Morgan Stanley's joint venture in Japan with Mitsubishi UFJ Group has been criticised by competitors as a concession to MUFG for its huge investment in the US bank at the height of the financial crisis. However, Jonathan Kindred, CEO of MSMS, one of the companies formed by the joint venture, is adamant that the long-term benefits of the move will prove the critics wrong.

In September 2008, when Japanese banking behemoth Mitsubishi UFJ Financial Group (MUFG) invested $9bn investment in Morgan Stanley, the US investment bank secured a lifeline to help it through the financial crisis. The 21% stake it gave MUFG in Morgan Stanley – since increased to 22.4% on the conversion of preferred stock in April this year – was couched as an extension of the pair's global strategic alliance.

That alliance took more material form in March 2010 with the creation of a joint venture across their Japanese businesses. The aim is to bring together MUFG's Japanese client base with Morgan Stanley's global footprint. Both hope it will help them to attack Nomura's dominant market share in Japanese investment banking.

Consolidated entity

The joint venture has a rather cumbersome structure, with the creation of two different legal entities that have the same economic ownership, partly because of legal restrictions, say the partners. Mitsubishi UFJ Morgan Stanley Securities (MUMSS) will continue the existing Japan-based retail, middle markets, capital markets and sales and trading businesses of Mitsubishi UFJ Securities, and will integrate the investment banking team of Morgan Stanley Japan Securities. MUFG holds a 60% interest and Morgan Stanley a 40% interest, making MUMSS a consolidated entity of MUFG.

Morgan Stanley MUFG Securities (MSMS), meanwhile, comprises the existing sales and trading and capital markets operations of Morgan Stanley's Japanese business. While the economic interests of MUFG and Morgan Stanley in MSMS are the same – 60% and 40%, respectively – Morgan Stanley has a 51% voting interest in MSMS and MUFG has 49%, making MSMS a consolidated Morgan Stanley entity.

Competitors have suggested the complex structure means the joint ventures will struggle to be successful and that the two entities are competing with each other in the same market. Jonathan Kindred, president and chief executive of MSMS, says this is not the case.

“I look at it very differently. We have two brands in one industry. In the same way that Proctor & Gamble sells multiple soap brands, we have different value propositions in the two companies,” says Mr Kindred.

He argues that it was better to develop the retail and small and medium-sized enterprises business under an existing brand (represented by MUMSS) as that is already known and trusted in Japan. Similarly, Morgan Stanley’s Japanese investment banking division has been migrated into MUMSS to align it more closely with the MUFG corporate client base, as that is where it thinks it will get most leverage from the partnership. In terms of the sales and trading, Mr Kindred says that Morgan Stanley’s global client base requires a seamless service, and this is best served by keeping that business more closely aligned with the investment bank’s global structure.

“The way we can best serve our clients is by bringing the best value proposition to different client segments across the overall market place,” he says.

Opening new doors

Mr Kindred believes there is plenty of room for market share growth across both companies. “The combined market share of the two companies is about 15% of the overall industry wallet; that means that there is still 85% more of the market that we can address. If together, the two companies had 60% to 70% of the market, I would be much more concerned about the notion of competition, but we don’t. We think we can grow our share quite dramatically.”

With Japan's securities revenue wallet not growing, and with many suggesting that it may even shrink a little over the next couple of years, some commentators have questioned the rationale for the joint venture, saying it is a concession to MUFG for its huge investment in Morgan Stanley. Mr Kindred counters that in absolute terms it is still a very big market that is crucial for global firms to be present in.

“The macro-picture in Japan is difficult and the [securities revenue] wallet may be static, but in absolute terms it's a very big wallet and that makes it a very important market,” says Mr Kindred.

Crucially, Mr Kindred says the joint venture will give Morgan Stanley access to business opportunities that have historically been virtually closed to foreign firms. The US investment bank’s securities business has been profitable in Japan, driven by trading securities with institutions, but corporate advisory – seen to have growing potential with the strength of the yen and rising outbound merger and acquisition (M&A) appetite of Japanese corporates – has been dominated by Japanese firms.

Retail therapy

Just as important, the huge retail market has largely been the domain of domestic firms. Japanese households have almost $15,000bn in savings, mostly in cash, and brokerages such as Nomura have used retail networks to provide extremely stable sources of income.

This is a crucial aspect of the joint venture, says Mr Kindred, who argues that it will enable both partners to have a crack at new business: MUFG the brokerage business that it has not been able to tap into as a commercial bank, and Morgan Stanley the domestic and retail elements that have been the preserve of domestic houses.   

“In aggregate, [foreign firms] own only about 30% of the overall revenue wallet, so everybody's fighting over a relatively smallish percentage of the pie. And the pie isn't growing, so that creates a strategic issue for the foreign firms operating here,” says Mr Kindred.

“Similarly, about 40% of the wallet is retail-driven, and no foreign firm has organically developed its own retail capacity. We now have, together with our joint venture partner, a tremendous retail network. Over time, we see ourselves as being able to compete in the entire space of the industry, as opposed to just a small piece of the pie – so the [market] share opportunity is very attractive for us,” he says.

The joint venture has Nomura (which commands a hefty 30% of equity capital markets volume, for example) firmly in its sights. Mr Kindred is sure that the joint venture has a good chance of chipping away at Nomura’s lead. “It’s highly unusual for any developed financial services market to have one firm with that kind of consolidated revenue share – and that’s not going to persist. With our joint venture we have created the kind of competition that [Nomura] hasn’t seen before. Our view is that we have the right mix to take market share,” he says.

Japan deals with involvement from MUMSS and Mitsubishi UFJ

The lion's share

MUFG (via MUMSS) is not the only Japanese commercial bank with its eye on the domestic securities markets. Others such as Sumitomo Mitsui Financial Group are also looking to take a bite out of the pie, having recently acquired Nikko Cordial from Citi, bringing an abrupt and unexpected end to Nikko’s partnership with Daiwa Securities Group.

These strategies will need to be long-term, as the macro environment in Japan is hardly positive. The equity markets in particular have seen volumes plummet in both primary and secondary markets and, sadly for investment banks, this is where the lion’s share of revenue is. That said, debt markets offer better prospects; outside of credit markets – which have suffered because everything is correlated with the latest news out of Europe – products such as rates and foreign exchange have seen healthy activity.

While the Japanese fee pool for M&A is still a fraction of that in the equity capital markets, M&A volumes, too, are going up. According to data from information provider Dealogic, Japanese M&A reached $96.4bn in the first nine months of 2011, up 22% from 2010 and reversing five consecutive first-nine-month periods of decline. “Japanese companies understand the need to get global, and now is a good time because the yen is strong,” says Mr Kindred.

Climbing the league tables

Quantifying the joint venture’s success so far is difficult. The Japanese league tables continue to list each individual bank (MUFG and Morgan Stanley) rather than the joint venture (MUMSS/MSMS), and in these, Morgan Stanley ranks seventh for Japanese M&A so far this year, versus fourth for the same period in 2010, for example.

However, Dealogic’s aggregate data for the number and value of deals done by the joint venture shows significant growth this year, with the number of M&A transactions, for example, rising from 23 in 2010 to 40 so far this year (see table 1). There has been a similar rise in cross-border activity (see table 2). Both banks have been involved in Japan-based deals (as well as ECM and debt capital market transactions) independently of the joint venture-attributed transactions.

Importantly for Morgan Stanley, MUMSS is winning mandates that would have been difficult for it to win alone. For example, it is left lead on one of the biggest M&A deals done in Japan for some years, advising Nippon Steel on its $22.5bn (including debt) merger with Sumitomo Metal Industries, announced in September.

Mr Kindred is positive about what the pair have achieved already and the potential for the future. “We’ve done a number of transactions together that I know [Morgan Stanley] wouldn’t have been able to do previously, and we’re going to see that impact in the league tables over time,” he says. “I think we expect to some degree for this to take a little bit of time; for the partners to get to know one another and to explain the nature of our relationship and the way we can deliver services to our clients given that we have the two company structure. So it’s still early days; this is a long-term relationship and a long term plan.”

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