Far from being the country of samba and Carnaval alone, Brazil has emerged in the last decade as one of a handful of countries with the greatest growth potential. Should economic forecasts prove accurate, the country’s financial sector will play a key role in making its growth highly attractive to businesses and investors alike. Even amid the worst worldwide financial crisis since the Crash of 1929, Brazil continues to distinguish itself with optimistic economic growth forecasts over the next few years. The latest IMF forecast for GDP, for example, projects 2.1 percent growth in 2010, versus forecasts for advanced countries of 0.0 percent.
REDRAWING MAP
Now, a rash of mergers and acquisitions is redrawing Brazil’s financial map, converting the country of samba into a land of opportunity, even as financial markets outside the country shrink drastically in the face of the global downturn. This picture of growth has not escaped the attention of local and international institutions, which in recent years have begun an unprecedented process of expansion and consolidation. Those institutions that position themselves best and acquire more economic strength will benefit the most from the Brazilian boom.
One need look no further for proof that corporate deals are increasing than to the merger between Itaú (second-ranked in size) and Unibanco (ranked sixth); the purchase by Banco de Brasil (ranked number one) of Nossa Caixa (ranked tenth) and of 50 percent of Banco Votorantim (eighth); the acquisition of Banco Cacique by Société Générale; and, just this month, the agreement to sell Banco Pactual, the Brazilian division of Switzerland’s UBS, to BTG Investments for $2.5 billion. This deal has come at a critical time for the distressed Swiss institution, which is undergoing a liquidity crisis.
But, what’s behind all these deals?
“Consolidation is one of the clear trends in the Brazilian banking system,” notes Altina Sebastián González, professor of finance at the Complutense University in Madrid. She adds, “In 1994, the year when the Real Plan was implemented [with the goal of doing away with hyperinflation], the five biggest banks in the country held a combined 56.8 percent of the loans granted by the private sector, but by December 2008 that percentage had shot up to 77.5 percent. Behind this substantial growth lie dozens of mergers and acquisitions in recent years -- some notable fiascos, such as the bankruptcy of Banco Santos -- and the slowing of loan activity by some multinational subsidiaries, whose headquarters have been especially affected by the subprime crisis.
LARGEST INSTITUTION
Itaú and Unibanco understood the landscape when they announced a merger at the end of last year. Their deal created the largest financial institution in the Southern Hemisphere. The new institution has assets worth $263.8 billion, making it the seventeenth-largest institution in the world. It has 4,800 offices, 14.5 million customers, and a 20 percent share of the Brazilian banking market.
The managers of these two institutions have emphasized that the goal of the merger is to expand its competitive capacity, and that the deal is in no way the result of the global financial crisis. Whatever the basic goal of their marriage, the reality is that global financial weakness is leading to a process of consolidation in search of survival, though in Brazil other factors clearly have had an influence.
“One of the underlying reasons for the deal is the size of the country, explains Sergio R. Torassa, professor of finance at the Pompeu Fabra University. The land mass of Brazil is equivalent to 90 percent of the United States, so the cost of implementing a nationwide network of banking offices is very high. It is estimated that it would take between $1 billion and $2 billion to acquire a 1 percent share of the national market, so a 5 percent share would require $5 billion to $10 billion. Small- and medium-sized players don’t have that kind of money, Torassa notes. As a result, this new configuration of the banking sector “constitutes a clear advantage from the viewpoint of an increase in competitiveness between institutions of larger size, with the resulting benefit for its clients and, ultimately for the Brazilian economy as a whole.”
Another positive indicator for the Brazilian financial sector is that, facing the billions of dollars to be spent by the United States and Europe on their financial sectors, the government of Lula (Luiz Inácio Lula da Silva, Brazil’s president) has injected US$45 billion into Brazil’s system to keep credit alive and avoid an increase in unemployment. Along these lines, Juan Mascareñas, professor of financial economics at the Complutense University, notes that “the government of Brazil is providing a series of economic stimulus initiatives aimed at making it easier for the volume of credit to grow by an estimated 14 percent this year, and that will benefit the private banking sector.”
PRESENT, PAST, FUTURE
To understand where the Brazilian financial sector is headed, it is worth analyzing the recent deals. One highlight: the birth of Itaú Unibanco Holding, the institution that resulted from the marriage of Itaú and Unibanco. The new institution has overtaken the Banco de Brazil, whose leadership position was until then unassailable. Also remaining behind are Bradesco, which had been able to boast that it was the largest private institution; as well as Banespa and Banco Santander.
Although Itaú and Unibanco together have probably moved ahead the most, a series of mergers before and after makes apparent the importance of the heavyweight players in the reordering of the Brazilian financial sector. Thus, the state-owned Banco de Brazil is one of the banks that have been most active when it comes to expanding its check book. In November 2008, that bank announced the purchase of Nossa Caixa, focused on the Sao Paulo region, for $2.936 billion. The goal: to strengthen the publicly owned institution in the face of the merger of Itaú and Unibanco. As Guido Mántega, minister of finance, noted at the time, “We saw that it is important during a time of financial crisis such as this one, to have public banks that are strong and important. This deal balances the game.”
Previously, the Banco de Brazil had taken 50 percent of Banco Votorantim, the seventh-largest institution in the country, for $1.8 billion. It also made two other acquisitions in 2008, the Banco of the State of Piaui, and the Bank of the State of Santa Catarina.
Nevertheless, without doubt, the deal that provoked the most discussion was the acquisition by Santander of Banco Real, the Brazilian subsidiary of ABN Amro, which Santander merged with Banespa, its division in Brazil. This purchase took place within the process of carving up the Dutch institution [ABN Amro], which involved Royal Bank of Scotland and Fortis. The deal cost Santander almost $26.1 billion dollars.
SANTANDER'S GOAL
The merger of Banespa and Banco Real enabled Santander to become the fourth-largest bank in Brazil, with 8.5 million customers. But Emilio Botín, president of Santander, had already announced that the deal wasn’t enough for him, and that he wants his bank to be the largest privately owned bank in the country. Some of his comments have raised many hackles, and some industry experts say they have accelerated many of the deals made by his Brazilian rivals. “Brazil is a big country. It combines a fantastic [consumer] market with potential in agriculture, minerals, technology, industry and services. It has become, without doubt, one of the biggest powers on a global level,” Botín explained during a recent visit to Brazil.
As a result, Santander plans to invest $1.125 billion in Brazil during this year and next year, with an ambitious plan to open an estimated 400 offices. Combined with its purchase of Banco Real, Santander is also strengthening its Brazilian insurance business. That is the message it sent in March when it paid 230 million euros to acquire 50 percent of the shares that it did not own in Real Tokio Marine Vida e Previdencia, which is owned by the Japanese financial group Tokio Marine Holdings.
In addition to Santander, other international institutions in Brazil include Société Générale, which paid a bit more than 300 million euros for Banco Cacique in 2007, and La Caixa, which bought a 3 percent interest in Itaú that it sold in 2005. In addition, BBVA had a presence in Brazil through its subsidiary BBV Banco, which it sold to Bradesco in 2003. Nevertheless, BBVA recently signaled its intention to return to Brazil, which it defines as “its outstanding unresolved issue.”
It is becoming increasingly clear that large financial institutions without a presence in Brazil do not have an adequate presence in Latin America, more and more experts say. The financial crisis has strengthened this notion, as banking in Brazil offers a very different lesson than those found in most other industrialized countries: Brazilian banks are not dragging down the economy, in fact, they are strengthening the economy and making it more resistant to fluctuations in local and international markets.
INTERNATIONAL SPRINGBOARD
Ultimately, there is one key to the consolidation process in the Brazilian financial sector: The international springboard the country provides for those who want to expand in the American market. “Brazil is Latin America’s economic superpower and, in addition, in recent years its economy is growing at a strong pace. In this context, the consolidation process can provide increased efficiency and a way to extend itself toward the rest of the subcontinent,” notes Mascareñas.
One clear example is the new Itaú Unibanco Holding. Only moments after the merger was sealed, the new institution announced that the primary focus of its attention will be international expansion in emerging Latin American countries such as Mexico, Colombia, Peru, as well as in Chile, a developed country. Some experts don’t discard the possibility that it will try to acquire one of its major American or European rivals in this period of international crisis. “We want to be a bank that has the skill to operate around the world. We aspire to have a global scale,” noted Pedro Moreira Selles, president of Unibanco, shortly after announcing the merger.
Santander also recognized that Brazil has become the epicenter of its own growth strategy for Latin America. This approach is very much in line with the institution’s plans for international expansion because, as professor Altina [Gonzalez] recalls, “In recent years, the Spanish institution has become increasingly anxious to become one of the big banks in the world. Its acquisitions have been directed toward four strategic markets: The United Kingdom, Germany, the United States, and Brazil. In the last of those countries [Brazil], it has advanced to the point where it is the third-largest bank.”
CONSEQUENCES OF CONSOLIDATION
Yet, all of the consolidation has consequences, notes Torassa, especially in terms of efficiency and restructuring. “It is undeniable that the efficiency of any banking system constitutes a strategic factor of maximum importance, even more so when business margins are lower. For Brazil, traditionally, [banking] institutions have been used to working with prices that provided them with comfortable differentials. For example, in personal loans, the interest rates charged to their best customers exceeded 32 percent on a daily basis, and reached even rates of 73 percent and 76 percent on an annual basis.” Currently, he notes, “Even President Lula has declared that his ‘obsession’ is to substantially reduce the spreads between active banking operations – what the banks charge – and passive operations – what the banks pay to their customers. Given that, the banking sector will be asked to undertake a broad restructuring, with policies to reduce personnel and operational costs, to rationalize subsidiaries, invest in technology, and gain scale through mergers and acquisitions.”
It is an authentic revolution. But it seems that the terrain has been well prepared in advance.
Republished with permission from http://www.knowledge.wharton.upenn.edu -- the online research and business analysis journal of the WhartonSchool of the University of Pennsylvania.
Argentina: Ten Reforms for Cristina