Tokyo Comeback: Citi Buys Nikko

Citigroup will acquire Nikko Cordial, Japan's No. 3 broker, in a deal marking the U.S. bank's rehabilitation following stock manipulation charges

In the fall of 2004, Citigroup's (C) operations in Japan were giving foreign banks a bad name. Under investigation by the country's Financial Services Agency, Citi stood accused of chasing profit at any cost, allegedly misleading clients about investments and making loans that were used to manipulate stocks..

The FSA ruled that Citi, the oldest and biggest foreign bank in Japan, must close its private banking division. Citi chief Charles Prince flew to Tokyo for a slice of humble pie, Japanese style. "I sincerely apologize to customers and the public," he said, bowing deeply.

Prince's show of remorse was the start of a long climb back for Citi in Japan. And now, after a complete overhaul of the way Citi manages its Japanese businesses, the financial services giant is about to be rewarded. Citigroup today confirmed earlier reports in the Nihon Keizai Shimbun, Japan's biggest business daily, that it will acquire over 50% of Nikko Cordial. Speaking at a joint press conference on Tuesday evening in Tokyo, Nikko's president, Shoji Kuwashima said that he welcomed Citi's involvement, noting it would bolster the struggling broker's image in Japan. "We’re sure that with this tie-up, we can become one of the most trusted financial companies."

Some Serious Issues

Nikko, while troubled, is Japan's third biggest broker, and is valued at $9.8 billion. Citi, which has deep ties with Nikko, said it would tender $11.60 per share—a 0.75% premium—to increase its stake from its current 4.9% holding. "Our knowledge of Nikko Cordial, through our joint-venture relationship, makes us their natural partner," Citi's Prince said in a statement.

Earlier the broker confirmed in a statement to the Tokyo Stock Exchange that it was in talks with Citi covering "various issues." Investors took the news seriously. Nikko's stock closed up 13.7% at $11.51.

The deal isn't a big surprise as the two banks have longstanding ties, including a joint-venture partnership in Nikko Citigroup, an investment bank. Still, it shows how far—and how quickly—Citi has strengthened its standing in Japan over the last two years. Top Citi executives have been making regular trips to Tokyo and new senior positions have been created in Japan, including a chief executive post and a chief financial officer for Japanese operations.

Time to Buy

Citi also elevated the job of compliance officer to top executive. "Their image has undergone an overhaul in the eyes of the regulators," says Neil Katkov, group manager for Asia research at Celent in Tokyo. "It's a special case, and recognition of the long relationship Citigroup has had with Nikko."

Nikko Cordial could use a little help from Citi. Following an accounting scandal, Japan's financial regulator fined the broker $4.2 million, the largest fine in Japanese corporate history. The Tokyo Stock Exchange, meanwhile, had also been expected to de-list the broker in April as further punishment. "Citigroup should buy Nikko as soon as possible before customers and employees run away from it," Yasuhiro Matsumoto, an analyst at Shinsei Securities in Tokyo, noted hours before Citi confirmed reports of the deal.

Despite Nikko Cordial's problems, Tokyo-watchers reckon the move is a smart one for Citi. The broker has a network of over 100 retail offices, a strong online brokering presence, and for all its management problems, an able workforce. It also had profits of $756 million for the year ended March, 2006. All that, combined with Citi's know-how and resources, could revitalize Nikko and help the U.S giant rebuild in Japan. Citi could certainly do with a bump. Last year, Citigroup's Japan profits were down 65% to $391 million.

Lack of Local Interest

Celent's Katkov adds that Nikko Cordial could also help Citigroup reach Japan's large group of high-net-worth individuals. Like its larger rivals Nomura and Daiwa, Nikko Cordial has been signing deals with regional banks to sell securities following changes in Japan's securities laws that allow banks to distribute a range of retail investment products. "It's not clear how this will pan out, but it could be a way to get [back] into the wealth management market," Katkov says.

Citi also has the benefit of a lack of interest in Nikko from Japanese rivals. Mizuho Financial Group (MFG), Japan's second largest banking group and a Nikko shareholder, appears unlikely to enter the fray. One reason could be that Mizuho, which owns a stake in Nikko Cordial, is already merging its broking operations with Shinko Securities, to create Japan's fourth largest broker by March, 2008.

Seiichi Suzuki, an analyst at Tokai Tokyo Securities adds that Nikko's current weakness also plays into Citi's hands. "When a foreign company takes over a Japanese company it's important to clarify who is in charge," he says. "Citi can take the initiative and get a low price." With the acquisition of Nikko, Citi will also complete a remarkable transformation: from pariah to white knight in barely two years.

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