Towards professional excellence
Baron David’s survival strategy
Rothschild, one of the UK’s most traditional banks, is in the mood for change. Having survived war, depression and bitter family struggles, this ancient empire faces new challenges to its might those of global markets and financial volatility.
Prompted by customer demands and the Baring crash, Rothschild is taking a long hard look at itself. And what it sees is a bank crying out for reform a sprawling collection of companies without logical structure; businesses duplicated around the world in a way that defies modern management; and a name that still opens doors at the highest levels but lacks the mystique it used to have. These days counterparties want financial disclosure as well as a name.
But there are positive elements one is a culture that, in some parts of the bank, allows employees to indulge their fantasies. In contrast to big investment banks where creativity can be killed by the rulebook, enterprise is alive and kicking at Rothschild. This has enabled the bank to emerge as a world leader in privatization advisory and to pioneer gold and other precious metals derivatives, such as gold forward rate agreements.
“The challenge is to restructure while preserving the collegiate style of the group that allows individuals to display their talents. There is no such thing as a Rothschild clone,” says Nigel Higgins, a Rothschild director closely involved with the reorganization. The plan is to manage the various businesses asset management, investment banking, treasury and resource banking on a worldwide basis and to adopt a more open policy.
For many years Sir Evelyn de Rothschild, the steadfast patriarch who has presided over the English firm for two decades, resisted such changes. As chairman of Rothschilds Continuation Holdings (RCH), the Swiss holding company at the centre of the maze, he vigorously defended the group’s federal structure. He denounced advocates of change in London-based NM Rothschild & Sons (NMR) as Little Englanders with ambitions beyond their station. Now even Sir Evelyn has been converted to global strategy and to some degree of transparency. A major initiative was taken in October when the capital resources of RCH some £800 million ($1.33 billion) were disclosed to the media for the first time.
Yet many observers doubt that the reforms. are sufficiently far-reaching for Rothschild to remain independent, when the trend is for British merchant banks to be absorbed into global firms. This has been the outcome for Baring, SG Warburg, Kleinwort Benson and Morgan Grenfell. “Rothschild is not an integrated house, which I am sure is the future, and it’s difficult to believe that these changes will bring it about. The family-business era has gone,” says a former Rothschild executive.
What then is the solution? If a management consultant were to advise the bank on strategy, he would probably recommend the following: bring in a visionary chief executive and give him free scope to reorganize; get outside investment from a major player; take Rothschild public.
Supporters of the Rothschild method say these measures would destroy the essence of the firm and would be unacceptable to family shareholders, employees and customers. Sir Evelyn regards Rothschild as a heritage as much as a business. Various branches of the family there are English, French and Swiss Rothschilds own stakes at different junctures in the group’s network.
“We are not merging the ownership of the businesses. We are improving the management structure of what is separately owned,” says Keith Palmer, one of four NMR managing directors. “To harmonize ownership would be difficult because London [NMR] is very large and France [Rothschild & Cie Banque] much smaller. It would amount to a takeover.”
The personal touch
Rothschild’s great advantage is that it attracts first-class practitioners who take below-market salaries for the thrill and freedom of working there. Customers also value the bank’s independence, the more so as it becomes a rare quality. The advice they are given is not driven by ulterior motives and they talk directly to the practitioners rather than to a sales team. In corporate finance work, Rothschild will typically field three senior directors who stay on the deal from start to finish; by contrast, a large US investment bank will have a team of between 10 and 20 with personnel changing all the time.
But Rothschild’s culture does have a darker side. Some argue that the free-wheeling description only applies to businesses that Sir Evelyn has a good feeling about and where a senior executive enjoys his confidence. Examples would be investment banking under Sir Michael Richardson in the late 1980s and treasury under John Bishop. There was also John Redwood (who left Rothschild to go into politics), and Oliver Letwin, who now runs telecoms with Higgins they created the international privatization business purely on a hunch that it could work. “We had no contacts and no idea how to go about it,” recalls Letwin.
Asset management is a different story. Former employees say it suffered because it was under-resourced and ill-regarded. “Sir Evelyn viewed it as the basement of the group, a clerical function without glamour,” says a former executive. “At the meetings he chaired the effect was like a neutron bomb. The buildings remained intact but the people were destroyed. It took months to rebuild morale.”
The dominating influence of personalities is the negative aspect of a family firm. Sir Evelyn dislikes continual references to personalities in articles about the firm. He reckons family firms are no more authoritarian than public ones someone has to take decisions.
The problem is that even in the new-style Rothschild information is difficult to come by. Questions about income breakdowns and fee splits are avoided. Critical decisions about the new structure have yet to be taken; some of the proposals are unclear and seem not to have been fully thought through. Senior executives give opposing accounts of the reforms which are due to take effect over the next financial year beginning in April.
An example is the setting up of a new company, NM Rothschild Corporate Finance, which will consist of London corporate finance activities formerly coming under NMR. As a streamlining exercise this is fine but, since Corporate Finance will need NMR’S balance sheet for underwriting, why was a new company necessary rather than a division? No decision has been taken on whether the new company will publish separate accounts from NMR and executives differ on whether it will be a subsidiary of NMR or of UK holding company Rothschilds Continuation Limited.
According to some executives, a central part of the reforms is the management of the cross-border corporate finance activities of the English and French houses through holding company Rothschild Europe, which covers operations in Italy, Germany, Spain and Portugal. One senior Rothschild director says that RCH’s 50% shareholding in Rothschild Europe will be transferred to NM Rothschild Corporate Finance to bring closer links between the parts of the business dealing with corporate finance. Another executive angrily dismisses this idea as rubbish.
A linchpin of the reforms, on which everyone agrees, is a new group investment banking committee to coordinate worldwide operations in this sector. But it’s hard to see how the committee can shape a new era in Rothschild when it will meet only three times a year.
The reforms do nothing to address a continuing difficulty at Rothschild: the absence of an independent management buffer between family members, with their wider responsibilities, and the practitioners. The joint chief executives of NM Rothschild Corporate Finance, for example, will be Tony Alt and Keith Palmer. Alt is considered one of the finest dealmakers in the City and has built up Rothschild’s telecoms business. But his strength is in making the deals, not having the broad vision of a manager. Palmer is similarly regarded in the natural resources and utilities sectors. Deputy chairman will be Russel Edey, the present head of corporate finance, who joined the firm in 1977. Edey was in poor health but says he is now fighting fit. The chairman will be Baron David de Rothschild, a member of the French family.
Baron David is a very capable banker who built from scratch Paris-based Rothschild & Cie Banque, of which he is chairman and senior partner. A charming man with a reputation for listening, Baron David must surely find himself overwhelmed by all his duties. He will also be chairman of the group investment banking committee; he is chairman of Rothschild Europe; on top of this he is deputy chairman of NMR and looked upon as Sir Evelyn’s successor. But he spends only two days a fortnight in London.
The set-up seems to cry out for the involvement of a pure manager. Baron David says he doesn’t believe in the idea of one brilliant star with a singular view of the way forward. He thinks consensus can be found among the professionals. But when there are disputes and Rothschild is famous for arguments over fee splits the final decision inevitably falls to a Rothschild. That’s why it’s impossible to analyze the group without discussing personalities and the succession issue.
The tragic suicide of Amschel Rothschild in Paris last July has focused attention once again on succession. Amschel was the half-brother of Jacob Rothschild, who fell out with his cousin Evelyn in the late 1970s, a dispute that led to Jacob leaving NMR. That argument took one family member out of the loop. Amschel’s death has claimed another.
Amschel was described as a sensitive and intelligent man, who loved motor racing and classical music, but did not feel at home in banking. He ran asset management, putting him on the fringes of the firm. All the same, aged only 41, he could have been expected to play an important role in managing the English firm. Sir Evelyn is 65, and although fit and healthy he must retire at some point. Baron David is 54 and the likely successor, although even with the closer relationship being forged between the English and French houses it’s difficult to see how he could perform the role without moving to London.
And the next generation?
Then there is a gap. Sir Evelyn’s sons are still teenagers and it is too soon to know if they will embrace banking. Whatever the merit of the current reforms, the issue of having a non-Rothschild at the helm does not seem to have been addressed perhaps because the last time it was tried, it went wrong.
In 1988 Fred Vinton, a former JP Morgan banker, was brought in as chief operating officer of NMR with a remit to modernize the business. During his short tenure, Vinton succeeded in getting the bank to look at how it allocated capital among businesses and to handle risk better. He pushed the privatization business towards advising companies rather than governments which established the contacts that led to such work as M&A.
Part of Vinton’s vision was never realized. He wanted to establish a global strategy for Rothschild, such as is being attempted now, and he wanted to tie remuneration to profits, a tricky issue in a family-held company. But his straight-talking American approach led him into conflict with Sir Evelyn who tends to talk around issues. He was never granted the essential power of a chief executive to hire and fire. Managers whom he brushed with went behind his back to Sir Evelyn.
The flipside of Sir Evelyn’s resistance to change, such as the need for a global strategy, is that he doesn’t rush into fashionable or risky ventures. In the madness that followed Big Bang in 1986, many banks went out and bought brokers only to run into huge management problems. Rothschild was more prudent, taking only a 25% stake in UK brokerage Smith New Court.
But there was no love lost between the firms. Smith was a classic secondary-market operation where trading opportunities would be seized upon and research rushed out to back up sales. This went against the grain at Rothschild where relationships with corporate clients were too precious to be risked with an off-the-cuff note from a Smith analyst.
The biggest conflict of all between the firms came over fees. On a typical IPO, NMR would do the origination and the structuring, SNC the research and distribution and the fee would be split evenly. According to Rothschild staff members, Smith felt it should get more. In 1993, when the brokerage’s pre-tax profits hit £95.2 million and overtook NMR’s, Smith executives could hardly contain their glee.
When SNC’s Michael Marks began looking for a purchaser for the firm, Sir Evelyn was known to be irritated that he wasn’t consulted. But when Marks turned up at Rothschild’s offices to announce the Merrill Lynch deal, he was received with cool politeness rather than anger. Sir Evelyn has his reservations about the securities business anyway and may have felt that Rothschild’s exposure through the 25% stake was too high.
Given the opportunity, he was pleased to let go all the more so since by this time Baring had crashed. Inside and outside observers of Rothschild are unanimous in believing that the fall of Baring has been a major influence on strategy. “Sir Evelyn was very upset about Barings because the families know each other. He was absolutely horrified,” says Edey. Adds a former Rothschild executive: “What changed Rothschild was the collapse of Barings. The structures of the firm were very similar, highly decentralized with activities being carried out around the globe.”
Although Rothschild is not engaged in the same businesses as Baring, it does take large positions in the bullion markets and like other merchant banks was subject to a customer backlash after the Baring crisis. Funding became more difficult, as it did for all UK merchant banks. Deposits were not automatically rolled over, clients began asking more questions and the treasury business suffered.
Disclosure at Rothschild has also been driven by the regulators. European Union banking rules have forced NMR to reveal more information. At one stage the only information freely available was the dividend paid by NMR to RCH, although more details could be obtained from UK company filings at Companies House. But EU rules do not apply to RCH, which is a Swiss company set up in the early 1980s as a defensive move against the perceived threat of nationalization in the UK.
The decision to release the RCH accounts to the media was because journalists kept publishing NMR accounts as a substitute for the group’s. NMR accounts show equity shareholders’ funds of £243 million ($399 million) for the year ended March 31 1996, whereas RCH’s shareholders’ equity is Sfr979 million ($750 million). If subordinated loans of Sfr519 million are included (these are perpetual and regarded as Tier 1 capital), as well as minority interests of Sfr150 million and dividends paid of Sfr14 million, the capital accumulated is Sfr1,663 million ($1,273 million). Using shareholders’ equity only, Rothschild ranks about 22 in a list of UK banks, not far behind Hambros. Rothschild prefers to compare itself to Schroders, which ranks 16 in Euromoney’s bank atlas with shareholders’ equity in 1995 of $1,338 million, close to Rothschild’s capital accumulated figure.
“We are adopting a more open policy with the media because otherwise we suffer through misleading comparisons,” says former Freshfields lawyer Tony Chapman, who acts as Sir Evelyn’s chief adviser but has no formal title.
But it is still a struggle to obtain precise figures even in the new-era Rothschild. At heart, the philosophy remains that of the closed family firm. The approach to divulgence is more “why should I tell you?” rather than the enlightened response of “you have a right to know”. Two examples are breakdown of income by type of business and the formula used for fee splits, issues on which Sir Evelyn and Baron David declined to give precise answers (see interview).
But informed estimates of the breakdown of NMR’s investment banking income are revealing privatization, considered by outsiders as the mainstay, probably accounts for only 20% of the total, whereas M&A’s share is at least 50% and stretches to 75% in a good year. The balance is accounted for by equity capital markets and natural resources.
Turf wars inevitable
With investment banking making up about 40% of NMR’s income, and of greater significance than either treasury and resource banking or commercial banking, it’s easy to see why some observers declare that the great Rothschild, with its glorious past in the London gold fixing, is fast becoming a corporate advisory boutique. However, this view does smack of the Little Englander mentality that Sir Evelyn complains about. In other parts of the world, the emphasis is different. In Australia resource banking is a major business.
By definition, a federal structure will lead to turf wars breaking out. In areas such as privatization although the people on the ground may win the business it will often be transacted by experts flying out from London. Arguments about fee splits are a natural outcome, yet this is surely an issue to address in the reorganization. Baron David says a more rigid fee structure is being put in place. Insiders say a likely split for a cross-border M&A deal is 30% to the party with the mandate, 70% to the party finding the buyer and doing the work.
With the UK merchant banking sector in a traumatized state after the collapse of Barings, it was inevitable that Rothschild should see some high-profile departures. First to go were executives from treasury, the worst-hit area. Martyn Konig, director responsible for trading activities, quit in December 1995 to go to Goldman Sachs and has since joined UBS. Then last year John Bishop, managing director of the treasury division, went to UBS, as did Michael Phair, a privatization specialist.
Throughout the recent uncertainty, Sir Evelyn has remained resolute that Rothschild will stay independent. There are already two outside shareholders in RCH, Royal Sun Alliance which has 20% and Eagle Star with 5%, and new additions are unlikely. When an alliance was formed with ABN Amro in mid-1996, to replace the Smith joint venture, it became clear that the Dutch bank was chosen because it did not want to take a stake.
The synergy between Rothschild and ABN Amro involves using the former’s corporate finance skills and the latter’s network of local brokers throughout Europe and Asia, under the name ABN Amro Hoare Govett. With a common banking culture, Rothschild and ABN Amro are cooperating better than did Rothschild and Smith New Court. “We were in profit in the first three months whereas we thought it would take considerably longer,” says Matthew Westerman, managing director of ABN Amro Rothschild.
The legacy of Rothschild’s illustrious past is that the firm has many parts. When it came to the restructuring, attention was turned to the weaker areas and this put the spotlight on asset management.
As far back as the mid-1980s, executives in asset management wanted to tie up with a life insurance company to improve sales. These proposals went unheeded and asset management floundered. Currently the worldwide business has $27 billion under management of which $16 billion is in the UK. The UK company, Rothschild Asset Management, reported a loss of £4.5 million in the financial year ending March 1996.
The various asset management operations are being brought together under a new Dutch holding company called RAM BV. Peter Troughton, a former diplomat and marketeer with UK retailer WH Smith, has been brought in to bolster management.
In treasury, the great innovation at Rothschild is to put together the balance sheets of NMR and Australia to generate more market confidence. Combining capital resources will produce a total of roughly £500 million. Systems are being improved and whereas credit for a client has been allocated by office, with monitoring of the overall risk profile, eventually it will be done more centrally.
Another move has been the appointment of Rick Lee, chief executive of Rothschild Australia Limited, as the global head of resource banking. He is based in Sydney in recognition of the large role of resource banking in the Australian business, as well as Sir Evelyn’s aversion to having too much controlled from London.
At times, the reform of Rothschild seems as if it is heaping complexity upon complexity, especially in investment banking where a true global strategy has yet to reveal itself. Can this work? Logically it would be best to have everything coming out of RCH in very clear lines. Even more important is whether there is the managerial talent to make the new Rothschild work. Some say Sir Evelyn plans to take a more back-seat role, others think that his personality wouldn’t allow it. Either way a lot of responsibility rests on the shoulders of Baron David.
“We have a group of people who are clever and successful, but who need someone with authority to help them work together,” says Palmer. “David has that authority because he is a member of the family and he has built a successful business in Paris. I don’t think an outsider would have much of a hope.”
On the evidence, Rothschild is likely to go into the next century more or less in its present form. Disclosure is better but is unlikely to satisfy hard-nosed analysts. Rothschild heirs are in short supply but the succession issue is not being addressed. The day of reckoning has been put off again.
