Wednesday, March 22, 2017

Saudi Investment Banking Fee Riches – Just How “Rich”?

Happy Banker Counts His Legendary Saudi Fees

March 16 Bloomberg reported that Saudi Fee Riches Will Keep Citicorp and Credit Suisse Waiting.  Bloomberg didn’t say how long but the article implies it could be a bit of a wait.
AA thinks it will be even longer before banks get “rich” off Saudi or MENA fees.  (Editor’s Note:  With this post SAM has adopted the Spicer Style Book convention on the use of quotation marks.) 
"Rich” is a relative term.  A chap or chapette with US$10,000 equivalent in Pakistan is doing quite well.  That same amount in Luxembourg not so well.   AA is assuming talk of “riches” is in relation to the latter, though ...
The 2015 net income figures cited by Bloomberg in the article for net profits at HSBC KSA and  JPMorgan KSA (respectively US$75 million and US$10 million) indicate just how far there is to go.   For these banks this is "hobby" not mainframe LOB income.   
A few quotes from the Bloomberg article to set the stage.
Saudi Arabia and its ambitious reform plans are the focus of all the hype in Middle Eastern financial circles these days, but it’s still in the United Arab Emirates where banks are earning most of their money.

Investment banking fees paid to lenders in the U.A.E. were 45 percent higher than in the kingdom last year, according to New York-based research firm Freeman & Co. Saudi Arabia has trailed the U.A.E. for fees earned from merger and acquisitions, equity capital market and financing deals since 2011, and is off to a slower start this year, according to the data.

Global banks are investing in Saudi Arabia in preparation for an expected fee bonanza.
Sounds fantastic.  45% higher.  Fee bonanza, albeit “expected”.
There is no sweeter song to banks and bankers than of outsized fee revenue which carries the happy implication of the bonuses such flows imply.  Think on average near to 50%--at least in happier days—shared with self-professed hard working and “savvy” bankers.
But let’s take a closer look.
First at the quantum of fees as per Bloomberg.
Banks earned $237 million in investment banking fees in the U.A.E. last year, compared with $164 million in Saudi Arabia, the Freeman data shows. Lenders secured $154 million from financing deals in the Emirates, compared with $121 million in Saudi Arabia, even after the kingdom raised $17.5 billion in the largest-ever emerging-market debt sale. M&A fees in the U.A.E. were $70 million, almost triple the $24 million earned in Saudi Arabia.
Just how big are these numbers in the global context?
Charitably speaking, rounding errors.
Thomson Reuters (TR) estimates that global investment banking fees in 2016 were approximately US$85 billion.   The fee rich geographical areas are USA and Europe (primarily Western Europe). As per TR’s report roughly US$45 billion of the US$85 billion related to US deals.
On that basis, parsing UAE and KSA fee levels either individually or in total is like analyzing the relative positions of Sunderland and Middlesbrough.  Which is the better team?  Which of the two  will take home silver next season? 
If that US$85 billion total hasn’t already well and truly taken the luster off talk of KSA IB fee “riches”, or for that matter UAE or MENA IB fee riches, let's drill down a bit further..
The charts below are compiled from Thomson Reuters individual LOB reports on estimated full-year 2016 global investment banking fees for just three IB revenue streams so they don’t total to US$85 billion mentioned.  Just three to provide a bit more granular detail on where MENA fits in the global fee picture.
2016 Estimated Investment Banking Fees
Billions of US Dollars
M&A 

$30
Debt Capital Markets

$24
Global Syndicated Loans

$16
Total

$70

MENA Share of Estimated Global Fees
M&A 

0.083%
Debt Capital Markets

0.517%
Global Syndicated Loans

0.500%

Note: 0.083% is 0.00083 in decimal terms.  
MENA fees at their highest don’t reach 1% of total global estimated fees in any of the categories above.    
Side note:  You can sign up for free copies of TR’s reports (which are quarterly) if you have a corporate email or so AA has been told.  Disclosure:  I didn’t hear this from a Fox News commentator, but the information is almost certainly as, if not more, credible, if you can believe that.
Seems to AA that not too many banks or bankers are going to get rich off this level of MENA fees. 
These MENA M&A fees are less than the fees for some single deals in the USA or Europe.  Profit-oriented banks and bonus-hungry bankers are likely to focus elsewhere, particularly where the same or similar templates can be applied to a greater flow of transactions.
Typical AA Irrelevant Aside:  Once some years ago in one of our weekly deal review meetings with some of the highest life forms in the firm present ethereally electronically as befits their exalted existence, one of my colleagues began touting a deal with $6 million in revenue.  A rather distraught team leader jumped in to minimize embarrassment by noting the deal was significant for “potential market development”.  An unfortunate turn of phrase.  The “big” man or others of nearly the same rarefied stature would periodically ask how PMD was coming along when they wanted to tweak a tail.  PMD thereafter became a sort of tag line in the group to justify “certain” behaviors.  There was the case of a rather large beverage expense incurred with several colleagues that AA successfully explained as “PMD brainstorming”.   
What could change to propel MENA into relevant fee territory?
Fees are the product of volume and pricing.  (Math pun intended).
US and Europe have volume.  MENA doesn’t have the volumes.  Even with KSA’s economic plans sustained volumes at the US/Europe level are unlikely.
But there’s another problem.  Low fee levels, particularly in KSA, as Bloomberg notes.
Banks and advisers working on Saudi Arabia’s $6 billion National Commercial Bank IPO, the world’s second-largest IPO in 2014 after Alibaba Group Holding Ltd., received about $6.7 million in fees, or about 0.1 percent of the offering’s value. By comparison, Credit Suisse and Morgan Stanley took about 1.2 percent of proceeds on the Alibaba sale.
"The Aramco IPO is likely to have fees hugely squeezed," said Emad Mostaque, chief investment officer of emerging market hedge fund Capricorn Fund Managers.

One might argue that MENA fees are depressed now because current clients are predominantly public sector entities that generally pay lower fees.
Indeed.
What are the prospects for a local private sector Alibaba (other than the one pictured above) and the sort of private sector deals we see in the USA or Europe?
Off in the distant future if at all.
After the successful National Commercial Bank IPO, KSA state entities retained some 60% of the bank.  The planned Aramco IPO targets placing a whopping 5% of existing shares, leaving 95% in government hands.  In neither case are private sector fees likely to apply to follow-on deals.  And if the initial performance holds (NCB was wildly oversubscribed and Aramco is likely to be as well), market demand will bolster client demand for lower fees. 
That doesn’t mean that foreign banks will shun Saudi or other MENA deals.
Fees aren’t the sole criterion for participating in a deal. 
Sometimes “maintaining relationships” or “creating” them is a compelling motive.  The mantra goes: Do a cut-price deal, gain admission to the client’s magic circle of favored banks, be repaid many times with  subsequent richly priced deals.  But often the subsequent “rich” deal is a mirage.  If the client is used to “cut rate” prices, future transactions are likely to be just as “fee skinny” as the entrée deal. 
Or if the deal is strategically important to the country, your reward will be a fast track to a banking license in the country where you can earn above average profits from private sector clients. That’s the theory, though this also often doesn’t work out in practice.
Banks have other motives, e.g., doing deals to enhance league table position to bolster their image and marketing.  That’s why you’ll see more than the necessary number of banks on very large or very prestigious deals often working for a song.  But without sustained substantial fee revenue such efforts come to naught. 
Also sadly, as history shows, despite self-proclaimed “smarts”, IBs are prone to fads, fashions, and, yes, hype.  See Lehman, Bear, Citi, et al.  Or dotcoms,mortgages, whales, etc.  If the music is playing, there is a strong compulsion to get up and dance.

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