Breakingviews - Time for Germany to make Deutsche/Commerz happen

A Deutsche Bank logo adorns a wall at the company's headquarters in Frankfurt, Germany June 9, 2015

LONDON (Reuters Breakingviews) - In Goethe’s Faust, the protagonist makes a deal with the devil’s envoy by exchanging his soul for the fulfilment of earthly goals. Deutsche Bank and Commerzbank, faced with decidedly unholy lowball returns on tangible equity, face a similar dilemma as they struggle to meet their cost of capital. Germany’s two biggest banks by assets should swallow their pride and hook up.

From a strategic and regulatory standpoint, a union would make sense. A tie-up with Commerzbank would end perennial existential angst around Deutsche, which relies on volatile investment banking for over two-fifths of net revenue. The new entity would derive around 43 percent of revenue from Germany, including a greater share from more predictable lending to retail customers and companies. It would also account for a tenth of total German loans, according to Morgan Stanley research, more than double the nearest rival, giving it pricing power in the country’s notoriously fragmented market.

It could also fast-track the journey to decent returns. The overlap between the banks is such that a merger could strip out 10 percent of their combined estimated operating costs – around 3 billion euros according to one analyst. Taking 2019 projected revenue and bad debts for both banks would yield a pre-tax profit of 9.5 billion euros, according to Eikon. That implies a net profit of 6.8 billion euros, equivalent to an 8.4 percent ROTE on Eikon estimates of tangible book value. That’s well above the 5.8 and 4.7 percent ROTE analysts currently project for Deutsche and Commerzbank respectively in 2019.

Why have Deutsche boss John Cryan and his Commerzbank peer Martin Zielke held back on a deal? Perhaps because they are focused on grinding, multi-year restructurings aimed at digitising back-office processes and lowering costs. Job cuts at Commerzbank, 15 percent owned by the German state, would be controversial.

Yet analysts’ expect both lenders to barely manage a 6 percent return by 2020 even after their revamps. The German government might prefer a domestic suitor to a foreign interloper such as BNP Paribas, and has a freer hand following elections. And if it wants to offload its stake, selling 15 percent of a healthier bank trading at its 84 billion euro book value could mean two-thirds more for state coffers than a sale right now. Berlin should get cracking.


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