How Merrill Lynch Is Winning The East

Even a recent scandal hasn't slowed its move across Asia

It was a marketing nightmare in Asia. Just as it unveiled an unprecedented multimillion-dollar advertising campaign this summer, Merrill Lynch & Co.'s star private-banking employee in the region was hauled into a Hong Kong courtroom on a money-laundering charge. Merrill, which has also filed a civil suit against Kevin Wallace in Singapore, was forced to swallow a painful $45 million charge against second-quarter earnings. Merrill's ads featuring goldfish, a traditional Chinese symbol of prosperity, competed with the Wallace scandal for attention.

Merrill, which maintains that Wallace engaged in unauthorized trading and falsified clients' statements and signatures, says it has compensated customers, launched an internal investigation, and beefed up supervision. Wallace has been released on bail and "will be vigorously defending the charges," says his attorney Sharon A. Ser. But the case has thrown a spotlight on the investment bank's ability to control its employees in the freewheeling Asian terrain.

HIGH STAKES. A big pothole in the road? You bet. But the scandal isn't slowing the thundering herd's advance across Asia. Since the mid-1990s, when Merrill began aggressively expanding across Asia, the firm's revenues and earnings in the region have soared. Building a powerhouse in some of the world's fastest-growing economies is an important part of CEO David H. Komansky's strategy to make non-U.S. revenues--currently about 25%--account for more than half of Merrill's business in five years (table).

The stakes in Asia are high, even for a company that earned nearly $1 billion worldwide in the first half of 1997. Asia gives Merrill a huge source of potential clients in a region where growth rates have been triple those of the U.S. for a decade. Already, Merrill boasts one of Asia's biggest brokerage networks, a burgeoning asset-management arm, and is the leading debt underwriter and a powerful force in equities. In contrast, rivals such as Morgan Stanley Dean Witter Discover, Salomon Brothers, and Goldman Sachs have chosen narrower niches in the region.

It was the 1995 acquisition of London-based global broker Smith New Court PLC that put Merrill on the map in Asia, where it long trailed its U.S. competitors. The purchase gave it stock-exchange seats and highly regarded local research teams. Since then, Merrill has bought one of Australia's top brokerages, McIntosh Securities Ltd., and more than tripled its regional staff outside Japan to 2,000-plus, compared with 800 for Morgan Stanley and 450 for Goldman. Merrill has also beefed up its mergers-and-acquisitions and research units, and is distributing mutual funds through Korea's LG Securities and India's DSP Merrill Lynch Securities Ltd. "These are really long-term commitments," says John S. Wadsworth Jr., who heads Morgan Stanley's Asian operations. "Merrill's advantage is its significant local presence."

The rapid-fire expansion is paying off. Merrill's pretax earnings for the Asian region, which includes Japan and Australia, more than doubled, to $199 million in 1996, as revenues jumped 25%, to $1.5 billion. Asian business outside of Japan accounts for about half of those earnings and equals the total profits of its two strongest Asian rivals, Jardine Fleming and Peregrine Investment Holdings Ltd. This year, Merrill's Asian pretax profits are expected to hit $200 million. The firm's internal targets call for roughly a doubling of revenues every year for the next three years, matched by a similar climb in profits.

But Merrill still faces formidable challenges. One worry is currency-market turmoil that has been sending Asian stocks plummeting and may slow the flow of new deals. By staying the course, Merrill could disprove the long-held notion that U.S. investment banks are willing to cut and run from Asia at the first sign of trouble. Protectionism in such markets as India, Indonesia, and Malaysia have forced Merrill to link up with local partners, diluting its fees and undercutting its control.

What's more, Merrill has struggled to hold local talent. Nearly all its top positions are held by American, Australian, and British executives, fueling resentment that the firm isn't committed to promoting Asians. One big loss was Liping Zhang, a U.S.-trained Shanghai native who built up Merrill's Chinese corporate finance arm and then quit two years ago to head Seapower Financial Services Group, a Chinese-backed securities firm in Hong Kong. Peter Clarke, chairman of Merrill Lynch (Asia Pacific) Ltd., concedes "frustration" at the level of employee turnover and says a revolving door "is no way to run a business, especially in Asia, where relationships are everything."

DEEP POCKETS. Despite these challenges, Merrill is gobbling up market share. Thanks to its U.S. clients, Merrill raised $3.3 billion in the Asian public debt market during the first half, almost as much as second- and third-ranked Morgan Stanley and Salomon combined. In July, it raised $2 billion for Hong Kong conglomerate Cheung Kong Holdings Ltd., in one of Asia's biggest bond deals ever. It was sole underwriter for a $100 million bond offering for China's Fujian province. Merrill also has sold $1.1 billion in Asian equity deals outside Japan in the first half. "They are a machine," observes a rival U.S. investment banker.

Merrill's deep pockets are helping it win some of its biggest prizes. For example, when the Federal Reserve raised interest rates during a landmark $1 billion Chinese government bond deal in 1994, Merrill stood its ground. Instead of dumping the bonds on the market and driving prices down even further, it kept the paper on its books until the market improved, suffering a $15 million loss. The effort paid off: A grateful Chinese Ministry of Finance awarded Merrill two other bond deals. Indeed, Merrill is willing to slash prices to win deals. Last year, it cut its underwriting fee from 3% to 2.75% to win a coveted $300 million global depository share deal for South Korea's Kookmin Bank last year.

Although the Wallace fiasco tarnished the image of the private-banking unit, Merrill is going ahead with plans to expand offices catering to affluent Asians in Los Angeles, Sydney, and cities in Asia. One special target: politically connected and very rich entrepreneurs, especially in Indonesia. The focus on Asian nouveaux riches is understandable. Average Asian private-client accounts are traditionally three times as large as those in the U.S. Singapore-based private-banking head Raymundo Yu figures that his unit's five consecutive years of 20% annual growth in assets under management will continue "for the foreseeable future" and that Asia will outstrip North America in assets under management by 2000. Assets in the super-rich category of at least $30 million and up are increasing the fastest.

With this wealth of opportunity, it's no wonder Komansky is an avid Asiaphile. In the chairman's office hangs a huge Gurkha dagger and a set of 2,500-year-old bronze arrowheads from China's Warring States, symbols, perhaps, of this firm's self-proclaimed readiness for battle.

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