Saturday, January 26, 2008

David Komansky - Merrill Lynch - Strategy 1998

I am doing an effort to collect material to understand the strategies followed by various investment banks in their journey to preeminent positions. Interviews that CEOs gave at various points of time, and writeups on the companies are valuable sources for compiling the material needed for such an understanding.

The following are summaries of relevant excerpts from an interview with David Komansky CEO of Merrill Lynch in Chief Executive in March 1998.

March 1998

Recent conditions have been ideal for Merrill Lynch in its push to become a global financial brand.

The securities industry enjoyed unparalleled profits in 1997. According to the Securities Industry Association, pretax income hit $12 billion, surpassing the previous year's record of $11.3 billion. For Merrill Lynch & Co., earnings reached a record $1.9 billion, up 18 percent from the $1.6 billion reported in 1996. Recorded total revenues of $31.7 billion were attained in commissions, principal transactions, investment banking, asset management, anti portfolio service fees. Merrill Lynch is the first brokerage firm to have more than $1 trillion in customer assets.

When David H. Komansky, 58, succeeded Daniel Tully as CEO last year, he inherited a financial services firm at the top of its form in most of the markets in which it operates. The company is the world's largest underwriter of both debt and equity, the leading U.S. M&A advisor, and it ranks just behind Goldman Sachs and Morgan Stanley in the rest of the world (see league tables). In the fourth quarter last year, Merrill Lynch became the No. 1 firm in trading volume in Japan and Australia; not bad, considering the firm's last venture into Japan ended with its leaving with its tail between its legs. Merrill's $5.2 billion takeover of the U.K.'s Mercury Asset Management has catapulted it into the fifth largest fund manager in the world. The move, although expensive, parries attempts by Salomon Smith Barney and Morgan Stanley Dean Witter, Discover to imitate its strategy to service the lousiness needs of both individual and institutional investors.

Merrill is also considering whether to pick up pieces of the failed Yamaichi Securities Co. Ltd., and set up a fully independent brokerage unit in Japan. It's not hard to see why the company has its eye on global markets, but as a marketer of financial services to the middle class, the firm is not as well known outside the U.S.

In 1981, Komansky became a regional director, and four years later, he was named president of the company's real estate subsidiary. It was the successful divestiture of this subsidiary - before the real estate market tanked - that brought him to the attention of senior management. But it was his astute management in leading the company through the calamitous bond market in 1994, when he was in charge of debt and equity, that earned him a shot at the top.

Komansky’s successful divestiture of real estate subsidiary - before the real estate market tanked - brought him to the attention of senior management. His astute management in leading the company through the calamitous bond market in 1994, when he was in charge of debt and equity, earned him a shot at the top.

In 1998, Komansky is finding that the world is changing. The industry is consolidating at an increasingly rapid rate. The recent merger of Union Bank of Switzerland with Swiss Bank Corp. to form the United Bank of Switzerland, with $600 billion in assets, stretching over more countries and lines of business than any other competitor, indicates the titanic scale of the struggle ahead. Advances in computing and communications technology may disintermediate middlemen who relied on their own knowledge to match buyers and sellers. Firms such as Axa of France and Fidelity and Schwab of the U.S., are trying to attract Merrill's Main Street customers. Some people express a fear that due to the size, Merrill may become the AT&T of financial services.

Komansky is confident that Merrill will share to be one of the leaders when the smoke clears. "We have the talent and client relationships to get there," he says. "There's more to this business than just size and capital."

The difficulties of the year: So this year could be a more difficult year. A lot of it is being played out right now with the Asian currency crisis. Analysts have predicted increased volatility for investment banks overall, New entrants are forcing their way into the market, such as commercial banks in the U.S. They put exceedingly strong pressure on margins, particularly on the capital markets side.

On the private client's side of the business alternate delivery systems - such as direct access distribution systems – are taking hold in certain segments of the market, their single biggest weapon is cost and they're able to express that weapon and put pressure on pricing. So, in the domestic markets, there is a lot of pressure on pricing. And margins have eroded to some extent over the last five years.

On the other hand, on a geographical excursion, there is an a fairly optimistic picture of the potentials that exist in almost every part of the world for the industry. Merrill Lynch took that point of view seven or eight years ago to embark on the program of expanding internationally to the point that, today, Merrill has the biggest footprint outside the U.S - second to Citicorp - of any financial services firm. So, margin pressure is there in the States; however, there is a lot of opportunity with less pressure outside the U.S., whether it be in the mature markets of Europe or emerging markets in other parts of the world.

Komansky said “We have what I think is a very sophisticated strategic planning process within the firm for growing our business. It's a constantly updated model where we identify our strategic gaps and then determine whether we have filled those gaps by organic growth or whether we have to pursue an acquisition to do it.
Commeting on the acquisitinof Mercury Asset Management, komansky emphasized that they had a glaring weakness in the asset management business in that everything was in U.S.-dollar-based products. Extensive operations in other countries around the world, have an equal capability in the non-dollar arena. But because, in order to grow that organically, it would have taken between five and seven years with enormous expense; and the riks of missing the market is there, Merrill had the opportunity to acquire Mercury, which was one of the Cadillac names of the business and acquired it.

Regarding adverse press comments on the deal, Komansky commented, the press had the same observations several years ago when we bought Smith New Court - probably was one of the most successful acquisitions ever made on Wall Street. The press proved to be wrong. Mercury will also prove to be a spectacular platform for the growth that Merrill envisions.
He said , we hardly consider ourselves foreigners in London. We've been there for a long time. I believe we're the largest securities firm in the U.K. From the point of view of revenues and profits, we're probably 97 percent or 98 percent European in staffing there, including all of senior management.

While we have paid top dollar, we think the opportunity is very palpable, and much greater for us than it might have been for someone else because we have these businesses in 40 countries around the world. We have ready-made waiting and wanting distribution channels in many of these countries to use their products to develop new products. And clearly, we have great expectations of Mercury as we do for every part of our organization. We intend to encourage Mercury to behave as they have in the past as an independent money manager, and, at the same time, we hope to assimilate them into the Merrill Lynch culture.

In the Merrill culture, the entity is more important than the individual; We do consider ourselves to be an organization where the whole is more important than the individual. For many years, we have stridently avoided encouraging the star system. At the same time, one must recognize that we are a factory of talent. We have people in this organization who are as talented, if not more so, than any other organization on the Street. We manage to find a way to nurture and reward these people so that they not only enjoy working here but they flourish and enjoy being part of the culture that Merrill Lynch represents.

As you look over the horizon you'll find several levels of organizations. You'll find organizations in the financial services business, whether it be investment banking, securities brokerage, insurance, commercial banking. You'll find six to 10 truly global competitors, people who have true global reach, size, scale, and capability - and we intend to be one of those. You'll see the development of monolithic organizations that will get bigger in order to have a product offering broad enough to fit the financial needs of both the global institutional marketplace and the global individual marketplace.
By the same token, there will still be room for a firm that says it wants to be the finest investment bank in the U.S. or the finest commercial or private bank in France. But I don't think the marketplace will afford the profit opportunity for the number of organizations and the amount of capital that is chasing a finite amount of revenue. That's the pressure I see, or the reason you'll see a lot of this consolidation.

We intend to compete on a global scale. That's the strategy we set out for ourselves. Our strategy differs from some of our competitors in that while we compete on a global platform in the capital markets and investment banking arena, we're also competitive in the domestic markets in those countries where we see an opportunity. It's a somewhat risky strategy and quite expensive, but we think the payoff is enormous.
We think, for example, the private client/private banking business has enormous possibilities for us all around the world as the demographics continue to change, as wealth continues to be created, as savings become more important, as pension schemes change.

Merrill planned for 50 percent international revenues by 2000, but that may not l happen, particularly now with the growth in Asia going to be slower than anticipated. But over a period of time, strategy is to get at least 50 percent and then higher international revenue.

With European, Europe is bound to lead to a building of much more competitive industry, lower taxes, and lower tariff rates - and make Europe in general more competitive with American industry than it is today. The EU will cause American companies to have to be that much more effective and efficient to compete.

Opportunities and chllenges for Merrill Lynch: It will generate an enormous amount of consolidation. Our advisory practices are very busy and will continue that way for a long period of time. There will be a big need for capital because of it. Our trading businesses will become very interesting because today we trade securities in all of these different currencies; all of a sudden, you'll be basically one currency denominated. So, that might simplify some of the technology that's called for. But of course, the size of the market will be huge, and any time something happens that stimulates economic growth, it stimulates opportunity for our industry.

We see ourselves in a position in which we feel very comfortable and confident that over the long run we can create far more shareholder value as an independent organization. I'm confident that anybody who has the dreams, aspirations, and money has us on their radar screen, has analyzed our firm from top to bottom, and knows probably as much about us as I do. We would be a fairly indigestible organism unless we wanted to be digestible. The price would be enormous, although there are many who could afford it. But our firm is almost 35 percent employee-owned. The best defense against a takeover is a successful organization with a rising stock price. We've managed to accomplish that, and we are myopically focused on being one of those six-to-10 surviving firms. It's safe to say we'll be an acquirer as opposed to someone who wants to be acquired.

About success in Japan: We launched our first mutual fund in Japan six or seven weeks ago. We raised, in a matter of a week or two - without any distribution - over $750 million for a mutual fund that today is well over $1 billion. We're about to go into the market with another one which, to me, is absolutely indicative of the fact that the Japanese investor is looking for alternatives and for an opportunity to get returns on their investments.
Last November, Lou Gerstner said your entire industry - and not just the discounters - will move to the Internet. Are you worried?
Lou is a good friend of mine. In fact, the day before yesterday we underwrote a $700 million bond issue for him. Strangely enough, I don't know of any of those bonds that were placed over the Internet.
Regarding online business ; The delivery system may change from a 14,000-person delivery system to 14,000 computers overnight. The Internet and technological delivery of the goods and services is clearly in a state of flux, and I'm confident that no one knows the end game today. But we are certainly developing the systems and expertise so that, as things develop, we'll be on the cutting-edge, and if it becomes the more appropriate way to reach the marketplace, we'll be prepared.

But we do not purvey information; we transfer information into wisdom, advice, and guidance. I have yet to see the machine that can transfer wisdom. It is totally appropriate for those who do not need or want advice and guidance to use direct technology access to the marketplace. But it's our belief that once people accumulate assets to a certain level they not only are willing to pay for advice and guidance but they're happy to pay for it.

More mature person as customer:;

That is probably the key strategic question we have in the private client business. Traditionally, our point of view was, where you did business was almost immaterial to us because our bet was that, through our personal delivery system, when you got to the point where you accumulated enough assets that you needed help, we could disintermediate your relationship no matter where it was. And that has worked perfectly; it's been the heartbeat of our strategy these many years. Now, the question is, will we be able to disintermediate my daughter, who is now a freshman in college, in 10 years? I don't know that answer right now. And that's why we are experimenting with artificial intelligence, voice recognition, all these different tools.

I also think people's attitudes toward buying a book from are different from managing their money on a machine. It's a very different equation. But nonetheless, it is a serious issue for us and one that we put a lot of effort into.

Regarding scandal in the industry:
That's something we talk a lot about. I have devoted 30 years of my life to this firm, to helping build its reputation, my own reputation, as have most of my predecessors and most of my colleagues today. We are devoted to the culture and what this firm stands for and do everything we can to protect and enhance that reputation.

Nonetheless, there are always certain things that happen that you can't control, i.e., the Barings situation. If you have a rogue in your organization, he will be a rogue. And the art of management is having both the systems to identify that quickly and the management willing to do something corrective about it immediately.
You also have in this industry huge sums of money involved in these business transactions. People react in different ways to either earning a profit or suffering a loss on investments. So, there are certain things that are endemic to this business that are coupled with an extremely litigious environment to generate some of these situations. But it's no accident we don't employ the star system here. It's not because we don't want to have stars. We do - but we don't let them stray from the reservation.

We have a definitive set of mores and values we expect people to live by. I think if you speak to anyone who's related to this industry, whether it be regulators, our peers, clients, they will say Merrill Lynch is a breed apart as far as our performance, attitude, ethics, and culture. And in spite of that, we do suffer these mishaps from time to time, and we try to deal with them as efficiently and as rapidly as we can.

Meritocracy: I started in Merrill Lynch in 1968. I thought it was a meritocracy then, and I think it is now, and I'm committed to keeping it that way. It's a lot more difficult today from a point of view of the skills you have to master and the breadth of experiences you have to have. It's a lot more difficult to move even from the production side into the management side of the business because people on the production side are extremely comfortable.

On what enabled him to get here?
I often think about that.: Excitement, satisfaction, challenge, risk, reward – all are crafted more carefully to fit my needs and desires in this industry, this job, and this firm. It was as though it was made for me. I tell people, in the 30 years I've been in this business, I have never had a day that I did not look forward to coming . To this day, it happens to be the truth. I'm in my office at 7 a.m., and I'm the most excited guy in the office and the most excited guy at noon, and I'm the most excited guy 10 at night. I just love everything to do with it. It's just terrific.

MARCH 2001

Merrill Lynch's CEO David Komansky

talks about how globalization is giving growth a big boost and how tough the current environment is

Merrill Lynch Chairman and CEO David H. Komansky discussed his strategy for sustaining the company's impressive

If one looks at it in the context of the last five to seven years, the real fuel for much of the growth that Merrill has achieved has been the success in globalizing the firm, and being able to identify in the early 1990s a strategy that dictated that we expand globally to take advantage of many opportunities that exist outside of the U.S.

Then there was the reorganization from top to bottom to execute that strategy. I'm a firm believer that execution differentiates an organization. In our case, our ability to execute a global plan has focused us on becoming a truly global organization and taking advantage of the opportunities that exist in Europe, Asia, and Latin America.

Most segments of the world, while superficially they seem to be in lock step, really are at different stages of development and at different stages of their entrance into the free marketplace. We see, and have enjoyed, opportunities in Europe. Europe is pretty far advanced in its privatization program. We've been very successful to date. We have been very successful building up businesses in Spain, France, the U.K., many places. We see this as the very early days of generating earnings for our firm from Europe. Asia is probably somewhat behind that curve. It's still very early in its privatization programs. We have a very significant operation in Japan and the rest of Asia, mostly in Hong Kong and Singapore. We see great opportunity there.

But at the same time that all of this is going on, the opportunities in the U.S. also continue to grow. Demographics, the creation of wealth, the phenomenon of a growing number of individuals taking more responsibility for managing their own investment assets through IRAs, 401(k)s -- all of these events have helped to create an atmosphere in the U.S. that enabled us to grow very significantly. We've really had a period of great opportunity. And I'd say that over the next five to eight years, the opportunities could well be greater than they have been in the past.

On diversification across business lines - retail, investment-banking, and asset-management franchises.

For many years, the retail, or private-client side, has generated a disproportionate share of revenues and profitability. For the last couple of years, the institutional side has done the same thing. One of the attractive elements of financial institutions like our firm is that we have these various segments. Part of our strategy is to build the capability to offer the best of class on a global basis.

Our growth in the next year or so will be organic in nature.

The greatest challenge in 2001?
Worsening economic climate and the investment climate

Q: In the past, you have stated that you hope to boost your pretax profit margin to 24% by 2003. Are you on track for meeting that goal?
A: It will be difficult to achieve margin improvement. But we remain confident.


To read about the initiatives of immediately preceding CEO, Daniel Tully read

Stan Oneal's Strategy (CEO 2002-2007)

A report on Merrill Lynch performance in 2006 and strategy at the beginning of 2007

Multiple posts of Merrill Lynch Strategies from 1975-2007

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