Business Irish

Tuesday 17 September 2019

Richard Curran: 'Goodbody bids reflect the race to grab the new 'mass affluent''

Acquisition: In a three-horse race to buy Goodbody stockbrokers, Davy is emerging as the favourite. Photo: Mikhail Pogosov
Acquisition: In a three-horse race to buy Goodbody stockbrokers, Davy is emerging as the favourite. Photo: Mikhail Pogosov
Richard Curran

Richard Curran

Back in 2005, if someone were to predict Davy Stockbrokers could end up making a bid to buy Goodbody Stockbrokers, you would have said they were crazy. The Irish Independent revealed last Saturday that exactly that deal is now in the works.

There is a three-horse race to buy Goodbody, the latest iteration in a wave of broker consolidations shaking up the sector.

In 2005 Davy, the biggest broker in the market, was owned by Bank of Ireland while Goodbody, the second biggest, was owned by AIB. They were huge in the broking market, huge in corporate finance and they were arch-rivals.

A few years later, in 2009, such a takeover would have seemed even more unlikely. Management at Davy had bought the business from Bank of Ireland in 2006 at the height of the boom and paid a boom-time price for it, valuing the firm at more than €213m.

By 2009, the economy had crashed. It seemed that anybody who used to have money was broke. The stock market was on its knees and there was widespread anger by previously well-heeled investors with the broking and wealth management firms that had encouraged them into a red-hot property market.

Scroll on 10 years and so much has changed again. Davy rebuilt the business by investing in IT, and made eight or nine important acquisitions as the economy recovered.

First of all Davy kept its sovereign bond trading desk alive. Suddenly, during the recession, the State was back borrowing money in a big way. Then the economy began to improve. Davy hoovered up other firms, mainly for their private client base. It bought AIB investment manager business Prescient in 2013, Bloxham's private client business, and four wealth management businesses north of the Border, including the Danske Bank client base.

AIB, which had needed a €20bn bailout from the State, had sold Goodbody to Kerry-based financial group Fexco and management in 2011 for around €24m.

Goodbody has quadrupled in value since then and is now on the block for around €100m. There are reported to be three bidders still in the race: Davy, Irish Life and an unnamed Chinese firm.

So what changed so dramatically in the last decade? The broking business contracted during the recession and commissions became ever tighter. The research units of the main Irish stockbrokers also shrank.

Several Irish stockbroking firms were taken over, from Dolmen and Merrion - by Cantor Fitzgerald from the US - to Goodbody and Bloxham. This consolidation in the market has continued up to today.

The other trigger for change came when the Irish Stock Exchange, owned by stockbroking firms, demutualised and later was sold to Euronext. This put a value on the shares held by the broking firms, something which might have stood in the way of an owner selling.

But the biggest change came in the focus of the remaining firms. The mainstay of their businesses has become wealth management.

Davy became the biggest wealth management business in Ireland. It has around €15bn in total assets under management made up of asset management, real estate investment and private clients. Goodbody has around €7bn under management.

Together with companies such as Irish Life, they compete to manage the investments of wealthy clients. But it isn't just about the super rich who have €5m to €50m to invest.

It has now become about chasing what one broker calls the "mass affluent". These are people who earn €100,000 to €200,000 a year or are older and have other assets they want invested.

Industry sources suggest the market consists of about 100,000 to 150,000 potential clients who fit the bill of having sufficient funds to invest. These broking firms are selling them everything from pensions and investments to detailed financial planning for them and their families.

Once, broker customers would have a punt on some penny oil stocks. Now they want to buy an annuity for the kids.

Insurance companies are in the same space, competing against advisory firms whose main business used to be buying and selling shares.

These broker firms also provide other services like liquidity management for corporates. The traditional bread and butter of brokers, namely institutional share trading, has faded into the background.

The Mifid II directive has changed the business model for traditional brokers and made it more expensive. The directive was designed to offer greater protection for investors and inject more transparency into all asset classes, from equities to fixed income, exchange traded funds and foreign exchange.

It ended up making institutional broking a lot more expensive and financially less worthwhile.

With three bidders for Goodbody at the table, the future owner of the business will most likely be the one which can write the biggest cheque. Financial services group Fexco owns 51pc and staff - mainly senior management - own the remaining 49pc.

Fexco has done well out of its investment but nearly did even better. Goodbody was close to a €150m sale to a Chinese consortium when the complex bidding group ran into regulatory complications. This time round, the bids are likely to be lower.

Fexco is seen as an investor which has already sold down a chunk of its equity to management and staff and stands to make around €40m in profit on its investment. Goodbody received around €40m from its share of the sale of the Irish Stock Exchange.

There is also a view in industry circles that some senior management at Goodbody will be happy to exit the business through a sale of the firm. These all could become factors in who eventually owns the business.

Davy would secure the most cost benefits as the buyer, so in theory it could afford to pay a higher price and the deal still make financial sense. However, while very profitable, Davy doesn't have quite the deep pockets of Great Western Lifeco, the owners of Irish Life.

Because of the nature of the ownership of Davy Group, one source speculated that Fexco could sell to Davy and retain a small strategic stake in the combined business.

This would give Fexco, seen very much as an investor company, an opportunity to realise some of its profits while still having some "skin in the game".

Such a move couldn't be ruled out but it might not go down well among Davy executives, some of whom will see their old rivals in Goodbody receive cash for their shares, while they are still holding paper.

A Chinese bidder could bring a lot of money to the table but it is far from clear what synergies it would carry. This could make it more expensive for them to acquire Goodbody and they would be a lot more vulnerable to any executive departures which might follow the acquisition.

But what happens if the biggest broker in the market ends up buying the second-biggest broker? Surely this would be bad news for consumers who might end up paying higher fees when they buy shares.

Competition rules are in place to protect against this kind of scenario and if Davy is selected as the lead bidder it could trigger a competition referral.

However, even brokers who have no financial interest in the bidding say that a Davy acquisition of Goodbody would probably be allowed. They cite the fact that people can and do use lots of brokers in the UK and through other channels to buy shares.

They say broking is a relatively peripheral speciality business and they believe it wouldn't pose a problem. Over half of Davy's profits are believed to come from private client wealth management and not share dealing. Goodbody is likely to be in a similar position.

A Davy acquisition of Goodbody would be the ultimate trophy for the Dawson Street brokerage - owning their old domestic rivals. Having it go to Irish Life would represent a fresh competitive threat in the race to sign up more of the "mass affluent".

Either way, don't expect your investment fees to come down any time soon.

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