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Throw together three
technology venture capital firms, three of the largest on-line
brokers in the US and a senior investment banker from Merrill Lynch
and what do you get? It's what some market observers consider to be
the entrant to on-line investment banking that's most likely to
succeed, even if it doesn't yet have a name.
Charles Schwab's chief executive, David Pottruck, is the
brains behind the operation. Back in June he and his chief
strategist, Daniel Leemon, started ringing around to see how much
interest there was in setting up yet another investment bank.
It's true the world is awash with such newcomers but several
of the firms they contacted saw an opening. Into the consortium
came two other on-line brokers: TD Waterhouse (owned by Toronto
Dominion Bank) and Ameritrade. They were joined by three venture
capital firms: Kleiner Perkins Caufield & Byers, Trident
Capital and Benchmark Capital. The man running the new bank is
Scott Ryles, who until last October was a managing director and
co-head of technology investment banking for Merrill Lynch.
The three venture capital firms add the real spice to this
offering. They have invested in some of the most successful
technology and dot.com companies, such as Sun Microsystems, Intuit,
amazon.com, MapQuest.com, Pegasus systems, eBay and many others.
They know the management, they know the strategies, and above all
they are intimately involved in the exit strategy, which is so
often an IPO.
On the other side are the on-line brokers, who have access to
a large and dynamic investor base. The figures they put out state
that combined the three have over half of the on-line accounts. And
each side of this set-up has a gripe with the investment banks now
that technology is opening up the marketplace. The venture capital
firms want a greater say in, and share of, IPOs. If technology
allows them, in certain cases, to bypass the investment banks and
take a larger slice of the pie, then so be it. As for the brokers,
they are aggrieved at the lack of flow they get at the IPO stage.
When it comes to technology stocks, the retail investor is the
ultimate owner, says Scott Ryles, CEO of the as yet unnamed new
bank. Within days of such an IPO the customers of Schwab, TD
Waterhouse and Ameritrade combined own more stock in those
companies than any single or combined institutional investor. Yet
they get a paltry share of the IPO itself.
Those figures are open to dispute, of course. But the bottom
line is that retail is poorly served at the IPO stage, with all the
benefits going to the institutions with the mighty investment banks
behind them. It's easy to see why the retail lock-out has been
perpetuated. Communication with a potentially large group of
investors was hard, time-consuming and costly. Concentrating on the
big institutions was easier. But the internet is changing all that.
Securities & Exchange Commission chairman Arthur Levitt
partly addressed these concerns in a speech on information and the
equity markets presented to the Economic Club of New York in
October. Levitt appealed to companies, in the spirit of fair play:
make your quarterly conference calls open to everyone, post them on
the internet, invite the press.
There is another issue here: debunking the myth that retail
investors are flippers: they buy to sell as quickly as possible to
make a fast buck. Day traders have helped to perpetuate this
notion, where in reality what they do is what the proprietary desks
of most institutional players have always done - whatever they can
to rake in the cash. The protagonists in this new venture argue
that institutions buy up to 95% of an IPO but that within two or
three weeks usually no more than 25% still in their hands.
The conclusion? At best, institutions are making money out of
their exalted position and the desire and new-found ability of
retail players to dominate the secondary market. At worst,
traditional investment banks and asset managers are actively
deceiving companies about the ultimate destination of their stock
in an attempt to maintain their influence, their research,
origination and sales infrastructures, and their inflated share of
the market.
In the year 2000, the biggest issue facing the world's
leading wholesale financial services firms is how far and how
quickly the old order will be replaced by such new investment
banking start-ups. Today's leaders in investment banking will
hardly give up without a fight. Aside from their vast resources
across the board, they have a brand. No matter how wedded a
technology company CEO is to the internet, how many would not love
to see names such as Goldman Sachs, Morgan Stanley, CSFB, Merrill,
JP Morgan, Salomon or others to grace their term sheet? And these
firms can offer more than just IPOs - the ability to offer all
types of financing was the rationale behind most major mergers and
acquisitions by banks and investment banks in the 1990s.
Yet investment bankers at the traditional firms, many of whom
airily dismiss the prospects for new internet-based investment
banks, would do well to study this new model more closely.
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