Megamerger Plan Hinges On Congress

In attempting to combine a commercial bank, insurance underwriter, and securities firm, the proposed Citigroup is gambling on regulatory indulgence and congressional action.

Federal regulators are expected to bend the rules and approve Citicorp's merger with Travelers Group. But the combined firm needs lawmakers to enact broad legislation within five years to continue offering such a wide array of products.

That may be more than enough time for Congress.

The staggering $70 billion deal could push lawmakers to finally enact a sweeping overhaul of the nation's financial laws.

"Congress needs to pass financial modernization legislation this year so providers, both big and small, can have the same opportunities ... as this new financial giant," said House Republican leader John A. Boehner.

It is clear John S. Reed and Sanford I. Weill, co-chairmen of the merged concern, plan to personally push for reform.

"U.S. financial services companies must be able to offer customers thesame array of products and services that their international competitors are now free to provide," Mr. Reed and Mr. Weill said in a joint statement.

The executives briefed Federal Reserve Board Chairman Alan Greenspan and Treasury Secretary Robert E. Rubin and then took the extraordinary step of explaining the deal to President Clinton by phone Sunday night. Mr. Reed characterized it as "a very good talk."

Foreign regulators are also expected to authorize the merger, though approvals could take close to a year. "They can stagger it, or they can downsize it, but they won't scuttle the deal," predicted Gary Kleiman, managing partner with Kleiman International Consultants Inc. here.

"These companies are large potential employers in these markets," he added. "And in Europe, for example, this concept of universal banking is widely accepted."

Although the Citicorp-Travelers merger's long-term success depends on financial reform, the deal is structured to allow the combined company to continue operating as is for up to five years.

"There were enough discussions (with Fed officials) for us to know that there wasn't a legal problem," Mr. Reed said, noting that Fed officials have strongly supported financial reform legislation. "That doesn't constitute a guarantee, but there are all indications that (the merger) will be looked at favorably."

The deal calls for Travelers to acquire Citicorp and then convert to a bank holding company. As a newly converted holding company, Travelers automatically qualifies for a two-year exemption from laws that bar banking companies from underwriting insurance.

The Bank Holding Company Act also permits the Fed to give the new holding company up to three one-year extensions before requiring divestiture of insurance underwriting, real estate development, or other businesses barred to banking companies.

These exemptions are quite common.

For instance, in 1986 the Fed gave Citicorp two years to divest a real estate development business it acquired when it bought National Permanent Federal Savings Bank. Also, the Fed has granted two-year exemptions in every case involving banking company acquisitions of brokerage houses. This includes the mergers of Bankers Trust Co. with Alex. Brown, and BankAmerica Corp. with Robertson Stevens.

However, what Citicorp and Travelers are asking the Fed to do goes far beyond what the central bank has approved in the past.

"This is a whole new use of that loophole," one banking lawyer said. "The exemption was intended to provide an orderly mechanism for disposing of impermissible activities, not warehousing them in hopes the law would change so you could keep them."

Such bold use of the two-year exemption got the attention Rep. John D. Dingell, D-Mich., the ranking minority member on the House Commerce Committee.

"It is unclear to me exactly how one takes a two-year time out from the law," he said, but the longtime foe of financial reform added, "Apart from those issues, the merger underscores the need for responsible legislation that promotes a level playing field in financial services and offers real protections to the investor and taxpayer."

Senate Banking Committee Chairman Alfonse M. D'Amato agreed that Congress needs to catch up with the decisions by regulators and courts that are permitting such blockbuster mergers.

But he was skeptical Congress would act this year. "I don't think we have sufficient time in the shortened legislative calendar," the New York Republican said. "I would hope as soon as Congress gets back next year after the election season, that we could put together a bipartisan bill."

House Banking Committee Chairman Jim Leach, a longtime reform proponent, said legislation is needed "to ensure that America's competitive position abroad is enhanced."

Ironically, Travelers and Citicorp have been on opposite sides of financial reform legislation, and their lobbyists agreed Monday that they will have to settle their differences soon.

Roger N. Levy, Travelers' lobbyist, said the merger requires some form of financial reform to pass eventually.

"It's obvious to everybody involved in the merger that we have to make changes to the banking laws in five years," he said. "We still have to get on same page, but it will take a while to iron that out."

"We are not that far apart," a Citicorp official insisted. "We both want legislation. Citicorp just doesn't want this legislation."

The reform bill that collapsed in the House last week "does too much damage to the national bank charter," the Citicorp official said. "We are depending on the national bank charter for much of the business the new group will engage in all around the world."

Lobbyists who oppose the House bill said the merger would not affect the legislation's prospects.

"This merger probably will not have much impact on the bill's chances," said Beth L. Climo, a lobbyist for the American Bankers Association. "If this deal is legal under current laws it shows the market can go forward without legislation."

But supporters said the merger would make lawmakers more determined to pass the legislation.

"Congress has one more chance to lead here," said David J. Pratt, lobbyist for the American Insurance Association. "It's clear that the market is signaling in a very substantial way that these types of combinations make sense. We should ratify it."

Banking lawyers were divided on the wisdom of forging ahead without legislative change.

"They are taking a very calculated risk that within five years there will be major reform," said Charles M. Horn, a partner in the Washington office of the Mayer, Brown & Platt law firm. "It is an educated risk, but clearly a risk."

"This is an interesting strategy, but it is fraught with risk," agreed Robert L. Clarke, the former comptroller of the currency who is now a partner at Bracewell & Patterson in Houston. "You never know if Congress is going to get around to doing what needs to get done."

But others said the companies have at least three viable alternatives to divestiture if Congress fails to enact financial reform.

The most feasible option is to exploit regulatory loopholes that could allow the firm to underwrite insurance and provide banking services. To achieve this, Travelers' insurance underwriting could be transferred to Citicorp's Delaware state bank, which is one of several banks with underwriting powers grandfathered by Congress in 1991.

Securities underwriting by Travelers' Salomon Smith Barney also could be moved into Citicorp's section 20 unit. A third party could be hired to distribute the company's mutual funds.

"They probably could do it without legislation," said Anita L. Boomstein, a partner at the New York law firm Hughes, Hubbard & Reed. "But that would be a tremendous undertaking all by itself, and I'm sure they wouldn't want to do it unless everything else failed."

Another option is to convert to a unitary thrift holding company. Though thrifts have wider powers than banks, Travelers and Citicorp would have to create a finance company subsidiary to handle commercial lending to avoid the limit on thrift business loans. It also would have to meet the qualified thrift lender test, requiring a boost in mortgage lending.

Also, the Office of Thrift Supervision has never given a thrift permission to branch overseas. This could cause significant problems for Citicorp, which has an extensive worldwide branch network.

Under the third option, insurance underwriting would be moved into a Citibank operating subsidiary. Lawyers said this is the most risky option because the Comptroller's Office has never ruled that operating subsidiaries may underwrite insurance.

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