Supply and command

Banks’ M&A fees keep rising despite lots more competition. Reason: a deal boom.

Competition seems to be hotter than ever in investment banking. Since Congress repealed the Glass-Steagall Act in 1999, permitting commercial banks to enter the securities business for the first time since the Great Depression, big banks like Citigroup and J.P. Morgan Chase & Co. have muscled in on investment bankers’ turf. Lately, a swarm of high-end advisory boutiques also have been scrambling for M&A mandates. For companies doing deals, all this wooing ought to be great news. They pay investment bankers rich fees, especially for merger advice, and more competition should mean more-reasonable fees.

Indeed, fees have been inching downward on smaller mergers. But on bigger deals -- those worth more than $5 billion -- corporations get no break: Buyers and sellers in such transactions each forked over an average of 0.37 percent of the merger’s value to bankers in 2005, up from 0.35 percent in 2003, according to New Yorkbased consulting firm Freeman & Co. and data vendor Thomson Financial. Although a 2-basis-point increase may seem negligible, it equals $1 million in extra fees on a $5 billion deal.

The fee inflation is not confined to megadeals. For midrange transactions of $750 million to $2 billion, the average fee per company climbed from 0.56 percent in ’03 to 0.66 percent last year. For a company involved in a $1 billion merger, that translates into an additional $1 million in fees.

Wall Street has not suspended the law of supply and demand. Rather, the sheer volume of deals is driving the fee increases. More than $2.9 trillion in global mergers and acquisitions were announced last year, a 34 percent increase from the 2004 tally and more than twice the volume registered in 2002. Through May of this year, the dollar volume of announced deals -- $1.32 trillion -- was up by 33 percent over the comparable five months of 2005, according to research firm Dealogic. “The market is hot,” says Freeman principal Teck-Tjuan Yap. “Banks are swamped with transactions.” Consequently, they can get away with charging more.

If it’s any consolation to corporations, Wall Street firms increasingly must share the spoils with their fellow deal makers. According to Freeman and Thomson, the average number of co-advisers on deals above $5 billion rose to 4.2 last year from 3.7 in 2003 and 3.2 in 2001. Companies contemplating mergers sometimes retain bankers whose advice they prize -- especially those at independent merger boutiques -- while also turning to bigger banks to coadvise and provide the financing.

Travel and real estate conglomerate Cendant Corp., for example, hired boutique Evercore Partners to advise on a breakup strategy in November 2004, months before it brought in J.P. Morgan Securities and Citigroup as co-advisers. The banks are offering financing to potential buyers of Cendant’s travel division.

In one slice of the M&A market, companies are benefiting from heightened competition. Fees on deals worth less than $750 million fell from an average 1.77 percent in 2003 to 1.63 percent last year. Many more firms can pursue transactions in this category, from regional banks to boutiques specializing in emerging companies. And bulge-bracket firms dare not spurn such deals, because they can be profitable and may lead to bigger paydays.

Another factor depressing fees for small transactions: Companies are more capable of executing such acquisitions without an adviser. According to a 2005 Greenwich Associates survey, 46 percent of U.S. corporations rely primarily on internal departments to originate M&A transactions. For deals valued at less than $100 million, the proportion rises to more than half. U.S. companies with more than $5 billion in revenue boosted their in-house M&A departments from 5.1 people, on average, in 2004 to 6.5 last year, Greenwich calculates.

“Companies have learned that what they once outsourced, they can do more cheaply themselves,” says Greenwich principal Markus Ohlig.

Imagine if the do-it-yourself ethic spreads -- the potential savings are mind-boggling. Overall, M&A fees soared to $16.2 billion last year from $11.2 billion in 2002, according to Dealogic. In this year’s first quarter, deal makers collected $5.4 billion in advisory revenue. Goldman, Sachs & Co. alone pulled in $736 million, 78 percent more than it did in 2005’s first quarter. Maybe when the merger boom wanes, stepped-up competition will translate into lower fees -- or, at least, more pressure on banks to really earn them.

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