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Wednesday, 01 October 2014

We’re supposed to haggle

Citi, M. Stanley reveal randomness of M&A advice

It’s hard to imagine a worse advert for the worth of M&A valuation advice than Citigroup and Morgan Stanley’s battle to put a price on their wealth management joint venture. The two Wall Street firms are in negotiations for Morgan Stanley to boost its controlling stake by 14 percent to 65 percent. But their valuations for the business are a whopping $13.5 billion apart.

The difference is some three-fifths of the $22 billion-plus Citi reckons the entire unit is worth. There are reasons for the gap, of course - and not just that buyers are always looking for a lower price and sellers for a higher one.

Citi, aside from a couple of small tweaks, has kept its minority investment in Morgan Stanley Smith Barney on its books at pretty much the same level ever since the two companies started the venture three years ago. That seems too optimistic: industry trading volumes are down, most similar financial firms have lost value since 2009 and the JV itself is at best a work in progress, cranking out a lackluster 12 percent pre-tax margin last quarter.

Morgan Stanley, meanwhile, has already written down the value of its 51-percent slug, in part because holding goodwill against inflated assets eats up capital, which the bank has been working aggressively to maximize. But marking it down to less than half where Citi’s valuation stands is harsher than some expected. Analysts at Credit Suisse recently estimated that MSSB could be worth $15 billion.

Perhaps that’s where the third-party appraiser who must now be called in will come down. Whoever it is has just over a month to come up with a number that will then bind both Citi and Morgan Stanley. There’s plenty of strategic and tactical art in M&A. But valuation is the part that ought to be most like a science. The gulf between the two owners of MSSB shows how embarrassingly random it actually is.

Context News

Citigroup said in a regulatory filing on July 19 that it could face a “significant non-cash GAAP charge to net income” in the third quarter. The cause is a wide difference of opinion with Morgan Stanley on the value of Morgan Stanley Smith Barney, the two companies’ wealth management joint venture.

The two are in negotiations for Morgan Stanley to buy another 14 percent of the venture to add to its existing 51 percent. The process for determining the price to be paid involves each side submitting what it considers to be the fair value of the business.

Citi reckons its 49 percent stake is worth around $11 billion, close to the value at which it carries the interest on its books. That would imply a $22.5 billion value for the whole JV. In its filing, Citi stated that Morgan Stanley’s valuation for the entire business is around 40 percent of Citi’s estimates, implying around a $9 billion valuation for the whole business and about $4.4 billion for Citi’s stake.

According to the process for determining the price for the deal, a third party is called in to decide a value if Citi and Morgan Stanley’s valuations are more than 10 percent apart. Citi said the process is to be concluded at the end of August.

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