A lot can happen in a few years. Back in 2005, Morgan Stanley was at risk of losing its wealth management business during a very public conflict between then-CEO Philip Purcell and its shareholders. Today, Morgan is on the verge of creating the largest wealth management business in the world. With a joint venture to acquire a 51 percent stake in Smith Barney, announced January 13, Morgan Stanley will control retail assets of $1.7 trillion, and a rep army of over 20,000 — both larger than the combined forces of Bank of America and Merrill Lynch. (The former market leaders were recently embarrassed by revelations of further losses on Merrill's books.)
There are, of course, still many questions surrounding the joint venture, which requires Morgan to pay Citigroup $2.7 billion in exchange for that majority stake. As in any retail brokerage takeover, perhaps the biggest question is, will Smith Barney reps stick around to enjoy the view — or will they look for greener pastures? The answer will depend in part on the kind of retention they get offered to stay put. Morgan Co-President James Gorman told us, “We're not stupid.” Morgan will likely offer retention similar to that offered by BofA (up to 100 percent of trailing 12 months' production). Morgan and Citi will help pay for the retention in proportion to their stakes in the venture.
“Turnover among brokers is always a challenge in a combination,” says Sanford Bernstein analyst Brad Hintz. “The turnover occurs because the combination of two brokerage networks into one almost certainly means that new retention packages and new payout schedules will have to be established.” And if there's one thing that riles up the broker bunch, it's messing with their payout. On top of that, there are the hassles of switching to a new technology platform, working with new branch management and facing the closure of redundant offices. Ladenburg Thalmann analyst Dick Bove estimates that 10 percent to 20 percent of the brokers involved in the deal will depart.
But even if Morgan keeps everyone it wants — any retention package will likely leave out low-level producers — integrating and managing a brokerage force of about 20,000 will be a major undertaking for Gorman. “The big question is whether or not Morgan Stanley and Gorman are up to the job of making this deal work. Twenty thousand advisors is terrifically large,” says Bill Doyle, a Forrester Research analyst.
Analysts agree there is great potential in the deal so long as it's done right. “If properly integrated and tightly run, the capital Morgan Stanley is potentially committing to a much larger retail brokerage business should prove to be a solid investment. We believe that this transaction will lift much of the uncertainty regarding the long-term earnings potential of Morgan Stanley,” Hintz wrote in a January 14 note.
Show Me The Money
For now, the reactions of Smith Barney brokers to news of the deal is mixed. One Smith Barney veteran of more than 20 years says he's not sure it's the best time to switch firms. “There's already so much change clients are digesting. Do I really want to throw more at them?” Another advisor with about $1 million in trailing 12-months' production says his plan is to wait until the retention package is released before making any decisions. “[The deal] sounds beneficial, but there are certainly integration and cultural risks at stake,” says yet another rep.
One recruiter who works closely with Smith Barney advisors says those reps dissatisfied with the joint venture are mostly low-level producers, who know they're not going to get the retention packages they want. Those with significant production levels are pretty happy with the acquisition. “They're okay with Morgan and Gorman. They're fed up with Citi. They've been there for years and have nothing to show for it,” he adds.
Larry Papike, president and owner of Cross-Search, a Jamul, Calif.-based recruiting firm on the independent b/d side, says a lot of the bottom-tier producers will probably consider going independent. “They start cutting reps at the fourth and fifth quintile of production levels. After that's been announced, I expect an uptick of interest from those advisors,” Papike says.
For now, Morgan Stanley is playing the role of the charming new stepparent. Gorman is stressing the strength of both firms' platforms and products. And yet, even though Morgan is acquiring an entity that's bigger than its own in terms of total advisors, total client assets and total number of top producers, Morgan will likely push its way of life on the new kids. Morgan already has a majority stake in the combined entity (51 percent) and has an option to acquire an additional 14 percent after three years, another 15 percent after four years and after five years it can acquire the balance, according to Ned Kelly, head of global banking at Citi. “This is a Morgan Stanley game. They are putting up billions to get control of this joint venture, and they will wear the pants in this relationship,” Doyle says.