Finance

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

Germany towers above its euro zone partners in economic terms, regularly lecturing others about their finances. The irony is that the German banking system is in dire need of a clean-up. It has 1,800 lenders struggling with negative interest rates and restructuring costs. Politicians and regulators know change is needed -- and mergers.

The problem is finding a buyer willing to tackle painful restructuring. With no national market leader to speak of, foreign buyers are the only show in town. But they face execution risks, regulatory uncertainty and twitchy politicians.

Deal flow is anemic. Bank mergers in Germany over the past five years were only worth one-tenth of the total in Western Europe. Speeding up won't be easy when the market lacks a local champion. Securing overseas buyers may need concessions.

No Mergers Please, We're German
Total completed deals involving a bank target over the last five years
Source: Bloomberg data

The recent speculation around Germany's second-biggest lender, Commerzbank AG, is a case in point. Compatriot Deutsche Bank AG, Italy's UniCredit Spa. and France's BNP Paribas SA have all been named as possible suitors.

There's logic here: Commerzbank, even taking into account the brutal decline in its revenue, offers a German base in a recovering euro zone. It derives almost one-quarter of its revenue from small-and-medium-sized German businesses and trades at a steep discount to book value. Private equity firm Cerberus recently took a 5 percent stake, which Berlin seized on as a sign that it might see a return on Commerzbank's taxpayer rescue.

 

A Position of Weakness
Germany's two biggest listed lenders trade at steep discounts to book value
Source: Bloomberg Intelligence

But the reality is tricky.

Start with the German option: Unlike in Spain or Italy, where strong national champions Banco Santander SA and Intesa Sanpaolo Spa. have picked up rivals on the cheap, Deutsche's ability to absorb Commerzbank looks less comfortable by the day.

Even after raising capital to pay its litigation bills, CEO John Cryan is struggling with how to run a balance sheet-heavy trading powerhouse in an era of low volatility. The bank was labelled "beyond repair" by Autonomous Research this week. Banging together two weak companies would need a lot of buy-in from shareholders, regulators and labor unions -- not easy.

Perhaps there's a semi-German option out there? UniCredit owns a German entity and its share price is benefiting from restructuring and the European economic pickup. A local merger would let UniCredit strip out costs in Germany, where it's targeting a pretty meager return of 7.1 percent by end-2019, according to Jefferies.

Still, swallowing Commerzbank would be risky and complicated. That might not help the Italians, who are in the throes of investing in new IT and cutting non-performing loans. There are differences too between the kinds of customers served by UniCredit and Commerzbank, reducing overlaps, according to Citi.

Rescue Me
Shares of Commerzbank are rebounding on hopes of a merger or takeover
Source: Bloomberg
Intraday times are displayed in ET.

That leaves France's BNP, which even the German government is said to favor. BNP has promised to expand in Germany and has a history of swooping on cross-border rivals. A proposal would probably be well-timed as Macron and Merkel seek common ground.

Yet this isn't quite a slam dunk. Commerzbank is a small slice of a difficult, fragmented market. BNP would find it hard to repeat its successes when buying into Italy, Belgium, Luxembourg and France.

Restructuring Germany's banking sector isn't easy. When even the government's favorite option is a foreign buyer, that's hardly a great advertisement. Perhaps the Germans will have to forget their anxiety about further-flung investors such as Qatar and China.

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

To contact the author of this story:
Lionel Laurent in London at llaurent2@bloomberg.net

To contact the editor responsible for this story:
James Boxell at jboxell@bloomberg.net