Morgan Stanley Agrees To New Price For Smith Barney Unit After Third Party Valuation

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Morgan Stanley (NYSE:MS) and Citigroup (NYSE:C) have finally agreed on the acquisition terms for Smith Barney after being at loggerheads for months over the valuation of the brokerage business. [1] While Morgan Stanley has been keen on acquiring the remaining 49% stake in what is now Morgan Stanley Smith Barney (MSSB) since the deal was inked in 2009 to strengthen its wealth management offering, Citigroup has been equally eager to offload the business, which it classifies as part of its for-disposal Citi Holdings division. Their plans, however, hit a roadblock when both parties quoted significantly different values for the business. After an independent valuation by Perella Weinberg Partners, both banks finally agreed to an implied valuation of $13.5 billion for MSSB, and Morgan Stanley will fully acquire the business by June 1, 2015.

We have a $19 price estimate for Morgan Stanley’s stock, which is about 10% above current market prices.

See our full analysis of Morgan StanleyCitigroup

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History Of The Morgan Stanley Smith Barney Deal

Morgan Stanley purchased a 51% stake in Smith Barney from Citigroup in January 2009, with an agreement that it could increase its stake by an additional 14% in 2012, 15% in 2013, and 20% in 2014. The staggered acquisition as agreed upon by the two banks was in the mutual interest of both as Morgan Stanley would not have to raise a huge amount of capital at one go while Citigroup would benefit from an appreciation in valuation at each phase.

But things did not quite go Citigroup’s way. Poor macroeconomic conditions and integration issues with the business saw MSSB generating lower than expected income figures each quarter. So, when Morgan Stanley finally expressed its desire to acquire the next 14% stake, it wanted to do so at a valuation of around $9 billion for the firm. Citigroup held out as the business was valued at nearly $23 billion on its books. Unable to come to an agreement on the value, both banks got the business valued by Perella Weinberg as an independent appraiser who came up with a number closer to Morgan Stanley’s earlier this week.

What Lies Ahead

The independent valuation finally got the two banks at the negotiating table for closing the deal. And they decided to come up with a number for the business once and for all – $13.5 billion. Morgan Stanley will acquire the first 14% stake this quarter, followed by an additional 15% stake by June 1, 2013. The remaining 20% will change hands latest by June 1, 2015.

We have included the impact of the phased acquisition of the remaining Smith Barney assets by Morgan Stanley in our analysis of the bank as seen in the chart above. Morgan Stanley is expected to rename MSSB to Morgan Stanley Wealth Management soon.

Citigroup will end up with a one-time pre-tax write-off of $2.9 billion this quarter as a result of the revaluation of its remaining stake in MSSB on its books.

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Notes:
  1. Morgan Stanley and Citigroup Reach Agreement for Full Purchase of MSSB, Morgan Stanley Press Releases, Sept 11 2012 []