Merger of Dresdner and Henning Schulte-Noelle

To consider whether to merge with Dresdner or not Henning Schulte-Noelle should think about all benefits and obstacles, weight the impact of each statement

Pluses:

  • Strategic alliance, capital synergy and efficiency gains, capital gathering and allocation in strategic directions, hence the accelerated performance and return;
  • The merger will provide to Allianz a pool of urban customers to enhance insurance sales in bank channel, and a profitable and stable position on the German long-term savings market (totally 6+17 million customers) ;
  • International strong position and reputation, bank distribution control that allow to manage equities and mutual funds retail chains in Germany and other countries;
  • Private pension offerings in changing pension legislation, creation of leading non-governmental pension services and superior financial products, large share of pension market;
  • This acquisition will reduce Allianz’s excess capital and smoothly affect the company’s financial leverage in the short term;
  • Breakage of cross shareholdings in involved in the acquisition companies;
  • Strong IT platform for a range of services (e-commerce and large-scale financial planner network), one distribution channel that allow to increase the number of sales (policies) through Dresdner’s distribution channel and Allianz’s customers to get to mutual fund services.
  • Reduced marketing and corporate costs due to integration.

Challenges:

  • Business model – which direction for Dresdner to operate in? Will it completely or partly become the part of Allianz’s, what departments will work independently? 
  • Layoffs and the schedule of personnel changes;
  • Integration – communication. Cultural differences and employees relationships and sales styles;
  • Cost of restructurization and post-restructurization costs, readiness to perceive acquisition as long-term process;
  • Stand-alone from Allianz separate division under management structure of Dresdner Bank investment banking activities – DrKW, that points out not complete integration;
  • Already existing competitors (Credit Suisse Group, France’s AXA, Fortis).

Valuation:

Marginal corporate tax rate 2001 (Germany) – 38,36% (http://www.kpmg.bg/dbfetch/52616e646f6d4956fefc52f7c01fc4dc9af95853c3c2815c/ctrs2002__final_.pdf)

To estimate its banking beta, we will use the average beta of commercial banks in Germany.

To estimate the cost of equity in Euros, we will use the German 10-year bond rate of 4,713% as the riskfree rate and the historical risk premium (6,3%) (http://faculty.london.edu/edimson/assets/documents/Jacf1.pdf)

As banks and other financial companies are valuated quite differently because of its debt and reinvestment rate estimation difficulties we will use several alternative methods:

Levered beta average for industry – 1,08.

Cost of equity = 11,517 %

In 2000 Dresdner Bank paid dividends totally equal to 500 mln euro from its net income of 1730 mln euro. Return on equity after taxes is 19,8. Low Dividend payout ratio together with high ROE makes us believe bank is in the phase of rapid growth, however we need to look at:

  • If we look at dividends payouts during 1997-2000 we can estimate dividend payout ratio modified = Sum of dividends 1997-2000/Sum of Net income 1997-2000 = 41,2%. Average after-tax ROE is 11,3%.
  • Dresdner Bank has quite sustainable market share in each business its competing in. Even in some segments the growth is high, for ex in investment business in emerging markets – bank is facing strong rivals in each field.

1) With these factors we can suppose that Dresdner Bank is in the stable growth period and the net income of 1730 mln euro will grow 5% each year in perpetuity.

So we have equity value = 1730*(1,05)(0,412)/(0,11517-0,05) = 11484 mln euro.

2) We can use another method:

Payout ratio = 1 – g/ROE.

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3) Shares Terminal Value. To calculate this we suppose that income and dividends of Dresdner Bank will grow 5% a year and we discount them at the cost of equity at the stable growth period, equals to 11,517%.

So the terminal value of one share is = expected earnings per share*payout ratio/(cost of equity – g) = 3,32*(1,05)(1 – 0,05/14,6%)/(0,11517 – 0,05) = 35,17 per share.

Terminal Company Value = 35,17* 526,3 = 18 510 mln euro.

Dresdner Bank is acting in several businesses – in commercial, investment banking, real estate and asset management. In the table below the summarized income of each category of business (accounted for global P/E ratios).

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We can see that 24,4 bln euro market capitalization is slightly over-valued.

To summarize, the most appropriative acquisition cost is between16-20 billion euro. It’s very important not to over pay for the deal, as some portion of invested money will be spent at integration and synergy stages.

Way to success:

  • To make this deal a success some estimations to better understand the synergy effect should be made, after getting to know the exact figures about long-term debt and re-investment rate of both banks. 
  • Action plan about joint tasks and projects to involve managers from both Allianz and Dresdner should be implemented and possibly a 100-days integration plan after the merger should be presented.
  • A definite management structure should be implemented shortly after the acquisition, showing the key roles and top managers, reporting lay-offs, and announcing all changes in business model. The plan about the integration of Dresdner Bank’s employees into Allianz AG and Allianz’s employees to the Dresdner’s resources that were previously targeted should be as detailed as possible allowing to take particular steps in the integration process.
  • Revenue synergies can be the source of errors because of improper estimation and a reason for disappointment in reality, thus all details concerning customers, channels, growth and assets should be of particular attention and re-estimated using different methods to get the right and close-to-market figures that can be trusted and relied on.
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