The end of Wall Street as we know it?

The end of Wall Street as we know it?
May 4th 2004
From The Economist Global Agenda
Source

Frank Quattrone, one of the most prominent bankers during the dotcom boom, has been found guilty of obstructing justice and witness-tampering during an investigation into public share offerings. His conviction comes a few days after Google said it would float its shares using an auction process designed to minimise the power of investment banks. Is it curtains for the Wall Street cartel?

THE timing was remarkable. On Monday May 3rd, a New York court found Frank Quattrone, a star investment banker in the dotcom era, guilty on two counts of obstructing justice and one charge of witness-tampering, in a case that centred on share allocations in initial public offerings (IPOs). Mr Quattrone, formerly of Credit Suisse First Boston (CSFB), plans to appeal but, if unsuccessful, is likely to spend up to two years in jail. The verdict came just days after Google, the dominant internet search engine, said it would sell around $2.7 billion of shares in an auction process designed largely to cut out the role of the investment bankers, and to give small investors as much of a chance to buy the shares as large institutions. Google’s quirky IPO reflects a mood of resentment at the power wielded by investment bankers, though whether it will diminish Wall Street’s influence in the long term remains to be seen.

In his heyday, Mr Quattrone was arguably the most powerful investment banker in the dotcom world, shepherding both Amazon.com and Netscape to market. However, the role of investment banks in flotations later came under scrutiny. If banks were being paid fat fees—of up to 7% of the funds raised—to bring their clients to market, then why were the share prices shooting up, sometimes by several hundred percent, on the first day, leaving “on the table” millions of dollars that might otherwise have gone to the issuing company’s coffers?

The answer, regulators believed, lay in a practice known as “spinning”. This involved investment banks reserving shares in popular IPOs for favoured clients, their friends and families in return for more business. CSFB was one of the banks investigated; two years ago, it paid $100m to settle charges without any admission of liability.

Prosecutors initially suspected the bank of having received kickbacks—in the form of high commissions from hedge-fund clients—in return for such allocations. However, such charges were never brought. In the end, Mr Quattrone was charged with an attempted cover-up rather than any underlying offence. His conviction was a surprise, partly because it came six months after his first trial was declared a mistrial because the jury could not reach a verdict, and partly because it hinged on just one e-mail, in which Mr Quattrone ordered staff to “clean up” their files. Against expectations, the prosecution managed to persuade the jurors in the second trial that this missive was an attempt to cover up involvement in the controversial IPO allocation processs.

Investigators may have scored a victory beyond Mr Quattrone’s conviction: some analysts are predicting that the decision by Google to sell its shares in a kind of Dutch auction could shake the investment-banking cartel and loosen Wall Street’s stranglehold on company fundraising. Certainly, Google seems to hope so. Its prospectus makes clear that it wants its shares to be available to “all segments of the investing public”. This, after all, is a company whose mantras are “Don’t be evil” and “Making the world a better place”.

But, however appealing Google’s vision, it is far from certain that its IPO marks the end of Wall Street as we know it. Other companies will shun the public-auction route if Google’s flotation is a mess. Even if it is a roaring success, it is unlikely to be a model for companies in less wacky sectors. And, by retaining control of Google through a two-class share structure, Messrs Brin and Page are hardly ceding power to the little guy.

Moreover, much as Google would have liked to dispense with Wall Street entirely and sell its shares directly to the public, for example through eBay, that has turned out to be a step too far. The company has enlisted the help of none other than CSFB, Mr Quattrone’s old firm, and Morgan Stanley to help it flog the shares. And, at an estimated 4% of the equity sold, their fees are hardly slender.



Copyright © 2004 The Economist Newspaper and The Economist Group. All rights reserved.