Merrill Lynch ups the ante

Buy-out of Indian JV underlines the country''s growing importance for investment banks.

India's M&A league tables witnessed a momentous day yesterday (December 8) after rainmaker Hemendra Kothari, sold a controlling interest in DSP Merrill Lynch to his joint venture partner. As a result of the $500 million deal, Merrill Lynch will increase its shareholding in the bank's Indian subsidiary from 40% to 87.73%. This may further rise to 90% pending the completion of a mandatory offer to public shareholders.

The US investment bank has now indicated it will file an application to delist the company from the Bombay Stock Exchange. DSPML's share price went up 8% yesterday and has risen 32% this week as rumours of an impending announcement grew stronger.

Kevan Watts, Chairman of Merrill Lynch International told FinanceAsia that a valuation for Kothari's stake was calculated with the assistance of an independent valuer. The amount encompasses payment to Kothari and to a group of minority shareholders who own a 2.27% stake.

Kothari will continue to own 10% of DSP Merrill Lynch and as part of the transaction will now own a 60% stake in DSPML Fund Management - previously wholly owned by DSPML. The remaining 40% will continue to be owned by DSPML.

In the past Kothari has said he would like to devote more time to DSPML Fund Management. He is clearly bullish on the prospects of India's bourses - earlier this year he was quoted as saying that, "India will continue to be an exciting investment destination for FIIs... the big driver for the markets will be a sustained growth in the economy of around 7%".

Interestingly, the mutual fund arm is also where one of his two daughters interned before she went to the US for a degree programme.

DSP Merrill Lynch came into existence in 1995 when Merrill Lynch paid $30 million to acquire 40% of DSP Financial Consultants, a company Kothari had founded in 1975. At the time joint ventures were flavour of the month, with JPMorgan, Morgan Stanley and Goldman Sachs all forming JVs with India's established local investment banks. The country was perceived as an unknown commodity and a strong local partner was deemed essential to manage the regulatory environment and win business.

In the years following the financial crisis, a triumvirate of DSPML, JM Morgan Stanley and Kotak Mahindra (Goldman's JV) had the Indian market sewn up between them. In recent years, however, other banks including UBS, JPMorgan, Citigroup and Deutsche have all made a big push on the subcontinent.

This has prompted intense speculation about the future of the JV's. At DSPML, the two partners are said to have had several discussions about a sale, all of which fell down over valuation.

Two things have changed in 2005. Firstly, Kothari is thought to have wanted to take a step back for personal reasons. Secondly, India has become a key component of Merrill's regional strategy, although significant deal flow has not yet been matched by high fees.

In 2004, DSPML recorded revenues of $84 million (broking and investment banking), up from $63 million in 2003. Net income over the same period climbed from $23 million to $31 million.

Local bankers belive that the Indian investment banking wallet (ex fixed income) is currently worth about $750 million to $1 billion versus $250 million to $500 million a couple of years ago.

This figure has three components.

The largest is institutional equity broking - a $300 million to $500 million market including trades booked offshore. Retail broking by the foreign banks is estimated to net a further $150 million to $200 million per year. Finally, ECM and M&A is curently worth about $200 million to $300 million, having grown about 60% in 2004.

Under the terms of the new agreement, Kothari will continue to act as chairman of DSPML, but will gradually relinquish active management of the company. He will also become a member of Merrill Lynch's Asia Pacific Executive Management Committee and a vice chairman of Merrill Lynch globally. The idea behind this latter appointment is to bolster the bank's credentials with Indian clients planning to go global.

In a press release, Merrill Lynch chairman and CEO Stan O'Neal said, "We have tremendous confidence in Hemendra Kothari and the talented team at DSP Merrill Lynch. As a result of this change we will be able to accelerate our plans for growth in this robust market. I am also very pleased that Hemendra has agreed to take on these additional responsibilities."

Watts adds that, "No changes in management structure or reporting relationships at DSP Merrill Lynch are envisaged." He says this is because DSPML was completely aligned with Merrill Lynch a few years ago. Decisions about allocation of risk capital, for example, are largely made on a global basis through Merrill's credit committees.

Investment banking on Dalal Street has increasingly become as cut-throat as Wall Street, both in terms of winning deals and retaining people. This year DSPML has witnessed two high profile departures - losing Ravi Kapoor its head of equity origination and capital markets, as well as Rajeev Gupta, co-head of investment banking.

The former left to join Citigroup's ECM practice, while the latter now heads up Carlyle's Indian private equity practice. Both had been long standing veterans of the firm.