Read Confessions of a Wall Street Analyst Online
Authors: Dan Reingold
Frank’s conference, which he had successfully moved from Morgan Stanley to Deutsche Bank and then to CSFB, was the most exclusive of all investor get-togethers, an absolutely sizzling ticket. In November of that
year, Robin Williams would show up and perform for free—just because he was an investor in one of Frank’s client’s funds and wanted to get in the door! Wow, I thought. I could throw one hell of a party with $2 million.
Finally, Allen Wheat, CSFB’s CEO, came in. Allen seemed to be a lot of fun, a motorcycle-riding New Mexico native who was extremely approachable and seemed sophisticated. He was very different from the street-smart David Komansky. He gave me the standard talk about how important telecom was and then mentioned how he liked to hire the best and let them do their job without interference. Now that was music to my ears. At first, I thought he meant he didn’t allow anyone to interfere with research analysts’ opinions. But it turned out he wasn’t talking about research. He was talking about giving his bankers and traders the freedom to make money any way they wanted to, as he did with Frank Quattrone and others.
While I was trying to figure out what to do, I was surprised, and I guess a little bit flattered, to receive a call from Frank. I hadn’t spoken to him since we were both at Morgan Stanley, but certainly life had changed for both of us, particularly him. Frank had become arguably the most influential banker in the entire world by now, the Jack Grubman of banking. Frank had more money and more power than just about any employee of an investment bank, and as a result, people were awed by him.
None of that came up on the call, however. Frank made nice, acknowledging our common heritage at Morgan Stanley and telling me how much progress CSFB had made in the previous few years. He said that the technology group was anxious to work closely with the telecom group. It was a natural fit, he said, because the big telcos were such huge users of technology and telecom equipment. The tech companies he handled, such as Lucent, Cisco, and numerous Web startups, would love to have better information flow about the telecom service companies and certainly would want their investment banker to be able to make introductions. On my end, I figured that I could gain from this cross-fertilization as well, by its making me better prepared to predict how new technologies, particularly the Internet, would impact my companies going forward.
He sounded incredibly open and friendly, and I had never had any sort of run-ins with him in the past. But I couldn’t help but wonder whether he might somehow try to influence my research. This worried me a lot. I remembered that
Wall Street Journal
piece back in 1992, when both of us were at Morgan Stanley, describing his attempts to influence a research analyst’s opinion. I found it hard to imagine he’d be more hands-off now.
While I was mulling this over, a FedEx package arrived at my home. Inside was the draft contract Al had promised at our last breakfast. Instead of a fixed salary and bonus, CSFB was offering me a piece of the action: 2.5 percent of any telecom fees earned by CSFB above $150 million per year. As long as a telecom company anywhere in the world paid CSFB a fee after that point, I would collect my piece. I didn’t even have to cover the company myself: if CSFB underwrote a bond offering for Korea Telecom, advised France Telecom on an acquisition, or managed the IPO of an Internet service provider, I would personally reap 2.5 percent of the fees earned.
Given the current rate of IPOs and deals that the bank was bringing in, this had the potential to be one amazingly lucrative offer. A doubling of CSFB’s telecom investment banking business to $300 million in the next year, for example, which was entirely possible, would mean an extra $3.75 million in my pocket. There were also payments for an
I.I.
ranking of number one, two, or three and additional incentives if CSFB ranked in the top five spots in three different league tables: telecom M&A, telecom stock underwriting, and telecom junk-bond underwriting. At our last breakfast, I had suggested some sort of bonus tied to the performance of my stock recommendations. Oddly, that was the one incentive that didn’t show up in this letter. Clearly the big money was coming from the banking.
No one was home when I opened the letter, but I somehow felt guilty. I half expected someone to jump out from a closet and start wagging his finger at me. If there ever was a way to codify a conflict of interest, this letter sure was it. I wondered if I should even bother dancing with these guys. Was Merrill’s subtle disappointment with me going to look like paradise in retrospect if these guys at CSFB were so focused on paying me like a banker? On the other hand, the financial upside might be dramatic. Was this the temptation that would send me to the other side?
I wanted to see Paula’s unbiased reaction to these enormous numbers. Careful to keep a straight face, I gave her the offer letter. After reading the relevant paragraphs, it took her about five seconds to make up her mind. “This looks like a huge conflict of interest. No way you can take it,” she said, as clear-minded and matter-of-fact as always.
Brady, Al, and I met again on November 5, this time at the Mark hotel, where I had met with John Mack back when he was trying to lure me back to Morgan Stanley. I couldn’t help but look furtively around for him or anyone else who might recognize me. I told them my lawyer (always blame the lawyer) had advised me to request that four items be added to the contract.
The first was that I wanted my team and me to report to Al. I did not want to report to Frank Quattrone. I was sure that having a banker as a boss would create more pressure than ever to be bullish on the stocks I covered. Brady said “fine.” Al smiled. He was clearly relieved that telecom stocks would remain under his watch. Upon Frank’s arrival a year earlier, the analysts covering technology stocks had moved under his direct control. Whatever faint line still existed between those analysts and the bankers seemed to have disappeared into the sand. I had no intention of that happening to me.
The second item related to my team. I wanted to bring over six of them at roughly the same percentage pay increase as I was getting. Al said no problem. He was impressed that I had been able to assemble and keep such a highly qualified team. He said he could give each a two-year contract, but I wanted four years to match mine. Brady said they had never gone past three years and wouldn’t do it now. They had finally said no to something. I protested, but in the end, we compromised. All six received three-year guarantees.
The third item was more of a stretch. I requested a guaranteed minimum budget for my staff in terms of both headcount and aggregate compensation. This was extremely important because it would enable me to protect my team even if hard times hit CSFB. Brady had no problem with the concept.
The final item I held for last because it was the most important and I didn’t want to bring it up until everyone thought the deal was done. It was that incentivized bonus scheme. “I’m good to go on virtually everything,” I started. “Except my wife and I had a long talk. She’s just not comfortable with the banking incentives and I agree. So I’d like to go back to the fixed deal, but, given how the incentives have gone up, can we increase the annual fixed amounts by 25 percent to equalize the two offers?”
I expected some kind of reaction, at least surprise that I would reject something that could make me so much dough. I was rejecting a contract that would have paid me as much as 40 percent more than the fixed contract would over the four years. But the CSFB guys were true pragmatists. They didn’t care what I did as long as I decided to come with them. Fine, they said. What ever works for you is fine. And the 25 percent? That’s fine too. I’d learned a few negotiating tricks along the way, I guess.
At the end, I had what amounted to a doubling of my pay package from Merrill and roughly the same for the members of my team. It was truly crazy. My contract had no upside opportunity for banking, for making number one
on
I.I.,
or even for picking stocks well. Likewise there was no downside risk even if the bankers—or their corporate clients—were not happy with my investment opinions. Even if my
I.I.
ranking fell or if I fell off the list entirely, I would still be guaranteed the same amount.
Yet there was no way I was going to start slacking off. I wanted to go out on top and beat the Grubster, as my team members liked to call him. It was going to take a lot of work, since he ruled the roost in virtually every constituency, from executives to buy-siders, from journalists to bankers. I figured the world would have to wise up at some point.
I was 90 percent sure I was going to move, but the decision wasn’t final. I still had to find out how Merrill would react. So on the night of November 16, after my lawyer had signed off on the final contract changes, I left Andy Melnick a voice mail saying I needed to speak with him as soon as possible the next morning, which was a Wednesday. By the tone of the call, I knew he would know what I was calling about.
At this point in the bull market, research directors like Andy were fielding these gun-to-the-head stickups about every week or so. Did they want to keep this analyst? Was it worth doubling his or her comp to do so? The amount of money being spent on salary, bonus, stock options, and the like was simply staggering. The only thing more staggering was the amount of money coming in from the bankers’ deals.
In 1999, for example, Merrill would earn $2.6 billion in profits, up a mind-boggling 69 percent from the year before. Its revenues from investment banking alone were $3.6 billion, while Goldman Sachs’s banking revenues were $4.4 billion and Morgan Stanley’s $4.5 billion. Credit Suisse First Boston, fueled by Frank Quattrone’s technology IPOs, brought in $1.9 billion in fees. It was truly raining money.
That evening, after leaving Andy that voice mail, I couldn’t help thinking how nice it would be to get away from Merrill’s massive retail system and to get back to a firm that serves professional investors only. For the past six and a half years, I had avoided direct contact whenever possible with Merrill’s brokers and their clients, mostly out of necessity. Dealing with retail, or the brokers who interact with individual investors, takes far too much time, dis
tracts you from doing research, and siphons off time that otherwise might be used to serve institutional clients and win
I.I.
votes.
I had come to realize that dealing with retail was a loser’s game. If brokers bought a stock and it went up nicely, we never heard from them. If it went down, on the other hand, we got nasty voice mails and e-mails screaming about our bad picks. But the main problem with retail, which wasn’t specific to Merrill but was true of every brokerage firm with a large focus on individual investors, was that it dumbed down everything we did. Merrill’s retail system, for example, had the ability to convert a report of 20 to 40 pages into a paragraph or two of Madison Avenue–style slogans, combined with some words about my “top” ranking as an analyst. The brokers would then push this simplified information through to their clients.
The other problem was that some brokers paid no attention to the risk level we assigned our stocks or to the need to diversify risk. They didn’t look at our picks in connection with Merrill’s investment strategists, whose job it was to recommend to investors whether they should be overweighted or underweighted in the sector, or whether investors should hold a certain percentage of their portfolio in stocks versus bonds versus cash. Caveats, alternative scenarios, and other details that my institutional clients read and took the time to understand never made it to the regular folks.
The brokers were enormously varied in their experience and smarts, and the most sophisticated ones ended up, unsurprisingly, with the individual clients with the highest net worth. Taxi drivers and teachers with a relatively small amount of savings were more likely to get the youngest, least experienced new residents of broker-land. And those brokers were the ones who seemed to blindly follow analyst picks most often.
So the idea of returning to a bank that served only institutional investors was really very appealing, especially when combined with the pressures I was feeling. I had had nearly seven good years at Merrill, but I was a realist: I was clearly wearing out my welcome with the bankers there, and a move to CSFB would give me a fresh start that I hoped would carry me through the three and a half more years I wanted to stay in the business. I was sad that my time at Merrill Lynch had to end this way, but I was mostly relieved that CSFB’s door had opened at exactly the right time.
The next morning, Andy’s secretary asked me to come down to his office. Rosemary Berkery, who ran the research department with Andy, was there too. “Look,” I said, “I have been very happy here, and I appreciate
everything you two have done for me. But I have this offer from CSFB and I feel obligated to give you a heads-up.” Andy asked what it was, and I ticked off the numbers for each of the four years.
Both of them looked startled, giving each other quick glances, but neither of them asked me what was wrong or what they could do to make things better here, as usually happens. Instead, they said they’d have to get back to me. That part was typical, since they needed approval from David Komansky, the CEO, to match an offer of this sort. As I exited Andy’s office, I couldn’t help wondering whether Andy and Rosemary were high-fiving each other as the door closed behind me.
The next morning, they called me in at around 9:30 and got right down to business. Rosemary led the discussion. “We think you’re doing a great job,” she said, “and we’ve made a commitment to you and we thought you had made a commitment to us.” Translation: We’re not matching. “I appreciate that,” I said. “You guys have been very good to me. I know these numbers are crazy. Let me think it over and I’ll get back to you later today.” Translation: I’m outta here.
I have to admit I was surprised and a bit disappointed, more for my ego than for anything. Another side of me—the side that was a shareholder in this company—actually felt a little relieved. I guess there are limits to this game of chicken, I thought. It was over. So I went back to my office, called Al Jackson, and told him we had a deal. This meant that he could immediately start calling my team, as I wasn’t allowed under my Merrill contract to solicit them myself. Ehud Gelblum, a 30-year-old PhD in engineering who’d been working with me for just a year and half, was the most aggressive one of the bunch, and he knocked on my door. He knew something was up, having heard the buzz that traveled at lightning speed the second someone went into Andy’s office. “Don’t worry,” I said. “It’s good. Just hang in there.”