WestLB’s Fall From Grace Is Lesson in Investment Hazards

WestLB Fall From Grace Is Lesson in Investment Bank Hazards
The WestLB AG logo is seen at the company's headquarters in Dusseldorf. Photographer: Hannelore Foerster/Bloomberg

WestLB AG, the 180-year-old German state-owned lender that gained notoriety by trying and failing to make it as a global investment bank, will cease operations today. Its demise is a lesson in hubris to its peers.

As of June 30, WestLB will cease to exist as part of European Union conditions tied to a total 17 billion euros ($21 billion) of aid to bail out the bank following the 2008 financial crisis. Dusseldorf-based WestLB will change its name to Portigon Financial Services and become an internationally operating service and portfolio management provider to the bad bank and to third parties. Its corporate loan portfolio will be transferred to Landesbank Hessen-Thueringen Girozentrale. All other units will be wound down.

The closure marks the end of a tumult that crossed collateralized debt, international real estate and U.S. subprime markets, and WestLB’s attempt to conquer the investment banking industry. An EU ruling that forced Germany’s so-called Landesbanken to give up their state guarantees in 2005 prompted WestLB to “soak itself in liquidity” beforehand, sparking a search for higher yield that blinded it to risks as markets were rocked by the financial crisis, said Philipp Haessler, an analyst at Equinet Bank AG in Frankfurt.

Crisis Lessons

“The lessons of the crisis are that Landesbanken will be much smaller and less international and that they focus on the business they were once erected for,” Simon Adamson, a bank analyst at CreditSights Inc. in London, said. “With the demise of WestLB, the German banking system slowly moves in a more efficient direction as overcapacities are reduced.”

Founded in the 19th and early 20th centuries to provide credit for German companies, the Landesbanken are backed by state governments and their board members are often publicly appointed.

WestLB traces its roots to Westfaelische Provinzial-Huelfskasse, a non-profit credit institution founded in 1832 with money given to the German state of Westphalia by the Swedish king as compensation for economic damage caused by Swedish and Danish troops during the Wars of Liberation between 1813 and 1815.

Lender Merger

The two Landesbanken of Rhineland and Westphalia that emerged from the Huelfskassen declared insolvency in 1931 and were taken over by state commissioners. In 1969, Westdeutsche Landesbank Girozentrale was created through the merger of the two lenders.

Under Friedel Neuber, appointed chairman of WestLB’s managing board in 1981, the bank pushed ahead with an internalization begun in the 1970s with the foundation of offices in London, Luxembourg and New York. Neuber also laid the foundations for the bank’s push into investment banking.

By 2005, WestLB had amassed total assets of 294.4 billion euros. That compares with Commerzbank AG’s 444.9 billion euros in total assets that year, and Deutsche Bank’s 992 billion euros.

Changing Models

WestLB was one of the German Landesbanken that realized most clearly in the 1980s and 1990s that the lenders’ business models focusing on lending money cheaply to German companies were changing and that the world was moving “incrementally towards a more capital-markets-intermediated world,” Otto Dichtl, a London-based credit analyst for financial companies at Knight Capital Europe Ltd., said on June 15. “WestLB was the Landesbank that most strongly tried to convert itself and basically become an investment bank. It made this huge push and it failed.”

Formula One

WestLB’s ability to use its state-backed credit rating to borrow more cheaply than publicly traded competitors such as Deutsche Bank AG helped it to win mandates to bankroll projects such as the redevelopment of London’s Wembley soccer stadium in 2002.

Its U.K. unit also held stakes in Grand Prix auto-racing-circuit owner Formula One and made a hostile bid for U.K. water company AWG Plc.

The foray into investment banking, which accelerated with the hiring of dealmaker Robin Saunders from Deutsche Bank in 1998, was jolted by a 1.7 billion-euro loss in 2002 and a probe by Germany’s financial regulator into a 1.35 billion-euro loan to U.K. consumer electronics company Box Clever Ltd. that prompted the resignation of then-Chief Executive Officer Juergen Sengera.

Close Down

In the past decade, WestLB has only been profitable in three years out of 10. The bank’s combined losses of 7.21 billion euros in those years compare with a combined profit of 1.13 billion euros in the three years when it made a profit. The lender needed a capital injection from savings banks in 2004, following losses in the previous two years as well as in 2004.

WestLB is one of few bailed out European banks that have been ordered by the EU to close down, amid concerns over the impact such a closure would have on financial markets. While the process has taken a long time and cost a lot of money, WestLB is no longer a threat to financial markets, Michael Kemmer, the general manager of the BdB Association of German Banks, said in a June 22 interview.

“The example of WestLB shows how difficult and drawn-out the departure of a big player is, until the lender can really exit the market -- it is a painful process which on top was extremely expensive,” Kemmer said. “It is not a big burden for the German market as currently there is enough credit supply and it won’t lead to a credit crunch scenario of any kind.”

Home Market

Other rescued German Landesbanken such as HSH Nordbank AG and Bayerische Landesbank are being permitted to stay in business, though they’re closing international operations and returning their sights to their home market.

Germany’s Landesbanken received a combined 97.3 billion euros in state aid and guarantees during the global financial crisis, with WestLB taking 17 billion euros of that total, according to company data and Bloomberg calculations. Landesbank Baden-Wuerttemberg, now Germany’s biggest state-owned lender, HSH Nordbank, BayernLB and WestLB all needed aid, while Norddeutsche Landesbank Girozentrale, Helaba and Landesbank Berlin survived the crisis without bailouts.

WestLB was probably treated harsher than rivals because it had been bailed out before, Knight Capital Europe’s Dichtl said.

Bailed Out

“This was not the first time WestLB had to be bailed out, which is why the EU was tougher with them than with any of the other Landesbanken or commercial banks,” Dichtl said.

The regional German state of North Rhine-Westphalia, one of WestLB’s owners and the bank’s home state, estimates that the demise of WestLB may cost the state, the German government and the savings banks as much as 18 billion euros, including capital injections since 2005 and the potential guarantees for the assets of its bad bank until 2028.

“There were mistakes with many different causes and responsibilities, which brought WestLB many enemies in Brussels and few friends in Berlin,” Norbert Walter-Borjans, the state’s finance minister, said in a statement on May 22. While the closure of WestLB will cost a lot of money, it is the right, final and by far the most cost-effective way, he said.

Corporate Clients

As WestLB shuts its doors, other Landesbanken are also making changes. HSH Nordbank said Aug. 26 last year that it would wind down its international real estate and airplane financing divisions and close offices in Paris, Amsterdam and Shanghai to gain EU approval for 30 billion euros in aid. The bank will instead focus on corporate clients in northern Germany as well as on energy, infrastructure and maritime lending.

BayernLB announced plans in 2008 to refocus operations on Germany and “selected European regions.” It also plans to sell its 92 percent stake in real estate company GBW AG and has been asked by the EU to sell its mortgage-lending unit, LBS Bayern, to Bavarian savings banks to get approval for the state aid.

Scaling Back

Hanover-based NordLB is also scaling back operations abroad. Its Deutsche Hypo commercial real estate lending unit is exiting the U.S. and Spain to focus on Germany and neighboring countries such as the U.K., Poland, France, Holland and Belgium, Deutsche Hypo said in an e-mailed response to questions.

“If WestLB, which was the biggest Landesbank by quite a stretch, couldn’t manage it as an investment bank then none of them can and they will remain more lending-driven banks,” said Knight Capital’s Dichtl. Europe’s sovereign debt crisis has left them “pulling in their horns even more and focusing on their long-established bread and butter business such as lending to corporates and sticking to Germany.”

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