The new Commerzbank chairman doesn’t have much time to revive profits - or see the bank sold to the highest bidder. But he’s sure trying harder.
By Joan Warner
September 2001
Institutional Investor Magazine
To demonstrate what separates his bank from the rest of the pack in Germany, Commerzbank’s new chairman, Klaus-Peter Müller, pops open his briefcase and pulls out a bumper sticker. The tag, in German and English, proclaims, “Wir geben uns mehr Mühe": We try harder. It’s the advertising legend of Avis Rent A Car System, America’s No. 2 car rental agency.
The gesture sums up the new spirit that Müller brings to Commerzbank - worldly and eager to please. Trouble is, Commerz isn’t No. 2. For decades the smallest of Frankfurt’s Big Three Grossbanken, or universal banks, it now ranks fourth in Germany and trails the enormous financial institutions in Europe being created by consolidation. With assets of about E500 billion ($457 billion) and a market capitalization of less than E17 billion, Commerz looks puny next to Deutsche Bank (assets: E988 billion) and the newly minted combo of Dresdner Bank and insurer Allianz (E1 trillion-plus).
Size isn’t the only handicap Müller must overcome. In a European banking market roiling with new competitive pressures from the single currency and aggressive inroads by U.S. rivals, the bank suffers from an identity problem. Without the investment banking
oomph of Deutsche, the insurance market clout of Allianz-Dresdner or the strong retail brand of HypoVereinsbank, Commerz needs to join forces with a bigger institution or risk obsolescence, many believe. “I have doubts the bank can survive without merging,” said a leading German shareholder-rights activist during the May 25 annual meeting at which Müller took over the top job. The dismal results reported on August 9 - pretax profits for first-half 2001 were down 74 percent from a year ago, while costs kept climbing - underscored the bank’s vulnerability.
The market remains skeptical about Commerz’s prospects of surviving as an independent entity. At about E26 in late August, the bank’s stock was down more than a third from its 12-month high of E42, hit in summer 2000. It has spiked at least three times since Müller took office. Supposed bidders have included HypoVereins, Merrill Lynch & Co., Milan-based Unicredito Italiano and, most recently, Deutsche Bank. All deny that any negotiations have taken place.
The 56-year-old Müller, who has been with the bank since 1966, has no illusions about the pressures he faces. His predecessor Martin Kohlhaussen clung stubbornly to independence for Commerz during his ten-year tenure before giving in to clamoring shareholders and initiating merger talks with Dresdner Bank in August 2000, only to see them collapse in mutual rancor over pricing. Although the two banks had approximately the same market cap, a vocal group of Commerzbank stockholders opposed the 60-40 merger formula that Dresdner favored; Kohlhaussen insisted on a one-to-one share swap, which Dresdner rejected out of hand. In hindsight Müller says the merger would have been ideal. But now Dresdner has been swept off the dance floor, leaving Commerz shareholders and industry watchers to speculate about a non-German partner, such as Unicredito.
Indeed, the biggest question hanging over Müller’s newly crowned head is whether he will be more amenable to deals than his predecessor. Diplomatically, he insists that Kohlhaussen, who in keeping with German tradition now heads Commerz’s supervisory board, willingly entertained all reasonable partnership possibilities. Müller says he, too, will listen to suggestions with an open mind and plans no radical redirecting of strategy. “I don’t believe in change for change’s sake,” he said at the end of his last day as heir apparent in his 47th-floor office. (The next morning he traded it in for digs of almost identical square footage one flight up, with a somewhat less sweeping view of Frankfurt’s skyline.) And like Kohlhaussen, he maintains - publicly, at least - that Commerzbank can go it alone. “The myth is that Commerz is a universal bank that lacks the scale it needs to compete,” he says. “That’s wrong. We are focused - that’s different from being small.”
But Müller’s personality contrasts with Kohlhaussen’s in ways that could signal greater openness to a merger. Müller is one of the few top executives in Germany Inc. not to have attended university, having gone directly from military service into a bank apprenticeship; Kohlhaussen, like many bankers, trained as a lawyer. Müller worked in Commerzbank’s New York branch for seven years and believes that living abroad is crucial to doing a creditable job in international finance; Kohlhaussen’s brief work experience outside Germany took place before he joined the bank, in Tokyo and New York. Müller, born in Düsseldorf, has a Rhinelander’s informality and is known around the bank as K.P., his first initials; Kohlhaussen, a northerner, is stiffer in demeanor and is surreptitiously called “Sir Martin” by his staff. Müller prides himself on his accessibility. “When you call me, I answer the phone,” he says. “I even answer my secretary’s phone.”
Investors impatient with Commerz’s go-it-alone strategy like this change of style at the helm. “At last I have someone rational to talk to,” said Hansgeorg Hoffman at the annual meeting. As head of Dutch investment group Rebon’s German subsidiary, Cobra, which holds just under 10 percent of Commerzbank’s shares, Hoffman has been Kohlhaussen’s nemesis. He has long and loudly denounced the bank’s strategy and, Kohlhaussen asserts, dragged down its share price in the process. By contrast, Hoffman calls Müller a “pragmatist” and has given him the support of Cobra and its allies. In fact, a group of 40 dissident shareholders, seven of them Cobra investors, withdrew a proposed vote of no confidence in the bank’s management board. Their main grievance: that Commerzbank last year strengthened its antitakeover defenses by issuing more shares to Italian insurer Assicurazioni Generali under terms not made available to other stockholders.
Müller has hit the ground running. The principal architect of “CB 21 - Commerzbank in the 21st century,” a seven-step profit-enhancement plan adopted in February, he has (in his own words) put his “head on the block” by taking office with a clear set of revenue targets and detailed strategies for meeting them by 2005. This is the first time the bank has made such a specific commitment to investors; Müller is keen to show that Commerz is serious about profitability. On June 13 he announced a cost-cutting initiative that he says will save E240 million in the current year through a hiring freeze, branch consolidation and rollbacks or postponements in technology spending. In late June Müller entered into talks with Deutsche and Dresdner about combining all three banks’ sluggish mortgage operations into a partnership to boost their competitiveness against market leader HypoVereins. And in late July he radically reorganized Commerz’s asset management division.
But Müller will have uphill sledding in distracting investors from the notion that only a merger can bring shareholder value. “There’s tremendous pressure on management to recapture the imagination of the investor base, which is unfortunately focused on deals,” says Merrill Lynch Global Securities European banking analyst Adrian Pilz. Müller shrugs at the perennial rumors: “Commerz has been in play for 30 years,” he laughs. But he knows time isn’t on his side. His profitability targets look ambitious, barring a sustained stock market recovery that reignites earnings in securities and asset management. And competitors all over Europe are pursuing alliances that threaten to cut into Commerz’s business. “I don’t have five years,” Müller admits tersely. “In 24 months investors will know if we’re on the right track.”
His hopes for proving himself are securely pinned to CB 21, which aims to increase pretax profits by E1.56 billion over four years by refocusing the bank on its core competencies. In a move that has since been imitated by Deutsche Bank, Commerz reorganized itself from four divisions into two, one encompassing retail banking and asset management and the other corporate and investment banking. Besides streamlining reporting and improving synergies, Müller believes, the new structure will lead to greater accountability on the part of managers because it features extensive segment reporting.
He has set pretty high hurdles for those managers. The biggest contribution to earnings is expected to come from integrating corporate and investment banking; the combined division is supposed to achieve earnings growth of 8.7 percent a year and be delivering E312 million in additional pretax income by 2005. Investment banking teams will infiltrate half of Commerz’s main branches, peddling services to the Mittelstand, or midsize companies. By focusing on derivatives and other structured products, the bank hopes to steal such business away from Deutsche. But Müller’s earnings projection assumes that the corporate and investment banking division can widen its German market share to nearly 10.5 percent, from 7 to 8 percent - a stretch, in the view of many.
In asset management, CB 21 calls for a cumulative pretax profit rise by 2005 of E300 million - perhaps the most aggressive of the plan’s targets. Müller thinks the bank can double its funds under management to E268.4 billion. He has already hired 300 people in Italy, where he wants to gather E9 billion of new assets over the next four years, in part by pushing mutual funds through the distribution network of Generali, which owns 20 percent of Commerz. Cross-selling with Generali is supposed to generate an additional annual E140 million. But even if Commerz concentrates on high-growth mutual fund markets, it will have to expand faster than the supercompetitive environment may allow. And every bank in Europe is counting on pension reform to bolster its asset management business.
The other CB 21 targets may be somewhat easier to hit. Müller wants to streamline Commerz’s foreign activities and possibly dump some nonstrategic holdings, including stakes in Korea Exchange Bank, Brazil’s Unibanco and France’s Crédit Lyonnais. “We have 5 percent here, 5 percent there - it doesn’t make sense,” he says. Such moves, he hopes, will collectively boost pretax profits by E240 million. Back home, a proprietary electronic database called P2000 that has yielded good cross-selling results in the retail division is supposed to produce E220 million in cumulative income when it’s deployed to sell high-net-worth individuals everything from tax shelters to hedge funds. Cuts in Commerz’s 935 domestic branches are budgeted to be worth E165 million in additional pretax earnings by 2002. Asset securitization and redeployment of freed-up capital are expected to contribute a further E150 million in the next four years.
To pessimists who think CB 21’s targets are unrealistic, Müller’s response is that he can build Commerz’s franchise by leveraging its greatest strength: customer satisfaction. He doesn’t mind being Avis to Deutsche’s Hertz as long as Commerz has a clear identity as “the bank by your side,” its latest domestic ad pitch. He delightedly cites a recent public opinion poll on banking services - commissioned by Dresdner - that awarded Commerz top marks. In another public relations coup, a reporter visited Deutsche, Dresdner and Commerz branches incognito to ask for information about the Riester Plan, a recent government initiative to let individuals supplement their publicly funded retirement accounts with stock investments. Only the Commerz representative knew what he was talking about. After the article ran, Müller phoned the branch rep with congratulations.
Thanks in part to such employees, retail banking made by far the biggest contribution to Commerz’s profits last year - E751 million - although a large chunk of that came from spinning off part of Comdirect, the bank’s online discount brokerage. Retail group manager Franz-Georg Brune attributes his division’s 16 percent return on equity in 2000 to robust sales of stock mutual funds (which didn’t sag until the fourth quarter).
Retail marketing also got a jolt of adrenaline from P2000. Commerz has sunk Dm120 million ($56 million) into the system over two and a half years. Now Brune plans to adapt its database-mining technology to court Germany’s growing “mass affluent” - the baby boomers, who are on average ten to 15 years younger than their American counterparts and are accumulating assets faster than any other German demographic group. In the more exclusive private banking market, where Commerz already boasts a 10 to 15 percent market share, Brune is convinced the bank can grab more customers, in part because rival Deutsche lumps these clients with the mass affluent. Commerz, trying harder as usual, plans to develop a special high-net-worth sales force. Brune is also counting on Müller to push his corporate finance staff to deliver affluent retail customers. “They have 44,000 companies as clients, all with CEOs and middle managers who could be Commerz customers,” he says exultantly.
On the cost side, Commerz will close 154 of its domestic branches. But the bank says it will not fire any of its 40,000 employees, and Brune thinks the benefits of personnel cuts tend to be exaggerated. More important, he says, is beefing up sales productivity. Rather than lay off staff at closed or merged branches, he is rejiggering compensation to reward employees who deliver more earnings and retraining them to serve high-net-worth clients.
If the equity market environment is bruising Brune, it’s hammering his colleague Friedrich Schmitz, who was recruited from Deutsche in early 2000 to head Commerz’s asset management division. His group’s cost-income ratio has rocketed from less than 65 percent a year ago to more than 130 percent, and return on equity has fallen to 6.4 percent, from an admittedly outrageous 126.2 percent. Overall, the asset management division lost E39 million in 2000 and E55 million in this year’s first half. The brutal numbers have Schmitz rethinking head count. “Asset management teams have finally gotten the idea that revenues can shrink,” he says.
Adding to the pressure, Müller’s CB 21 target calls for Commerz not only to double its assets but also to become one of the top five money managers in Europe’s biggest markets. To meet those goals, the chairman in late July announced a revamping of the asset management division, now a mélange of 26 subsidiaries whose biggest players include Munich’s Adig Group, with $22 billion under management; London-based Jupiter International Group ($17.5 billion); Paris-based Caisse Centrale de Réescompte ($11.9 billion); San Francisco’s Montgomery Asset Management ($9.2 billion); and a 60 percent stake in Martingale Asset Management in Boston ($1.1 billion).
Hoping to wring better performance out of his fund network, Müller is appointing separate heads for retail and institutional fund management to put more muscle into Commerz’s marketing. Each will be charged with devising a distinct sales strategy revolving around client demand rather than products. For example, both units will target Germany, France and the U.K. as core markets, but Italy will get extra attention from the retail side and Spain from the institutional team. Schmitz believes the approach will make Commerz a stronger player in an integrated Europe. “We need to sell all products in all countries, both institutional and retail lines - the Jupiter brand in France, for instance, and the CCR brand in Britain,” he says. “We have to create a European dialogue.”
The reorganization, to be completed by year-end, amounts to a management overhaul - never easy to accomplish in Germany. A Frankfurt-based committee will direct sales forces all over the world that formerly took orders from local bosses. “All these units - Jupiter, CCR and so forth - had great autonomy,” says Merrill analyst Pilz. “Now they’re being consolidated. Müller is clarifying the control layer on top of this new structure.”
But Pilz thinks the change of reporting lines could lead to friction and infighting and that reconfiguration won’t necessarily solve the division’s operating woes. “At Commerzbank any change is good change,” he says. “But this is not a radical shake-up.”
Müller also wants to burnish Commerz’s image in retail funds by importing U.S. know-how, so he’s seeking a partnership with a midsize American fund manager. “If you don’t have competency in U.S. equity products, you’re not an international asset manager,” he says. Buying Montgomery in 1997 failed to make the hoped-for splash in mutual funds for individual investors, since it caters primarily to institutions. So Müller intends to swap all or part of the California firm for a stake in a U.S. asset manager that can bring expertise in retail products. If Commerz keeps a piece of Montgomery, it will refocus the firm on its institutional niche. Müller may unload Commerz’s stake in Martingale, too.
A U.S. alliance, Müller confides, might involve a joint partnership with Generali. “Commerz and Generali are both weak in the U.S., especially against Deutsche, Dresdner and [French insurer] Axa,” says Schmitz. After talking to a number of midsize U.S. mutual fund companies, Commerz’s directors decided they were too expensive, so a distribution partnership is more likely than an acquisition for now.
Schmitz thinks the Riester pension reform plan will make Commerz an attractive ally for a U.S. firm looking to sell its funds in Germany, where only 13 to 15 percent of households own stock or stock mutual funds. In return, an American ally would offer Commerz U.S. distribution for its European products.
Commerz is also pursuing growth initiatives intended to diversify the asset management division. “We need to get better in hedge funds and private equity,” says Schmitz, noting that U.S. institutions put about 20 percent of their funds into alternative investments, compared with less than 10 percent for Europeans. Indeed, Jupiter has been energetically poaching experienced alternative-fund professionals.
Commerz’s most controversial business is investment banking, which it took up eight years after Deutsche bought Morgan Grenfell and two years after Dresdner acquired Kleinwort Benson. Here the spotlight is on Klaus Patig, a Prague-born lawyer who has been with the bank since his 20s (he’s now 57) and has served on the board since 1996. Patig masterminded Commerz’s late but bold entry into investment banking by bringing in 40-year-old Mehmet Dalman, then at Deutsche, to build Commerzbank Securities from scratch in June 1997. Dalman put Commerz on the map: The bank has climbed in the European league tables, going from ninth in 1999 to fifth last year in managing or co-managing euro-zone IPOs. More important, he also turned the division into a top earner, with the bulk of its profits coming from derivatives.
Dalman’s success reflected so well on Patig that some insiders thought he was in line for the chairmanship. Patig failed to get the job because, it was rumored, the lending-oriented Kohlhaussen was sick of hearing shareholders call Commerzbank Securities the only part of the bank worth owning (besides Comdirect, in which the parent still holds a 57 percent stake). But there’s no bad blood between Patig and Müller. They each spent time co-managing Commerz’s New York branch (Patig took over from Müller in 1987), and both consider themselves internationalists (Patig managed Southeast Asian operations out of Singapore for five years). Patig says his new boss is a go-getter and even an iconoclast. “Müller knows no taboos,” he says. Frankfurt staffers say the two men have a close working relationship.
It may be put to the test. Under the CB 21 reorganization, Patig oversees both Commerzbank Securities and the corporate lending division. Combining the traditional credit business with investment banking will be a tall order for the bank’s hidebound hierarchy. “The mixture is problematic,” admits Ulrich Ramm, Commerz’s chief economist and spokesman. “These divisions have a different language, education, compensation system. But we’re trying it.”
The cultural challenges don’t faze Patig. His good spirits seem insuperable; during a meeting at Commerz’s New York offices atop the World Financial Center, on a day when the markets are plunging, he beams when an associate comes in to announce that Commerz has been picked as joint lead book runner with Salomon Smith Barney for a $500 million bond offering by U.S. gaming giant Harrah’s Entertainment. “Remember to tell the Europeans that it’s not called ‘gambling’ any more,” he says. Harrah’s is the sort of deal he cites, along with recent debt offerings by Thyssen Krupp and DaimlerChrysler, when arguing that Commerzbank Securities can play with the big boys.
To Patig, integrating corporate lending with investment banking is the natural next step in the evolution of his fiefdom. The first step, or misstep, occurred four years ago when Commerz tried to buy London-based investment banking boutique Smith Newcourt and was outbid by Merrill Lynch. “It was a blessing in disguise,” says Patig. “Building up from scratch was cheaper.” He staffed up in equity brokerage and research, then turned to fixed income, integrating the two units at the beginning of this year.
Now he and Dalman want to establish Commerz as a top European investment bank in M&A among midcap companies. That’s where the synergies with lending are supposed to come in. Patig says that 35 percent of all corporate business comes from the Mittelstand and that he plans to redeploy the investment bankers who took these companies public to be their M&A advisers when they consolidate in tougher times.
Patig sees lending relationships as a major plus. “We have a big advantage over the pure investment banks because we offer credit and a stronger balance sheet,” he asserts. He thinks such activities will become more profitable as the German government deregulates the financial markets. “I don’t believe the German banks that claim they’re withdrawing from the loan business,” he says. “You have to keep it. There’s no reason spreads in Germany shouldn’t be at the same level as elsewhere.” Patig also believes - and he’s not alone - that Dresdner, which bled profits in the first half, will bow out of corporate lending and investment banking to focus on bancassurance under new owner Allianz, liberating a host of corporate customers.
Dresdner, however, insists that it will hang on to its investment banking franchise - after all, the bank has sunk far more into the business than Commerz. Indeed, some observers aren’t sure Commerz should be in investment banking. “They can’t compete with Deutsche and Dresdner,” says Mark Hoge, who covers German, Dutch and Swiss banks for Bank of America Securities in London. “Is there really room for three domestic players? They need to pull out of businesses where they don’t earn a sufficient return on capital.”
Others think the bank has no choice but to try to offset its low-margin retail operations with deal making and book running. As German companies continue to move away from conventional bank borrowing and toward raising capital in the markets, “that’s where the money is,” says Norrie Morrison, an analyst with Arnhold and S. Bleichroeder in New York. “From a German perspective, it’s all they have.” Plus, compared with Deutsche and Dresdner, Commerz didn’t spend that much money to leverage its lending relationships into investment banking business. “The buildup was managed with reasonable prudence,” says John Leonard, a banking analyst at Salomon Smith Barney in London. But Leonard isn’t sure Commerz can extend its geographic reach. “The longer-term strategy has to aim at midmarket Germany,” he says. “I don’t see Commerz becoming a pan-European-scale player.”
Müller, for his part, doesn’t countenance the idea of dumping the business. “We employ 1,250 people in front-office investment banking, plus about the same number in back-office functions,” he says. “Would you please tell me how I fire 3,000 people?”
Müller is referring, of course, to the impossibility of slicing staff in Germany - one of the reasons Commerz, like its domestic rivals, has so much trouble reining in expenses. Indeed, many banking experts wonder whether Commerz can do much to improve its results unless and until Germany’s legal, tax and regulatory climate changes. The lion’s share of the plain-vanilla retail banking market still belongs to the government-subsidized mutual savings banks, or Sparkassen. “Banking in Germany is almost impossible,” says Bleichroeder’s Morrison. “You have thin margins because of the mutual sector, plus a unionized workforce. Until that changes, it’s difficult to make money.” Merrill’s Pilz is harsher: “Commerz is a universal bank in a restricted national market,” he says. “It’s trying to do everything but does nothing well.”
Another intractable problem for Müller is that Kohlhaussen isn’t going anywhere soon, though both men insist that Müller is running his own show. “The chairman of the supervisory board plays a significant continuing role in strategic decisions,” says BofA’s Hoge. “So Kohlhaussen, like [former chairman Hilmar] Kopper at Deutsche, is still very influential.” That has some observers wondering whether Müller has much leeway to redirect strategy or allow a takeover that could lead to a breakup of assets. Merrill’s Pilz believes that what Commerz needs is an internal revolution. And he thinks Müller may have tried to initiate just such a shake-up by proposing a deal with Generali, although the bank denies that any such talks took place. “Personally,” Pilz says, “I think Commerz probably did talk to Generali and say, ‘How about it?’ And Generali said, ‘No thanks, we have what we want’” - namely, a ten-year agreement for exclusive distribution of its insurance products through Commerz branches in Germany. Pilz says that for a European insurer, Commerz’s crown jewel is its retail asset management network. “Maybe that’s 35 percent of the whole group,” says Pilz. “Why buy the whole thing?” And notwithstanding Commerz’s E16 billion to E17 billion market cap - less than book value, by most measures - Pilz thinks it’s too expensive for another entity to break up, considering the execution risk. BofA’s Hoge agrees: “Even a Citigroup would have problems justifying its return on investment.”
Nevertheless, the experts suggest that acquiring Commerz would make strategic sense for two kinds of buyers: a European bank pursuing retail growth on the Continent or a global U.S. bank looking to boost its corporate profile in the euro zone’s biggest market. In the first category France’s BNP Paribas, the Netherlands’ ABN Amro Holding and Italy’s Unicredito are all interested in expanding their European branch networks; in the second, apart from Merrill, Citigroup is most often mentioned as a possible parent.
But a German buyer might be more likely to tolerate Commerz’s typically Teutonic, low-margin operating results. “Deutsche Bank always spits when you mention Commerz,” says Bleichroeder’s Morrison. “But Deutsche doesn’t have an insurance partner.” There’s speculation that it might buy Commerz to get into bed with Generali. He adds that neither Deutsche nor HypoVereins would mind getting their hands on Commerz’s branch network, commercial loan book and asset management business. But Hypo chairman Albrecht Schmidt, whose bank has steered clear of investment banking, has said that Commerzbank Securities is a deterrent for him. So is the fact that Munich Re Group, HypoVereins’s biggest shareholder, would have to share its currently captive insurance distribution network with Generali.
All the same, most observers concur that in the long run, Commerz’s fate will wind up tied to that of another, bigger institution. “I see the same story as at Dresdner,” says BofA’s Hoge. “You’ll see an attempt to restructure the company, with limited progress, and then it will probably be taken over.” Salomon’s Leonard agrees: “Müller’s target is to get the bank fixed and pursue consolidation,” he says. And Morrison believes the cards have been on the table ever since Commerz strengthened its Italian insurance connection. “Most people think that in the end Generali will buy them,” he says.
Müller is characteristically unruffled - and impressively idiomatic - when confronted with investors’ insistence that a merger is inevitable. “You can’t shave in advance,” he says. “Why worry about tomorrow when you can make money today?” He adds that he has put his job on the line by setting such lofty profit goals and has no intention of losing it. If nothing else, he is prepared to try harder.
