Shaking Up Credit Suisse

A dismal quarter exposes its flaws

On Sept. 25, Credit Suisse Group Chief Executive Lukas Mühlemann made a brave gesture. Two weeks after terrorists destroyed the World Trade Center, the Zurich bank went ahead with plans to list on the New York Stock Exchange, the first foreign bank to do so after the attack, which shuttered U.S. markets for four days. The message: A world-class financial institution, with $686 billion in assets, was still confident in itself and the markets, despite the tragedy and its dreadful ramifications.

Two weeks later, Credit Suisse sent a very different message. On Oct. 9, Mühlemann warned investors that the bank had lost $180 million in the third quarter--a huge comedown from its $960 million profit in the same period last year. (Final figures come out Nov. 20.) It's not just CSG's controversial investment bank, Credit Suisse First Boston, that's spilling red ink. Plunging world stock prices triggered a $240 million loss on its 5%-plus stake in insurer Swiss Life and hurt profits at its insurance unit, Winterthur. On top of that, CSG will take a $120 million loan-loss charge due to the collapse of SAirGroup, Swissair's parent. The numbers from Credit Suisse's homeland were so grim that the $120 million third-quarter loss at CSFB gleaned little notice.

Is there something seriously amiss at Credit Suisse Group? Analysts have mixed views. On the one hand, the Swiss bank is suffering from the same trauma as other institutions since September 11. On the other hand, observers note that the bank's performance was already slipping well before the tragedy. An alarming sign: Second-quarter return-on-equity slid to 12.4% from 20.6% in the same period of 2000. UBS's stock, which long lagged CSG's, has outperformed its rival. At $45, UBS's share price is little changed from a year ago, while CSG's at $34, is down about 26%. "Credit Suisse is suffering more than its peers," says Kiri Vijayarajah, banking analyst at Schroders Salomon Smith Barney in London.

SHAREHOLDER PRESSURE. The word in Zurich is that big CSG shareholders, including corporate gadfly Martin Ebner, whose BZ Group Holding Investment owns about 10%, are putting Mühlemann under great pressure to act. Credit Suisse officials insist that's not so. Maybe. But Mühlemann is clearly pushing hard to restore the group's lost luster. He's cutting costs broadly--not just at CSFB--and bringing the group's operations more under his control. Mühlemann's plan to combine private banking, retail, and insurance operations into a unit called Credit Suisse Financial Services should save up to $200 million by eliminating duplicate e-commerce projects and technology and cutting staff. It should also generate up to $100 million more in revenues by making it easier for the various divisions to sell one another's products, says the bank.

Long before Oct. 9, Mühlemann had taken some important steps, chief among them bringing in John J. Mack, the former Morgan Stanley Dean Witter & Co. (MWD ) executive (nicknamed "Mack the Knife") as chief executive of CSFB. Mack already plans to cut 2,000 jobs in the U.S. and London--some 7% of the workforce. The goal: to wring out $1 billion from operating costs in 2002. "Most banks would let these problems fester until the end of the year," says Mark Hoge, who follows Credit Suisse for Banc of America Securities in London. "Not Mühlemann." Hiring Mack, Hoge says, was Mühlemann's "biggest achievement" this year.

Not all the news from Credit Suisse is bad. "Its private-banking and asset-management operations are market leaders," says Bank Julius Baer analyst Philip Zieschang. Credit Suisse managed more than $890 billion as of June 30. Assets under management rose more than $25 billion through June.

"INDIGESTION." Yet Credit Suisse's clumsiness of late has done plenty of harm, too. "It's showing the signs of an institution that has grown too quickly and now has indigestion," says a board member at a rival European bank. The bank has grown fast, acquiring Winterthur in 1997 while CSFB went on an expansion binge culminating in the purchase of Donaldson, Lufkin & Jenrette in August, 2000.

CSFB's tangles with regulators in New York, Bombay, and Tokyo have given it a reputation as a bank that winks at compliance where big profit-generators are concerned. For a global operator, the bank can lack finesse. Mack, for whom China is a priority, flew off in mid-October to smooth ties with Beijing. The perceived offense: A Taiwanese official attended a CSFB event in Europe.

Then there's the Swissair debacle. In the post-September 11 collapse in air traffic, Swissair, the ailing national carrier, ran out of cash. It then sold its 70%-owned subsidiary, Crossair, to its principal creditors, Credit Suisse and UBS, which arranged a loan to keep the company afloat. But before the money arrived, Swissair had to ground its planes. Crossair will now take over most Swissair operations. Essentially, the banks bought Swissair for a song, outraging many Swiss who blame them for running the airline into the ground so they could cherry-pick assets. "That airline used to be a national jewel that could have been saved if the banks had acted sooner," says a board member of another Swiss bank.

Credit Suisse defends its actions, noting that Swissair wouldn't be flying at all without the banks' backing. Still, Mühlemann has since resigned from the board of SAirGroup. Amid the controversy, former Credit Suisse internal adviser Christopher Chandiramani told the press on Oct. 4 that the bank unfairly dismissed him after he warned that Swissair was flying into trouble. The bank disputes the allegation--but paid him $120,000 as a settlement when he threatened to sue.

Mühlemann's biggest challenge remains reining in CSFB. In the equity boom of the 1990s, the investment bank was a highflier, a legacy of the aggressive First Boston culture. Under Allen Wheat, CSFB chief executive from 1998 until July of this year, the investment bank hired top-flight analysts and investment bankers in droves, courting them with lavish bonuses, multiyear contracts, and generous revenue-sharing agreements, insiders say.

BLOATED PAYROLL. The consensus is that CSFB bought DLJ at the top of the market for $11.5 billion. Wheat had expected the market to keep booming. Now the firm finds itself in a bust with bloated costs. Before buying DLJ, CSFB had 16,500 employees. Today, even after laying off 2,000 people, it has 25,500. Its investment-banking payroll alone is 34% higher than at the time of the merger. CSFB won't give specific numbers but admits that its total compensation costs are more than the Wall Street average, which is about half of net revenues.

Investors applaud Mack's moves so far to get control of CSFB. Some want him to do more, though. "We see [Mack's] cuts as a first move," says a Geneva fund manager who asked not to be named. "There is scope to cut plenty more fat." Banc of America analyst Hoge says that up to 3,700 jobs, or 13.5% of the CSFB workforce, should go. Some shareholders also fret that the management layer below Mühlemann is too thin. "Mack is good, and so is [Thomas] Wellauer," the private-banking head who will head up CSFS, says the Geneva fund manager. "But I wonder if they have enough talent at just-below-the-board level." A Credit Suisse spokesman says management is "lean rather than lacking talent." Still, Mühlemann will have to do more to persuade investors that the bank is overcoming its troubles. In a world at war, that will take more than brave gestures.

By David Fairlamb in Frankfurt, with Emily Thornton in New York

— With assistance by Emily Thornton

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