Carlyle Balks at Purchase of Metro Bank​

By Jake Rickman​

What do you need to know this week?

Last Thursday, global private equity house Carlyle walked away from discussions to purchase Metro Bank plc.

Metro Bank is widely considered to be one of the first so-called “challenger banks” in the UK, opening its doors in 2010.

Carlyle is a global private equity (‘PE’) firm with a speciality in large “buy-outs’ (i.e., purchasing entire companies outright) across many sectors including financial institutions.

Why is this important for your interviews?

The private equity market is very hot right now. Knowing how PE transactions operate is a great way to demonstrate commercial awareness in interviews.

A good way to further your understanding is to analyse why a deal has fallen through because it will strengthen your understanding of what private equity investors are looking for, as well as how businesses operate more generally.

Let's consider three reasons...

1) The Target’s Business Strategy

As a challenger bank, Metro seeks to disrupt traditional “retail banks” (i.e., high street banks like Lloyd’s, Barclays, and HSBC) by using innovations in technology to lower the costs of their services. By increasing its market share, it can capitalise on “economies of scale” to reduce costs because the cost of its operations will be spread over larger numbers of customers.

What makes Metro unique is that it is the only challenger bank to have physical branches. Moreover, by opening more branches, it is out of lockstep with the traditional retail banks like Lloyds, HSBC, and Barclays, which are closing theirs.

Many investors may view this strategy with scepticism because they are betting that branch banking will not be of interest to consumers in the future. In this sense, it is possible that Carlyle may not think Metro’s strategy is “future proof”.

2) Future Interest Rates

Low interest rates mean that banks make less money on loans because the cost of the loan amount (the interest rate) is less. Because interest rates have been so low for years, common loans such as residential mortgages and SME business loans have not been as profitable as they were in the past.

If interest rates were to rise, Metro Bank would be able to charge more for common loan products like residential mortgages. Carlyle could have been betting that the Bank of England would raise interest rates to contain inflation rates, which are at ten-year highs. However, the Bank of England recently announced that it was not considering an immediate rate hike.

This could have weakened Carlyle’s analysis of Metro Bank’s underlying value.

3) Negotiating a Purchase Price

In 2019, it emerged that Metrobank had misclassified many of the loans it held, sending its share price tumbling. From 2018 to today, the company’s share price has lost over 80% of its value.

While this may be bad for Metro Bank in the short term (no one wants the value of their shares to plummet), market events like these are often what private equity firms like Carlyle look for because it suggests that the market may be undervaluing a company. If it purchases the company, it can delist it off the stock exchange (a “take private”) and later sell or re-list it for more.

Nonetheless, Carlyle may not have believed that there was enough of a discount to acquire Metro Bank.

How is this topic relevant to law firms?

Lawyers are instrumental advisers for every successful private equity transaction. But they also play a valuable role in advising their clients when they should not agree to a purchase or entertain buying a company, as may have happened here.

We do not know for sure at what stage the negotiations got to, but in general, law firms with recognised corporates and private equity practices like Latham & Watkins and Kirkland & Ellis will be instrumental in facilitating the “due diligence” process of a PE purchase.

Likewise, some PE offers are not in the target company’s best interest. Law firms with strong reputations in advising public companies like Slaughter and May can advise the directors on their obligations to the company.