Foreign banks are discovering the gold mine that is Germany. This may surprise because on the surface, Germany is a costly place to do business, where firms face high corporate taxes and statutory contributions, as well as job protection. Germany also sometimes over-regulates financial services. Recent examples include restrictions on hedge funds, the near abolition of banking secrecy and a possible ban on residential property for German real estate investment trusts (Reits).
And perhaps the biggest barrier is that 80% of assets are held by domestic banks that cannot be acquired, namely state-owned sparkassen, landesbanken and co-operatives. With big commercial banks – Deutsche, Dresdner, Commerzbank and HVB – owning most of the remaining assets, it seems that short of acquiring one of them, an expedition to Germany is a fruitless endeavour.
Niches of gold
However, while Italy’s UniCredit may have found the way to El Dorado by acquiring HVB last year, other foreign banks have not needed big acquisitions to strike gold in Germany, the world’s third-largest economy. Instead, they have exploited niches in German banking caused by either the absence of domestic players or their lack of expertise.
A good example is US banking giant Citigroup. Rather than challenging the hegemony of German players in retail banking, Citigroup focussed on added-value services like credit that can be repaid in instalments. It is now the market leader in credit via instalments and has a significant retail presence, particularly in the big German cities.
In corporate and investment banking (CIB), where margins are higher and where only the big German banks are competitive, Citigroup is also a major player, offering mergers and acquisitions (M&A) advice, corporate debt and equity issuance, bridge finance and structured products. Citigroup says that since 2001, its CIB business has grown by 17% annually and that it has built up a core client base of 95 companies, primarily multinationals or export-intensive firms.
Luck and skill
Citigroup’s success in German CIB has not been solely due to its own expertise. Luck was also a factor. “We had tried in the 1980s to expand our CIB business, but competition from the big German banks was very strong and so we focussed on the top 40 corporate clients,” Michael Zitzmann, co-head of Citgroup’s German arm, in charge of corporate banking, told The Banker.
“Then, at the beginning of this century, Deutsche, Dresdner and Commerzbank tried and failed to merge with each other. This was followed in 2001 by a market crisis and, suddenly, they were pre-occupied with getting rid of their non-performing loans.
“The upshot was that they were not able to look after their clients, so we were able to gain substantial market share.”
Citigroup was by no means alone in profiting from the weakness of Germany’s biggest banks in CIB earlier this century. The Royal Bank of Scotland, France’s BNP Paribas and UK-based Barclays Capital have done equally as well in the market – to say nothing of Goldman Sachs of the US, which for years has been at the top of the league tables for German M&A and corporate debt and equity issuance.
Moreover, despite problems caused by bad loans in 2002, Deutsche never yielded much ground to the foreign banks in CIB. It even led some of the league tables for 2005 that exclude investment banks like Goldman and Morgan Stanley.
Still, Citigroup’s recent achievements in German CIB have been impressive. Last year, it took second place in corporate debt issuance and syndicated loans, ahead of its foreign competitors as well as Dresdner, HVB and Commerzbank. It has also won some high-profile mandates. For example, it advised on a $2.4bn takeover of Canadian Pacific Ships (CP Ships) by its German peer Hapag-Lloyd in 2005. Last April, it enabled German chemical giant Bayer to beat rival Merck to the acquisition of Schering, a Berlin pharmaceuticals firm best known for the birth-control pill.
“These kinds of transactions – where we provide the M&A advice and arrange the financing for big ticket customers – are our core business. We know very well that Merck was completely taken aback when Bayer, in the space of nine days, came with a higher offer for Schering. The same is true for Hapag-Lloyd’s rivals in the bid for CP Ships,” comments Mr Zitzmann.
Profit rises
The achievements have helped make Germany a gold mine for Citigroup. For the entire bank, pre-tax profit after risk provisions totalled €712m in 2005, up slightly from 2004. Mr Zitzmann’s business also achieves a return on economic capital of more than 30%, which is higher than a group target. Citigroup is also one of the few German banks that is hiring, having added 300 people to its workforce of 6600 last year.
Not everything has been perfect, though. A case in point is a decision in 2003 to exit institutional asset management just as the equity crash was ending and a boom in German pensions was beginning. Since then, the foreign banks that remained committed to the business – Goldman, BNP Paribas, JPMorgan and Merrill Lynch – have all benefited from an upswing. Indeed, the dynamism of German institutional asset management has led Belgium’s Dexia, France’s Crédit Agricole and ING of the Netherlands to open offices in Frankfurt.
Mr Zitzmann replies that Citigroup is still active in the institutional asset management market, albeit as a fund administrator instead of a fund manager. This could be a tall order because margins in the business are so small. According to experts like Uwe Trautmann, chief executive of the Helaba Invest, a major fund administrator, a player must reach a threshold of at least €10bn in assets for the business to be viable. JPMorgan’s inability to join Helaba Invest and other German players in reaching the €10bn mark forced it to exit fund administration last January. So far, Citigroup says it has five fund administration mandates, representing a volume of €500m.
Mark of modernity
Nonetheless, the fact that Citigroup is flourishing with a niche strategy for Germany underscores the modernity of its financial centre. Much credit for this is due to the former centre-left government of Gerhard Schröder. On its watch, Germany’s securitisation market was born, asset management was modernised – yielding in part hedge funds – and German Reits were conceived. Following the examples of the UK and the US, that government also created a single regulator for financial services, the BaFin.
Mr Zitzmann, who is also chairman of Germany’s Foreign Banks Association, agrees that the country’s financial centre has made great strides and even praises the BaFin. “It is plain to see that that the regulatory framework for the German financial centre has improved quite substantially in the last 12 to 18 months,” he says.
As examples, he cites more pragmatic treatment of border-crossing business for service providers from non-EU countries, such as the US and Switzerland, streamlined investment fund regulation and a shift away from a textbook approach among banking regulators.
Tax hindrance
On the other hand, he also believes that Germany’s competitiveness as a financial centre is hindered by several tax issues. These include a corporate tax rate of 36% and uncertainty about whether special purpose vehicles used for securitisation deals are subject to corporate taxes. He also believes the legalisation of German Reits is another crucial step.
As it happens, the centrist government of Chancellor Angela Merkel is continuing the work laid down by her successor. It plans to legalise German Reits in 2007, although these vehicles may not include residential property at first. Even so, property experts reckon that the move could create a new market of about €50bn by 2010. Ms Merkel’s government also intends to cut corporate taxes but no action on that front is expected before 2008.
Small steps perhaps but still more good news for Germany’s financial centre and the foreign banks that are active in it.
