In mid-January, Charles Prince will make his public debut as chief executive of Citigroup, the company with the world’s largest profits. A routine announcement about the financial conglomerate’s quarterly earnings will be his first big test since he took over from Sandy Weill, a Wall Street legend who moulded Citi into its current handsome shape (see chart 1). Mr Prince is well aware that ABB, Coca-Cola and General Electric are among the many companies to have faltered on the departure of a celebrity boss. And these had none of the regulatory troubles that beset America’s financial industry.
The intensity of the countdown to the end of the quarterly cycle has, says Mr Prince, been the biggest single surprise so far in his new job — an odd perception, given his many years at Mr Weill’s side as his corporate lawyer. The intensity is not without good cause. Mr Weill ended on a heroic note, announcing record quarterly earnings in October. But the details of the results showed signs of strain. For example, they included one-off gains from reversals of tax and credit charges. Mr Prince must convince the markets that he can maintain Mr Weill’s underlying success.
His job is complicated because it is not clear whether Mr Weill has actually left. Mr Prince has assumed control of the Monday morning meetings of a dozen senior executives (mandatory even during vacations) and the monthly day-long sessions with the top 50 or 60 managers, and Mr Weill is said to have ceased the all-day barrages of inquiries with which he maintained control. But Mr Weill is due to remain chairman until 2006 and is keeping his old office, above Mr Prince’s, in the group’s New York headquarters.
Moreover, a series of management moves can be viewed as an elaborate plan to diffuse power among a consortium of Mr Weill’s most loyal retainers. The most recent example is the promotion in December of Robert Druskin, a man Mr Weill worked with as long ago as 1974, to head Citi’s investment bank. The circumstances of Mr Weill’s departure lend some support to this theory. Having passed the normal retirement age, he had come under pressure to move out after the Wall Street scandals of 2002, in which both he and the bank played a role. In naming Mr Prince as his successor, Mr Weill essentially put his lawyer in his place, which is what people often do to resolve a transient problem.
Citigroup’s success is built on the trust it engenders: the trust of the wholesale financial markets which allow it to fund its huge portfolio of securities for less than its rivals; that of its customers, who put $1 trillion of assets into its care; that of the equity markets which, by valuing the group highly (see chart 2), provide currency for its acquisitions; and finally, the trust that leads regulators in more than 100 countries to grant the group the right to operate there. Such confidence is striking given that in the past 20 years Citigroup’s banking operations came close to going bust at least once, and that its brokerage, consumer-finance and insurance operations were all picked up in distress sales.
Others are trying to copy its operating model, that of an enormous financial supermarket. That said, the model has failed before; and size and scope are not unmitigated strengths. Citigroup earns almost four times as much as UBS, the most closely comparable firm outside America, and five times as much as Bank of America (BofA), its traditional rival. Yet the group’s broad geographic scope means that it is exposed to every local difficulty as well as any global trouble, while its wide range of products and services makes it particularly vulnerable to conflicts of interest. Its record in handling these is not unimpeachable.
Working in Mr Prince’s favour is the fact that he appears to have inherited his predecessor’s good fortune. Last summer, when Mr Weill announced the transition, America’s economy looked shaky. Since then, clear evidence has emerged of a recovery. Among many benefits, a crucial variable cost, credit losses, will decline. Merely a return to the level of losses of two years ago will add $2 billion to profits. If Mr Prince does nothing he should do well, at least in the short term.
The favourable environment may help explain his recent comments suggesting that Citi will now rely on organic growth, rather than the transforming mergers that have been its way in the past. Organic growth, however, requires innovation as well as Citi’s well-known obsession with cutting costs.
There are some signs that this may be coming. The group has a remarkably cohesive marketing campaign aimed at women, as well as a growing emphasis on Hispanic-American customers. But unlike powerhouses in other industries, such as Microsoft or Pfizer, Citi does not have unique products, or even compelling ones. In America, Capital One and MBNA have a more creative approach to credit cards; Schwab to selling stocks; Fidelity and Vanguard to mutual funds; and Wells Fargo to cross-selling financial products. Their chances of growing organically are greater.
Beyond the Acquisition Trail
Citi has long considered acquisitions to be its core strength, much as marketing might be for another company. Mr Weill’s “long march” to creating the group began in 1986 when he gained control of a company called Commercial Credit that was then listed on the New York Stock Exchange and became the basis for further acquisitions.
Within two years, Mr Weill had bought Primerica, a financial-services firm. A year later he picked up the brokerage business of Drexel Burnham Lambert. Then he added the brokerage operations of American Express and after that Travelers, an insurance company caught in a bad cycle. Salomon Brothers, which had never recovered from a treasury-bond trading scandal in the early 1990s, was bought in 1997. Then came the big one: the 1998 merger of Mr Weill’s brokerage-and-insurance empire, with its vast army of salesmen, and Citibank, with its vast balance sheet. In each deal save the last, hard times had brought the target’s price down and made it vulnerable to Mr Weill.
The acquisitions continue, albeit on a smaller scale. In recent months Citi has bought the credit-card portfolios of two retailers, Sears and Home Depot, and the consumer-finance operations of Washington Mutual, a retail bank. It seems sure to shop some more, especially overseas. The group still does not have a big market share in Europe. There have long been rumours of a bid for Deutsche Bank.
Even in the United States there are gaps. Citi’s branch network is strong only in New York and, to a lesser extent, California. Citi bid for FleetBoston Financial, a New England bank won recently by BofA, which has the country’s broadest retail network. Might it make sense to buy BofA? Regulators might have some objections. But it would be affordable — BofA’s shares tanked after the FleetBoston deal — and it would plug Citi’s gaps.
Mr Prince, however, is talking about sales more than purchases. Now may be a good time for a company characterised by perpetual transformation to change tack radically. Following the Wall Street scandals, regulatory pressure is prompting a reconstruction of the barriers between the diverse businesses that Citi has melded into a cohesive financial enterprise. And it is hard to imagine that all of Citi’s conflicts of interest have yet emerged.
American mutual funds have only just begun to catch the regulator’s eye. A year ago, in its annual report, Citi bragged that its proprietary funds accounted for one-half of sales by its American bank and three-quarters of sales by Primerica. Firms that push their own products benefit from both up-front commissions and continuing management fees. Regulators are wondering whether this does not constitute a violation of the legal requirement that funds operate in the interest not of their sponsors but of their shareholders. If it does, then the directors of Citi’s 230-plus funds, with $106 billion in assets, will have to look for new investment-managers.
In the same way, the link between Citi’s commercial-banking and investment-banking operations is under suspicion. The first battle in this area, over “tying” — the extension of credit in exchange for fees paid for other services — has been largely won by Citi. Other conflicts are only now becoming evident, most vividly in the litigation emanating from Enron, WorldCom and other cases. Every offering, every piece of advice, every trade that Citi makes potentially places its own interest at odds with those of its customers. It is not impossible to imagine that whole swathes of business may one day be carved away by regulatory edict, much as occurred in the 1930s. If this is the true threat to Citi, then having a lawyer as chief executive may prove to have been a wise choice.