cynthia Williams, a spokeswoman for BB&T of Winston-Salem, North Carolina, declined to comment.

Morgan Keegan’s retail brokerage would also be attractive to private equity firms looking for cash-generating businesses, Nomura’s Foran said.

Stifel, which has one of the largest U.S. equity research platforms, may not benefit from Morgan Keegan’s institutional business, FBR’s Stelmach and Silvant’s Loving said.

‘Wiggle Room’

Also, Morgan Keegan has had a “material decline” in fixed-income profitability and brokerage earnings estimates, which may make buyers cautious, Chris Gamaitoni, an analyst at Compass Point Research & Trading LLC in Washington, wrote in a June 23 note. Regulatory changes in the brokerage business could also stall a sale, he said.

Still, “a lot of their acquisitions have come when markets for those businesses weren’t at the peak,” Devin Ryan, an analyst with Sandler O’Neill & Partners LP in New York, said in an interview. “As a result, they weren’t paying peak multiples. They had some wiggle room from a financial perspective for things to work out even if the environment wasn’t perfect.”

Stifel’s Kruszewski, 52, became CEO in 1997. The Legg Mason deal was Stifel’s “foundation for success” in mergers and acquisitions, he said in an interview.

“If you approach mergers under the same framework that you run the business every day, then they’re actually easy to integrate,” Kruszewski said. “If you do it right, then you drive shareholder value.”

Legg Mason

Morgan Keegan would be Stifel’s eighth purchase after buying Legg Mason’s capital-markets business in 2005. Since then, Stifel’s revenue surged to $1.38 billion in 2010 from $264 million. The firm has reported record net revenue every year since 1995.

Stifel has announced $454 million of publicly disclosed acquisitions since 1999, capped by its biggest takeover of Thomas Weisel last year, according to data compiled by Bloomberg. Stifel purchased Thomas Weisel for $159.1 million in stock, according to data compiled by Bloomberg, adding investment-banking business in the technology, health-care and energy industries.

“Stifel is probably one of the few firms that could make it work,” said Matt McCormick, a money manager at Cincinnati-based Bahl & Gaynor Inc., which oversees $4 billion. “If I’m Stifel, I’d feel I’m in a power position. I don’t have to overpay for this deal because frankly there’s not too many people who have the ability to pay for it.”

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