Up North: Lessons from Canada on Building versus Buying a Securities Firm

Article excerpt


Brian Steck once was a vocal foe of financial services convergence, viewing it as unwise for banks and securities firms to affiliate.

Then came the Canadian Bank Act of 1987, clearing the way for such deals.

"I made the first phone call to the Bank of Montreal," recalls Mr. Steck, then chief executive officer of Nesbitt Thomson, a large Canadian investment bank. "I thought it would be foolhardy to go it alone."

And so it was that Canada's banks began snapping up the country's securities firms. Bank of Montreal bought 75% of Mr. Steck's firm, and three other banks from the top five proceeded with similar deals. Another top bank, Toronto-Dominion, began building its own securities unit.

Twelve years later, the experiences up North stand as guideposts to bankers in the United States. Many U.S. banks have been pushing into investment banking as a way to bolster ties with corporate clients. And the trend could well accelerate if Congress passes financial reform legislation.

In this story and one Friday, American Banker explores how Canadian banks handled two of the trickiest strategic issues: whether to buy investment banks or build them, and how to integrate investment banking with traditional corporate banking.

Though buying is not cheap in any economic cycle, the Canadians were doing so shortly after the global slump of 1987-and so benefited from the sustained market boom of the 1990s. And if a bank is serious about getting into this business, buying is the quickest and surest way to do it.

"There are days when I wish we had bought," says Donald A. Wright, chairman and chief executive of TD Securities Inc., the home-grown subsidiary of Toronto-Dominion Bank. "It's difficult to build."

Judged by market share alone, the Toronto-Dominion's strategy has been less than a smashing success. The bank lags its competitors in both domestic debt and equity underwriting tables, ranking No. 6 overall last year, according to Canada's Financial Post.

But Mr. Wright, who came to TD five years ago after running Merrill Lynch & Co.'s Canadian unit, says that league tables tell only part of the story.

"When you are building, you can make decisions as you go along," he says. And TD has been firmly profitable, thanks in part to a thriving retail brokerage it formed alongside the investment banking business.

Certainly, those banks that bought their way into the business faced some tough times initially. They were widely criticized during the recession of the early '90s for taking longer than expected to see a return on their investment, says Gordon Roberts, a finance professor with Toronto's York University.

Four of the top five Canadian banks spent an average of $200 million to $300 million apiece on these firms in 1987 and 1988. And in most of those cases the partners retained a minority interest that later had to be wound up.

But market perception has swung with the economic cycle, Mr. Roberts says, because the banks with the biggest securities units made more money in the capital markets during the sustained 1990s boom.

Last year was a notable exception. With the five big banks closing their fiscal year on Oct. 31, capital-markets results were hurt by the global economic woes of the summer and fall.

Even so, the $1.5 billion of revenues at the Royal Bank of Canada's securities unit accounted for 16% of the holding company's revenues. And the $187 million net income at the securities unit last year represented 9% of the holding company's bottom line, more than at most U.S. banks that have gotten into this business more recently.

Royal Bank, Canada's largest in terms of assets, paid $312 million for its majority stake in Dominion Securities Inc. in 1988. Both the bank and the firm were well known for their voracious appetite for acquisitions. …