Selecting a lead bank: U.S. and European companies differ.

When it comes to selecting a lead bank for their domestic and international banking business, companies in the U. S. and Europe have one common requirement: credit. Even in today's relatively easy corporate credit market, the need to maintain consistent access to capital is always foremost in the minds of corporate executives on both sides of the Atlantic when assessing the value of their banking relationships.

The following highlights some of the findings of a recent annual corporate banking research study conducted by Greenwich Associates. CFOs, treasurers and assistant treasurers at 1,601 European companies and 897 U.S. companies were asked about the role credit plays in their evaluations of individual banks and the other criteria they use in selecting a corporate bank.

European Corporate Banking: Less for Financial Services

After several years of favorable credit conditions, European companies now find themselves holding more cash and in less need of certain financial services products than in years past. This situation allows companies the freedom to establish credit relationships with those banks that can best serve their needs for critical M & A and debt capital markets services. In each of these areas, corporate finance executives are focusing to a greater extent than ever before on cross-border capabilities.

For example, while the proportion of European companies reporting that they were planning to pay advisory fees on a domestic M & A transaction in the coming year fell from 40 percent in 2003 to 31 percent in 2004, the percentage planning to use advisory services for a cross-border transaction was stable at 47 percent. In the debt capital markets business, companies likewise report that pan-European distribution capabilities are growing in importance as a necessary factor in choosing lead managers.

Partially as a result of this growing emphasis on cross-border business, European companies are increasingly turning to foreign banks over domestic players when selecting their lead bank. In 2003, foreign banks held only 39 percent of the lead banking relationships with Europe's largest companies. That number surged to 48 percent last year. While domestic banks have maintained their hold on 86 percent of lead bank relationships for the domestic banking business of the largest European companies, foreign competitors in 2004 claimed a full 68 percent of all lead international banking relationships with the FT500.

In particular, foreign banks are earning a greater share of banking relationships in acquisition and buy-out finance, tax-based products, structured trade and pan-European or international cash management. Meanwhile, domestic banks increased their share of relationships in such products as securitized receivables, property finance and custody services.

U.S. Corporate Banking: Credit Concerns

U.S. CFOs and corporate treasurers worried about preserving scarce credit lines got a slight reprieve in 2004. Over the last two years, credit supply has increased as lending became slightly more profitable for banks among companies with midlevel credit ratings. At the same time, the economy has not strengthened to the extent that many had predicted, and companies are cash-rich and demanding slightly less credit than expected.

Although these findings suggest that the pressure of obtaining and maintaining credit commitments has eased to some extent this year, the fundamentals of the U.S. market, in which credit concerns play a central role in the financial decision-making of corporate executives, have not changed. The U.S. corporate finance market remains highly concentrated, with a handful of banks dominating and competing with one another to expand their own share of their clients' wallets.

Recent combinations of Bank of America/Fleet and JP Morgan/Bank One have further diminished the number of options available to U.S. corporations. In part as a result of this consolidation, the average U.S. company's lead bank still holds up to 30 percent of the company's credit load, and its top three credit providers account for 60 percent of the total.

European Investment Banking: Internal Competition

As in the case of corporate banking in general, falling demand for services has created a buyers' market in European investment banking. While cyclical conditions have obviously contributed to the declines in corporate usage of M & A and capital markets products, Europe's investment banks should be paying close attention to the internalization of certain M & A functions by companies in the region--a development that could represent a more important, secular trend.

A full 56 percent of European companies in 2004 reported that they consider the research and generation of mergers and acquisitions ideas as completely or largely an internal function. Almost 40 percent say they split M & A idea generation about equally between internal staff and external advisors, but only about 4 percent say they consider M & A idea research as a largely external function.

In addition, almost half of European companies now report that they see M & A due diligence as a task that can and should be largely completed by internal staff--a sharp change from past practice, in which investment banks were generally relied on for much of the due diligence process. In fact, the only traditional M & A function that is still seen as primarily the province of investment banks by the majority of European companies is in developing financing options.

Much of this change in attitude can be traced back to alterations in the make-up of corporate treasury and finance staffs. During the bear market, investment banks laid off talented M & A specialists, many of whom were hired into internal corporate M & A groups. In fact, the capabilities of these internal groups have improved to the point at which many companies will execute transactions like small divestitures themselves, without any external assistance.

U.S. Investment Banking: Mergers Move In-House

U.S. companies' attitudes toward selecting advisors for mergers and acquisitions seem to be more reflective of the current easing in the credit cycle. Forty-six percent of U.S. companies in 2004 said they would not require a candidate for a lead M & A advisor position to be a credit provider, a proportion that is up slightly from the 44 percent who said they did not impose a credit requirement last year.

As in Europe, the notion that corporations can rely on internal staffing for many M & A functions that were previously the exclusive domain of investment banks has been gaining traction in the U.S. for the last several years. More than half of U.S. companies say that they rely on internal staff more than external sources for researching and generating M & A ideas. When it comes to conducting due diligence for M & A targets, more than 50 percent say they rely on internal resources more than investment banks. Even when asked about developing financing options for M & A transactions, nearly one-third of companies say they rely on internal staff more than external resources.

In keeping with these results, companies are maintaining significant staffing levels for in-house strategic planning/corporate development. With an average of four professionals, strategic planning and corporate development staffs are the largest of any function area among the companies interviewed for this survey.

European Debt Capital Markets: Declining Credit Thresholds

Fewer European companies are using the debt capital markets, but the companies that do undertake bond deals are feeling slightly less constrained by concerns about credit when selecting their managers. Given current credit conditions, companies that require potential managers to first be lenders are lowering the credit thresholds that the would-be managers must clear. For example, over the past 12 months, the average credit requirement for a lead DCM manager position fell from more than 25 percent of a company's total credit load to just over 20 percent.

Credit still plays an important role in choosing managers for bond offerings, but companies are adopting a very practical approach in this process. About 60 percent of European companies report that their first preference is to bring in a recognized leader in debt capital markets capabilities to head up their transactions. After securing a capable lead, these companies use the rest of the manager slots to reward banks with whom they have lending relationships.

U.S. Debt Capital Markets: Credit Requirements Creep Higher

The relationship between credit provision and fixed-income business is growing stronger in the eyes of U.S. corporate finance officers. In 2003, 36 percent of companies reported that they did not impose a minimum credit commitment on the banks considered for their bond mandates. That number fell to just 28 percent in 2004. Companies that do require credit commitments from candidates for their bond mandates are looking for lead managers to provide 21 percent of the company's overall credit (about flat from last year) and co-managers to contribute 13 percent (down slightly from 2003).

Credit Commitments Required For Bond Mandates (U.S.)

                                            Amount of Credit Required
                                                To Be Considered For:
                                              Re-     Lead     Co-
                   Require  Do not require  sponses  Manager  Manager

Total       [397]    72%         28%         [197]     21%     13%
companies
Investment  [224]    71%         29%         [111]     19%     12%
grade
BB and      [102]    70%         30%          [47]     23%     15%
below

Note: Numbers in brackets indicate number of responses.

Jay Bennett ([e-mail]) is a Managing Director at Greenwich Associates, an international research-based consulting firm in institutional financial services based in Greenwich, Conn. He consults with the firm's investment banking, stock brokerage and equity derivatives practices in the U.S., Canada, Europe and Southeast Asia.