DBRS Sees Opportunities but also Challenges for the Potential Combination of Barclays and ABN AMRO
Taking note of the concomitant announcements by ABN AMRO and Barclays PLC (Barclays) that they are engaged in preliminary discussions concerning a potential combination, DBRS has commented on the significant opportunities of such a combination, pointing also to the very material challenges facing it.
Both banking groups are rated by DBRS – AA/R-1 (high) with a Stable trend for ABN AMRO and R-1 (high) for Barclays Bank PLC. While such a combination would clearly represent a rating event for both groups, their talks are at an exploratory stage and there can be no certainty that this will lead to them joining forces, especially since other financial groups are also likely to express interest in such a transaction. As a first reaction to the announcement, however, DBRS considers that the two banking groups’ ratings and their Stable trend are well positioned and not likely to be affected either way in a first stage. That said, the final structure of the potential transaction and its ultimate cost could represent important rating drivers.
In DBRS’s opinion, a potential combination with Barclays could be a viable alternative to ABN AMRO’s present strategic plans, of increased management focus, higher capital discipline and improved cost management, as both options should allow ABN AMRO to pursue its path towards restoring stronger sustainable profitability, primarily by extracting more efficiency from its wholesale financial-services activities. From ABN AMRO’s perspective, a combination with a peer of Barclays’ financial and franchise strength could represent an enticing global strategic opportunity. On the other hand, DBRS views ABN AMRO as a solid and well-positioned financial group which, if left alone, could continue to deliver higher levels of efficiency – where it has lagged many of its global peers in the recent past.
DBRS goes on to say that positive credit connotations would also exist for Barclays. In recent years, Barclays has undertaken three more important foreign acquisitions: Absa in July 2005, Juniper Financial Corporation in August 2004 and Banco Zaragozano in July 2003. Each of these acquisitions has been well executed and has enabled Barclays to export its corporate and retail banking presence outside its home market. However, DBRS adds that these acquisitions were far from having any true transformational impact on Barclays, which remains primarily anchored in U.K. high-street banking, selected global trading, wholesale banking and asset management niches, and the card business.
Against this relatively cautious foreign growth, a potential combination with ABN AMRO would represent a very significant step in a new direction, one that would fast-forward Barclays to a truly global franchise. Continuing to be anchored in its profitable home market (which, however, presents comparatively limited further growth opportunities), the U.K. banking group, through a combination with ABN AMRO, would land full speed in the Dutch group’s major markets – the U.S. Midwest, Brazil, Italy, selected Asian countries and of course the Netherlands. It would become a truly global player without the need to accept other transformational combinations which could be less desirable.
DBRS adds that such a major transaction would visibly rank beyond Barclays’ self-defined strategic plans – which do not include a transformational combination of such magnitude. On a number of occasions in the past, the U.K. group has aptly stated that mergers and acquisitions should be considered the “servant not the master of strategy” and that its growth was not reliant on such transactions. That said, it is DBRS’s view that, almost invariably, transformational combinations across Europe occur when one of the parties is, or is perceived in the market as being, in a less vigorous financial condition – which inherently lends an opportunistic trait to the process, rather than it being based on a long-thought tactical build-up. Taking timely advantage of emerging opportunities without incurring unduly high risks is as much a part of excellence in management as pursuing diligently pre-established goals – and DBRS’s analysis takes it into account.
Regarding efficiency advantages, DBRS believes that a potential combination could lead to material cost-cutting in the wholesale banking division, where there are large overlaps and where Barclays would be taking on ABN AMRO’s less strong operations. However, on the whole, cost synergies are expected to remain relatively low, given the two banking groups’ complementary, rather than overlapping, geographic franchises. From this angle, there remains the possibility that other contenders could have more potential synergies to extricate from a combination with ABN AMRO than Barclays.
DBRS concludes by pointing to the very significant challenges attached to such a potential combination. First, there are inherent socio-political hurdles to a closer combination, given ABN AMRO’s flagship position in the Dutch banking market. Such hurdles could limit the benefits of the transaction, and it is doubtful that Barclays would accept half steps that could visibly disappoint its shareholders’ expectations. Second, the two groups’ cultures show some distinct differences. DBRS views Barclays as more centralised and integrated, revolving around its home-market backbone. Conversely, ABN AMRO appears to be more global and cluster-like in nature, with large autonomous franchises in its key markets mentioned above. From the experience of the past, DBRS strongly believes that smooth cultural integration of such magnitude may represent an uphill struggle for several years – albeit one which can ultimately yield a positive outcome if pursued wisely, consistently and patiently.