Must Financial Firms Be Big to Survive?

MERRILL Lynch is doomed.

Goldman Sachs' days are numbered. It's true. Don't you believe what the best merger-makers and analysts on Wall Street are telling us? They're saying that Merrill Lynch & Co, and Goldman Sachs Group Inc. are no longer big enough to compete. Presumably even the smart people working for Merrill and Goldman think so. We must believe them.

It isn't enough that Merrill -- which helped popularize the stock market -- so far this year is the leading underwriter in the increasingly important market for so-called agency bonds (Fannie Mae, for instance) and that it earned $902 million in the second quarter alone.

Nor is it enough that Goldman Sachs -- long envied as the bluest of the blue-blood investment firms -- is the top underwriter of U.S. stocks this year and No.2 to Morgan Stanley Dean Witter & Co. in mergers advice.

The conventional wisdom spouted by the experts is that in order for any company in any industry to survive these days, it must become huge -- better make that colossal -- and the sooner the better.

Financial services companies, therefore, must do everything imaginable. They must sell stocks, bonds and mutual funds; underwrite securities offerings; lend to rich corporations, and to people with poor credit as well; advise on takeovers; issue credit cards; manage millionaires' money; sell insurance. Behind it all must be a pile of capital. Takeovers are the only way.

J.P. Morgan & Co., once simply a bank for the rich, built up its securities trading, underwriting and mergers businesses in recent years but didn't get big enough fast enough. Now Morgan is selling out to Chase Manhattan Corp., a commercial banker and another latter-day investment banker, for about $39 billion.

"There's no corner of the world where we can't get a deal done," Chase Chief Executive William B. Harrison Jr. bragged yesterday after the combination was announced.

Merrill Lynch and Goldman Sachs aren't that much bigger than Morgan. Merrill's stock market value is about $55 billion, Goldman's about $58 billion.

The new J.P. Morgan Chase & Co. will have a market value of about $92 billion, about the same as BankAmerica Corp., the biggest U.S. bank, which also has expanded in securities businesses. Investors value Sanford Weill's burgeoning Citi-world - well, just Citigroup Inc. at the moment - at about $250 billion.

Pipsqueaks like Merrill and Goldman can't stand up against such giants, can they? Won't they quickly lose their best people and their best customers to competitors that have the most clout?

The pundits point out that financial services is becoming a smaller and smaller club. Donaldson, Lulkin & Jenrette Inc., a leader in junk bonds, is being sold to Credit Suisse Group of Zurich. Another Swiss banker, UBS AG, is buying stockbroker Paine Webber Group Inc.

We must believe the experts when they say Lehman Brothers Holdings Inc. and Bear Stearns Cos. are targets, too. Who knows? If Merrill and Goldman wait too long, they might not even get decent deals for their shareholders.

Unlike Merrill, whose stock is widely held, Goldman could stave off a takeover. It just went public last year and its partners still have a controlling number of shares. But there's no point in fighting what your own mergers advisers say is inevitable.

Sob.

David Pauly is a columnist with Bloomberg News.