October 9, 2020

Breakingviews: Morgan Stanley buys Eaton Vance because it can

by Breakingviews.

James Gorman makes an unlikely M&A machine. The Morgan Stanley boss keeps a lower profile than some Wall Street chief executives. Even so, his firm said on Thursday it will pay $7 billion in cash and shares for asset manager Eaton Vance, less than a week after closing a $13 billion merger with brokerage E*Trade Financial. The deal fits. But part of Gorman’s rationale is because he can.

After adding Eaton Vance’s $500 billion of assets, Morgan Stanley’s investment management unit will run $1.2 trillion, a big enough boost to make the $88 billion company a less volatile beast. During Gorman’s 10 years in charge, Morgan Stanley has slimmed the share of its pre-tax profit made by wobbly trading and investment banking from 74% in 2010 to an estimated 42%, assuming the merger closes. At Goldman Sachs it was over 60% last year.

Gorman also has room for acquisitions that rivals don’t. Morgan Stanley came out of this year’s Federal Reserve stress tests as the major Wall Street firm with most capital to spare. Gorman has made clear he is keen to expand in asset management. Eaton Vance has clients galore in the United States but few abroad. Morgan Stanley now gets to sell Eaton Vance’s high-yield, municipal debt and loan funds, among other products.

Asset management mergers often come unstuck because they’re people businesses and people can easily quit. In this case, Eaton Vance’s 25 controlling shareholders, who all work there, have given the deal the nod. The possible weak link is the price. The $150 million of annual cost savings Gorman expects, taxed and capitalized, are probably worth $1.2 billion today. That’s well short of the $2.3 billion premium he is paying based on Wednesday’s closing prices. The rest will need to come from sometimes elusive revenue growth.

The bigger picture, though, is that Morgan Stanley is in a rare spot. It has a clear strategy, abundant capital, the ability to move the needle with a deal of this size, and a rap sheet that’s less of a headwind than for peers. Goldman has yet to conclude a settlement over its role in Malaysia’s 1MDB bribery scandal. Citigroup just paid $400 million to a regulator for long-standing risk problems. Those who keep their noses and balance sheets clean get the goodies.

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