Online Brokers Are Still Hungry


By Adrienne Carter "Big fish buys smaller fish" has become a common headline in the online brokerage business these days. So E*Trade Financial's (ET) announcement on Sept. 29 that it plans to buy BrownCo from JPMorgan Chase (JPM) for $1.6 billion shouldn't come as much of a surprise.

Faced with weak trading volume and excess capacity, e-brokers have been scurrying down the altar in recent years as a quick and easy way to prop up profits. The No. 3 player, Ameritrade Holding (AMTD), has bought seven competitors in the past four years. Its eighth acquisition, TD Waterhouse, should close by early next year.

WALLFLOWER NO MORE. This deal is E*Trade's second in as many months. On Aug. 8, the New York-based brokerage said it would buy Harrisdirect from BMO Financial Group for $700 million in cash. Once the two deals are completed, E*Trade will have roughly 4.3 million accounts, making it the fourth-largest online broker.

BrownCo makes a particularly nice addition: The firm's 200,000 customers have an average account balance of $145,000, compared with roughly $30,000 for E*Trade. Although E*Trade paid a high price -- about $8,000 per account -- many analysts agree it was a smart move, given the pressures facing the industry.

"It looked as if E*Trade was left without a prom date," says Robert Hansen, equity analyst at Standard & Poor's, which, like BusinessWeek, is owned by McGraw-Hill Cos. "But buying Harrisdirect and BrownCo puts E*Trade back in the horse race."

Does E*Trade's deal signal the end of the acquisition frenzy? Don't count on it. Certainly, there are few sizable targets left. Once the outstanding deals close, only a handful of players will still be standing, including Fidelity Investments, Charles Schwab (SCH), Ameritrade, E*Trade, and Scottrade. "The online brokerage industry is becoming a bit of an oligopoly," says David Trone, an equity analyst for Fox-Pitt, Kelton.

RUGGED INDEPENDENCE. But that doesn't mean the big guys aren't sniffing around the industry for their next target. St. Louis-based Scottrade, currently the nation's sixth-largest online brokerage, would be a prize catch. The e-broker has 1.4 million customer accounts and 241 branch offices across the country. And while other outfits have been struggling to maintain their share of the industry trading volume, Scottrade has been steadily increasing its piece of the pie.

But the CEO and founder of the privately held firm, Rodger O. Riney, remains steadfastly independent. Lacking demanding and critical shareholders, he can maintain that stance for quite awhile.

And E*Trade's shopping spree doesn't guarantee it will stay out of buyers' crosshairs, says Standard & Poor's Hansen. "It would make an attractive acquisition candidate to others in its industry," Hansen says. "It has a strong franchise."

There's always the possibility of a megadeal between the big boys. But Ameritrade and E*Trade don't seem too cozy after their proposed merger headed south this summer. And Charles Schwab & Co. doesn't seem interested in commission-based businesses, which would be the main appeal of buying E*Trade or Ameritrade.

PROACTIVE. If there's a next round of merger activity, says Fox-Pitt Kelton's Trone, niche players such as OptionsXpress Holdings (OXPS) and TradeStation Securities (TRAD) are likelier targets. OptionsXpress specializes in options trading, a hot corner of the online market where volumes have been particularly strong. TradeStation focuses on active trading, making it a nice complement to a more traditional online brokerage business.

But OptionsXpress CEO David S. Kalt, for one, says he's in no rush to sell. The company, which just went public nine months ago, increased accounts by 66% in the most recent quarter, compared with the previous year, and boasts fat pretax profit margins of 61%. That makes it a sweet catch, but also a pricey one. "We're growing so fast and have such momentum that we might be a difficult fit," says Kalt. "We might be too expensive."

But as the recent BrownCo deal proves, when it comes to an attractive target, some players are willing to pay up. With Burt Helm in New York

Carter is a correspondent in BusinessWeek's Chicago bureau


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