Why Are Morgan Stanley and Citigroup FIGHTING?

The discrepancy between two of New York’s banking giants, Morgan Stanley (NYSE:MS) and Citigroup (NYSE:C) has been resolved. Consultant Perella Weinberg placed the value of the joint venture they created in 2009, Smith Barney, at $15 billion; higher than Morgan Stanley’s $9 million and lower than Citi’s $22 million.

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Following the agreement both firms made during the height of the financial crisis, Morgan Stanley can exercise options to purchase the remaining 49 percent by a precise schedule: on May 31, 2012 it can purchase an additional 14 percent, May 31, 2012 it can purchase another 15 percent, and as of May 31, 2014, the company purchase the remaining interest from Citi.  Under the terms of the deal, if the two firms’ valuations differ by more than 10 percent, a third-party appraiser must determine the value.

Morgan Stanley, who currently owns 51 percent of Wall Street’s largest brokerage, wants to buy an additional 14 percent of the company and therefore benefits if consultants valued the company lower. The financial service company has argued that the brokerage firm deserves a lower valuation because the value of the brokerage business as a whole has suffered due to the weak economy.

For Morgan Stanley CEO James Gorman, a lot is at stake. It was a tough year overall for Morgan Stanley as the company faced difficulties generating profit margins.

However for Citigroup, the sale would be just one step closer to separation from the division that was a part of Citi Global Wealth Management before its creation in 2009. Citi CEO Vikram Pandit has worked hard recently to sell Citi’s non-core assets, such as Smith Barney, in an effort to streamline the bank. But Pandit is not in such a big hurry that he would sell his stake at discount.

The dispute in pricing between the two firms underscores the difficulties both parties had integrating themselves in the first place. Integration brought difficulties to the functioning of Smith Barney, which encompassed both low profit margins and the mass departure  of its brokers. The firm lost six percent of its brokers in the second quarter of this year, including 55 veterans who managed more than $8.6 billion in assets, a figure that complicated the valuation of the company.

Last week, CLSA analyst Mike Mayo upgraded the firm from outperform to a buy, and said that he is “convinced that either management realizes more of the franchise value or investors will increasingly pressure management for improved results.”

Now that the value of Smith Barney has been determined, the task that lays before Gorman is making the 17,000 strong brokerage business work.

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