Bank of New York and Pittsburgh-based Mellon Financial, two of the most respected names in the US financial services industry, have announced their intention to merge. The $16.5 billion all-stock deal to create a global giant may lead to further consolidation in the global financial services industry.

Shareholders of Mellon would receive one share of the merged entity for every share held while Bank of New York shareholders would receive 0.943 shares for every share. Bank of New York shareholders would control 63 per cent of the capital base of the merged entity. The combined entity would be headquartered in New York with some units based in Pittsburgh and the merger is expected to be completed by middle of next year.

The combined entity would have revenues of around $12 billion annually and would become the 11th largest financial institution in the US with a market capitalisation of around $42 billion. The Bank of New York management expects cost savings of around $700 million per annum and a reduction of 4,000 jobs over the next 3 years.

Thomas Renyi, current chairman of Bank of New York, would become the executive chairman of the merged institution and would oversee the merger process. He would step down after 18 months and Robert Kelly, current chairman and CEO of Mellon, is expected to take over. Kelly would be designated as the CEO of the merged entity immediately.

Both financial institutions have a glorious history and have been around for quiet a while. Bank of New York was started by none other than Alexander Hamilton, one of the founding fathers of the US who went on to become the first treasury secretary in 1784, while Mellon Financial was founded in 1869 by the Mellon family. The Bank of New York had made an unsolicited bid to acquire Mellon in 1998, but was rebuffed.

The merger combines two institutions which are strong in different areas to emerge as one of the leaders in both businesses. Bank of New York is very strong in custodial services, but weak in asset management. On the other hand, Mellon has a large asset base under management but its custodial services business is much smaller than the Bank of New York's.

The merged entity would become the world's largest provider of custodial services, managing assets of $16.6 trillion. Custodians provide back-office support to fund managers by taking over most of the physical transactions from their clients.

Custodians track client transactions and take delivery of securities, which their clients have bought, hold the securities on behalf of the clients and deliver them when the clients sell. They also collect dividends on behalf of the clients and furnish details of the holdings including computation of mutual fund asset values. Custodial services clients include mutual funds, pension funds, hedge funds and large university or philanthropic endowments.

The merged entity would have a sizeable lead over JP Morgan, the current market leader in custodial services with assets of $12.9 trillion under custody. State Street and Citigroup would occupy the third and fourth positions with assets of $11.3 trillion and $9.6 trillion under custody respectively.

The merger is likely to lead to a further consolidation in the custodial services industry. Though alliances between the other top players like JP Morgan, Citigroup, State Street and Northern Trust are not expected immediately, they may look at acquiring smaller players. They may also look at overseas acquisitions to service large fund managers in emerging markets. Some of the large European banks may also look at bolstering their position through acquisitions.

The Bank of New York-Mellon Financial combine would also become one of the largest fund managers, with assets of more than $1.1 trillion in management. Mellon's fund management business include well known mutual fund Dreyfus, Mellon Global Investments, The Boston Company Asset Management and Pareto Investment Management.

Mellon is also very strong in providing wealth management solutions to private individuals. Bank of New York also offers fund management services with a total of $150 billion in assets under management.

Both Bank of New York and Mellon got out of retail banking business and have been concentrating on custodial and fund management services. Bank of New York traded its retail operations in exchange for JP Morgan's corporate trust unit. Mellon sold its retail banking operations to Citizens Financial in 2001.