Deals

Chris Hughes is a Bloomberg Gadfly columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

Lionel Laurent is a Bloomberg Gadfly columnist covering finance and markets. He previously worked at Reuters and Forbes.

It's a wedding between one of Scotland's financial aristocrats and a relative upstart.

The union of Standard Life Plc and Aberdeen Asset Management Plc will create one big Scottish money management business with a combined market value of 11 billion pounds ($13.5 billion).

Better Together?
Standard Life and Aberdeen AM face pressure from regulation and competition
Source: Bloomberg

The idea has one thing going for it -- the chance to cut a heap of costs. The downside is the prospect of two very different drivers behind the wheel at a time of patchy performance and tough competition. 

Under CEO Keith Skeoch, Standard Life has been trying to shift its business towards asset management from life insurance. Aberdeen has been struggling with a downturn in emerging markets, which has even put its dividend in doubt. Both have been facing pressure from index-hugging passive managers that charge much lower fees, and often perform better too.

Patchy Performance
Standard Life Investments' net flows are deteriorating and pressuring profits
Source: UBS

Outflows from Standard Life's flagship fund GARS doubled between the third and fourth quarters of 2016, according to UBS analysts, while Aberdeen reported 10.5 billion pounds of net outflows in the three months through December. Neither company is expected to reverse those outflows this year, heaping pressure on earnings, according to UBS.

For Standard Life, buying Aberdeen, which is half its size, should accelerate its shift toward asset management and provide some international diversification. For Aberdeen, it’s the opposite story: the deal provides a bit more stability after mixed adventures overseas.

Not Quite The Trump Trade
Aberdeen's equities assets under management skew heavily to emerging markets
Source: HSBC

But the real benefits to both are financial, not strategic.

The cost bases of Standard Life’s asset management arm and Aberdeen aren’t greatly different in size. It should be possible to achieve bigger savings than in the recently agreed tie-up between Henderson Group Plc and Janus Capital Group Inc.

Aberdeen’s cost base certainly needs treatment -- almost half of expenses are non-sterling. The weak pound is likely to increase operating costs by about 35 million pounds a year, according to HSBC.

Suppose the two companies can eliminate 16 percent of their combined costs -- roughly double the amount in the Henderson-Janus deal. That would deliver 200 million pounds of added operating profit. Taxed and capitalized at Standard Life’s 13 times earnings multiple, this would create 2.1 billion pounds of added market value.

That’s nearly 20 percent of the pair's combined market capitalization. Under the terms of the deal, Standard Life shareholders will own two-thirds of the company, so Aberdeen's backers will share in a third of the uplift.

Beyond the blood-letting, there's hope that Standard Life's distribution platform and Aberdeen's asset-management products will be able to defend their market share through sheer scale. Standard Life has been expanding its footprint through M&A, while Aberdeen has been ramping up bets on emerging and frontier markets.

Governance will be tricky, with Skeoch and Gilbert each being co-CEO. Skeoch has a good track record of integrating new businesses. Perhaps he'll stick to operations while Gilbert focuses on the big picture. Still, the hope must be this is a temporary arrangement, with Gilbert stepping aside once the integration is completed. It would be a shame if Standard Life, not one for setting the best example in corporate governance, let Gilbert step up to the chairmanship in time.

A counter-bid for Aberdeen is possible. But a big passive manager would be taking on an even bigger cultural challenge than Standard Life, and an overseas bidder might not be able to achieve the same synergies.

Gilbert could have opted for a more inventive cross-border tie-up, like Henderson. But that would have meant fewer cost savings.

With a choice between an earnings accretive deal or holding out for a more strategically creative transaction, he has chosen the former. It was in, all probability, the best deal available.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the authors of this story:
Chris Hughes in London at chughes89@bloomberg.net
Lionel Laurent in London at llaurent2@bloomberg.net

To contact the editor responsible for this story:
Edward Evans at eevans3@bloomberg.net