Building the Bank of the Future

Just two years ago, many finance executives were still dismissing the notion of a union of commercial and investment banks as fantasy. But with the financial services industry gripped by merger fever, companies like Speedway Motorsports Inc., a Concord, North Carolina­based racetrack operator, are adjusting to a new reality.

Announcements two months apart jolted Speedway's key banking partners. Last June, the company's commercial bank of 20 years' standing, NationsBank Corp., announced it would pay $1.2 billion for Montgomery Securities, the San Francisco­based investment bank that Speedway had included in a recent $125 million high-yield private debt offering. Then August brought news that First Union Corp., long a contender for Speedway's banking business, was to pay $471 million for Wheat First Butcher Singer Inc., the Richmond, Virginia-based investment bank that managed Speedway's initial public offering in 1995.

Although the Glass-Steagall Act--the 1933 law that officially separated investment banking from commercial banking--remains on the books, it hasn't hampered the pace of recent merger activity between banks and investment banks. Indeed, when the Federal Reserve Board raised the amount of investment banking income a bank can earn from a capital markets subsidiary to 25 percent from 10 percent last December, it essentially received a wink and a nod from Congress, long deadlocked over the fate of the banking separation law.

As a result of that loophole-widening maneuver, deals were reached fast and furiously this spring and summer. First into the ring, Bankers Trust New York Corp.-- already viewed widely as a formidable investment bank, albeit one without equity powers--purchased Baltimore's Alex. Brown & Sons for $1.7 billion, filling that gap. Across the continent, San Francisco­based BankAmerica Corp. snapped up Robertson, Stephens & Co. (conveniently based in BankAmerica's headquarters building) for $540 million. Over a half dozen more followed by the end of September.

The case for spending large quantities of their shareholders' equity, bankers say, rests heavily on cross-selling corporate customers with one-stop investment banking. This familiar refrain has acquired new resonance as today's bankers contemplate a tough choice: either scramble in the race to gather up customers who need access to capital, or else cede a competitive edge to companies that can underwrite equity deals and arrange corporate mergers in addition to being able to handle all banking needs. Lacking a full slate of investment banking tools, commercial bankers increasingly fear, means opening the door to predators.

Some CFOs see near-term gains from the combinations. "It's great," says Speedway CFO William Brooks. "We look forward to the increased competition and to the service and execution improvements these deals will likely bring," he declares. "We'll be doing more deals, and we'll continue to spread our business around to whomever is most competitive. After all, we're getting to the size where we could go to the New York banks if we had to."

With the combined NationsBank and Montgomery Securities gunning for Speedway's business, those trips to New York might not be necessary. James Hance, vice chairman and CFO of NationsBank, is hungry for all the business that companies like Speedway can offer. "We used to not even have a shot at capturing the equity relationships of our customers. Now we do, and we intend to," he says.

FUTURE BENEFITS
Although the aggressive deal makers are convinced that they've changed the world for the better, their customers have yet to see expected advantages materialize. In fact, customers' credit and relationship risks have visibly increased as potential capital providers shrink in number. After all, in leaner times than these, is it really an advantage to seek fresh capital through an investment bank whose parent company is threatening to foreclose?

Evidence that corporate customers stand to benefit at all from these mergers has to come from other examples. Trends in the hotly competitive corporate bond underwriting market, for instance, seem instructive. From 1995 to 1996, average underwriting fees for a high-yield debt issue declined from 2.37 percent of proceeds to 2.31 percent, and asset- backed securities fees declined from 0.33 percent to 0.31 percent, both continuations of earlier reductions, according to Moody's Investors Service. This was driven primarily by the superregional commercial banks, as they ramped up their corporate bond departments and competed for larger deals in the market.

"Fees are going to be based on an overall relationship," says Ken Thompson, co­managing director of First Union Corp.'s Capital Markets Group, in Charlotte, North Carolina. "We've seen it in other areas, and we'll continue to see pressure on investment banking fees, including equity underwriting fees."

NationsBank's Hance agrees. "The more aspects of a relationship we can capture, the better the economics become for us. That means 'total service pricing' on every transaction," he says. So will there be fee competition in equity underwriting? "I think it's inevitable in the long term," he contends. "After all, the [large Wall Street] bulge-bracket firms are trying to pry away traditional loan deals from us based on price. This whole marketplace is only going to get more competitive."

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