Japan Merger Creates World's Largest Bank

"We have been aiming to become one of global 10, meaning one of the world's top ten banks," Mitsubishi Tokyo president Nobuo Kuroyanagi said at the news conference. We believe this merger will help us further boost our profitability, and help us achieve our goal.

Mitsubishi Tokyo has long resisted pressure from the government to take on a weaker partner. Bank officials portrayed the deal as a good strategic fit. Mitsubishi Tokyo has a strong stock of corporate clients and substantial international presence but relatively weak retail operations within Japan. Its new partner, UFJ, brings a widespread presence in the world of small- and medium-size Japanese businesses.

As for UFJ, which is essentially being taken over, the deal amounts to a rescue.

"UFJ was facing an emergency situation, but now has found a way to survive," said Yukiko Ohara, banking analyst at Credit Suisse First Boston in Tokyo. The bank had been left with a choice of either being bought or accepting a publicly funded bailout, she said. A bailout almost surely would have entailed government requirements to lay off managers and cut lending to favored customers.

Now that the future of UFJ has seemingly been determined, investors are shifting attention to the fate of its biggest borrowers -- not least the ailing retail chain Daiei, whose flirtations with bankruptcy have become something of a bellwether for the health of corporate Japan and the governments resolve in allowing failed companies to die.

Analysts said Mitsubishi Tokyo may demand that UFJ quickly minimize its exposure to Daiei, perhaps by shedding some of the loans and handing them off to the Industrial Revitalization Corporation, a state-funded institution charged with reviving ailing firms.

Despite Mitsubishi Tokyo's relative financial health, the merged entity will face skepticism about its combined balance sheet. As news of the merger spread, the credit rating agency Standard & Poors put three banks that are part of the Mitsubishi Tokyo conglomerate on a watch list for a possible downgrade, citing a higher level of bad loans once it assumes UFJ's liabilities.

One of the biggest questions remaining is whether the deal could be derailed by legal action. On Wednesday, as talk of the merger dominated Tokyo financial circles, Sumitomo Trust threatened to sue UFJ for damages stemming from an abandoned transaction previously agreed to by the two companies.

In May, UFJ, desperately in need of cash to shore up its balance sheet, announced that it would sell one of its banking arms to Sumitomo Trust for about $2.7 billion. But as its merger talks heated up with Mitsubishi Tokyo this week, UFJ swiftly announced that it would not go through with that deal, preferring to keep itself whole.

Goodman reported from Shanghai.