The New Investment Banking vs. The Old

Yesterday, The Wall Street Journal had a review of "The Accidental Investment Banker," by Jonathan Knee. I have not read the book, nor do I plan to. This post is based upon the Journal's review, written by Dennis Berman, a reporter for the paper.

I have to say, in my opinion, the joke is on the author. He may suddenly have grasped the crass avarice of investment banking, but I think most of the rest of us in business, over the age of, say, 45, have always known this about investment bankers.

There are two themes to the review. One is about the author's route into the business. The other is the author's apparent embrace of the "old style" of investment banking. This, one suspects, is suppose to have been sometime in the pre-history of time, or at least the youngish author's experience- perhaps the 1970s?

On the first point, let me just say that it confirms something I've long suspected. There's very little actual unique value or talent resident in investment bankers, in general. Much of their eventual value is, like many bond traders, the result of proximity to deal flow and information, rather than their own latent talent, per se. Knee apparently joined Goldman because a friend "recruited" him after he finished some work for UAL. Some recommendation, that, eh? You finish helping gum up a major, failing airline, so you are now Goldman material.

This brings me to the second theme. The trend toward "short term greedy" investment banking started because Knee's employers got greedy themselves, and took their firms public. If they hadn't, the old ways of "long-term greedy" would have continued. But the sector had to provide for the growth it wanted, and partnerships become unwieldy and cumbersome to manage. Basically, investment banks and large consultancies used to function similarly. A few partners got rich billing out Ivy-graduated kids at inflated prices, paying them much less, and pocketing the difference. Witness Lehman's dissolution decades ago over the fight between Glucksman's traders and Petersen's bankers.

As capital and capital markets activity began to mushroom unexpectedly in the early 1980s, investment banks scaled up massively to take advantage of the deal/money flow, and not be left behind as market share midgets. Not only did old wire houses end up as public entities, but so did firms like Salomon Brothers. As this type of growth accelerated, senior partners took their one-time windfall and went public, culminating with Goldman some years ago. In the consulting world, the same thing happened with the old "Big 8." Andersen Consulting eventually became the publicly-held Accenture.

Since public companies can't really have private partners, that model went out the window. And with it, the ability of the firms to internally manage through soft periods with their own plentiful capital. So, welcome to the world of management by objectives, or, as the author phrases it, "short-term greedy."

So it seems that the sector chose to change the way it did business all on its own. Mostly, as is typical with human nature, due to profit motives of the guys at the top who stood to reap fortunes for the one-time conversions from private partnerships to public entities.

But is this necessarily a bad thing? What if, instead of accepting Knee's contention that the old ways were better, we reverse his hypothesis? What if today's mores are, in fact, better? Why could this be so?

Perhaps it is actually better now because everybody has greater liquidity at lower prices. If you, as a private business owner, wish to be "long term greedy," so be it. Hold on for longer, don't sell out. If you are the manager of a privately-held business, don't you still have to earn comparative returns on equity, at comparative growth rates, to merit continuing to run the firm, rather than your owner selling it with the help of a "short-term greedy" investment banker?

If you are the CEO of a public company, it's the same, only simpler. If your total returns aren't up to par, why should anyone give you years to 'turn things around?' Why not allow someone else to pay for the right to do what you can't? If shareholders want to give you more time, fine. If, however, sufficient numbers wish to cash out, why not, again, allow a "short-term greedy" banker to facilitate the transaction?

So, maybe this is all to the good. Everybody is aware of how mercenary, merciless, and amoral, investment bankers are. If they can convince sufficient numbers of shareholders to sell, or buy, a company, or a private owner to succumb to outside offers, who's to say that is wrong?

Maybe "long-term greedy" is, in reality, now a succession of intelligent "short-term greedy" bets? In today's Schumpeterian world of fast-paced technological change, can anyone expect a single sector of company to remain steady and unaffected in its ability to add value anymore? It's doubtful.

Perhaps investment banking's changes, along with those of the parallel universe of private equity, have evolved in such a way as to facilitate faster, more accurate value recognition in our modern financial and technological world.

Market forces are now more easily able to influence decisions such as type of ownership. Chances are, it's a good thing, not a bad thing.