What They Don't Teach You at Harvard Business School
During the summer months, I work out of my home on the coast in Wilmington, N. C. Sitting here watching the dolphins swim by, it is easier to be philosophical than when I am perched in my high-rise Atlanta office. So rather than pen another educational article about how things are supposed to work, this month I am going to write one that summarizes some of the observations I have made in my 25 years in corporate finance about the way things actually work.
In the world of finance, like everything else, all is not the way it is presented in the textbooks. My first exposure to the deal world came during my summer between years at Harvard Business School when I interned on Wall Street for the top M&A advisor in the country, Marty Siegel. I could write an entire article about how Marty traded in insider information to further his career and net worth, but I never observed this firsthand, and James Stewart already documented Marty’s escapades in a bestseller book called Den of Thieves. To make a long story very short, Marty ended up in prison, and my eyes were opened for the first time to practices you don’t learn about in business school.
Wall Street didn’t mesh too well with my values, so when I graduated, I came to Atlanta to take the only corporate finance job in the Southeast at the time. Fortunately, I found ethics to be more prevalent here.
My investment banking career was interrupted following the election in 1988 when I was appointed director of corporate finance policy at the U.S. Treasury Department by our current president’s father. My mandate was to develop financial policies that would improve the competitiveness of American businesses, which according to most journalists at the time were quickly being surpassed by the Japanese.
The prime suspects for our country’s competitive demise bantered about in Congress and the media were those dastardly leveraged buyouts and hostile takeovers that were upsetting the apple cart in corporate America. The day after I arrived in Washington, I was handed a copy of a letter sent to the Secretary of the Treasury by the chairman of the House Ways and Means Committee asking for Treasury’s input on 24 options to stifle LBOs.
In researching what factors inspired the surge in buyouts and takeovers in the late 1980s, I came to the surprising conclusion that they were more a byproduct than a cause of poor corporate performance. After talking to countless leaders in the world of business, academia and government, I concluded that corporate raiders were actually performing the role that corporate boards should have been performing, namely holding CEOs accountable. The targets of hostile takeovers were not the well-run companies with fully valued shares, but the laggards who had failed to produce competitive shareholder returns.
Needless to say, in an administration that was staunchly pro-business, this was not a popular position, and certainly was not what Congress wanted to hear. My advice to the administration was to reform the dysfunctional corporate governance system characterized by clubby board rooms teeming with conflicts of interest. I argued that well-governed companies would not become takeover bait.
That was 15 years ago, well before Sarbanes and Oxley drafted their overkill legislation. What I learned from this experience is that corporate America was more interested in job security than good public policy. The Business Roundtable, that bastion of Fortune 500 CEOs who often speak for Corporate America, quickly got busy trying to deep six my ideas. If not for a couple of intellectually honest men, my boss at Treasury, David Mullins (who later became vice chairman of the Fed) and his boss, Bob Glauber, who is currently Chairman of NASDAQ, none of my ideas would have seen the light of day.
One of the more intriguing conflicts of interest that I surfaced (which has still never been written about) was that the most powerful group of shareholders at the time—private pension fund managers who controlled trillions of dollars in equities and who had the fiduciary responsibility for looking out for the performance of their investments— ultimately reported to the very CEOs who were intent on quashing the shareholder rights movement. I was told several off-the-record stories by pension fund managers of major corporations that they were instructed by their bosses how to vote their proxies in takeover battles involving buddies of the boss. One of the few major company CEOs who truly believed in good governance and supported me was Coca-Cola’s Roberto Goizueta.
Since my return from Washington, I have spent over a decade working with business owners interested in transitioning their companies through a sale or otherwise. While the lessons learned have not been quite so heady, there are a few observations that many people assume but few write about.
One is that most business owners cheat on their taxes. I have seen it all, so nothing really surprises me anymore. Basically, business owners typically do what their CPAs tell them they can get away with. Some CPAs feel it is fine to run your son’s bar mitzvah and the renovation to your house through the company. Others are more conservative.
Another observation is that when there is a lot of money on the table, it tends to bring out the worst in people. When business owners sell their companies, it is not unusual for some employees who never took the entrepreneurial risk that is rewarded with stock ownership to demand what they believe to be their share of the spoils. And relationships among shareholders and/or family members who have been close for years can splinter overnight.
Advisors to business owners whose sage wisdom has been invaluable over the years tend to lose their objectivity when it comes time to discuss transitioning the business with their clients. The most trusted financial advisor according to 80 percent of business owners is their CPA. But what I have observed time after time is that many CPAs have neither encouraged nor discussed ownership transition with their clients hoping that day will never come and the company will remain an annuity to their accounting firm indefinitely. I have actually witnessed a few CPAs try to kill a deal in order to keep their largest client from selling their company.
Bankers are prone to behave likewise. Years ago I started the M&A department for the largest bank based in Georgia at the time. The wealth management and private client professionals were usually very supportive of introducing my team to the bank’s clients in hopes that we would turn that illiquid investment in private company stock into liquid assets that could be managed for a fee. The commercial lenders, on the other hand, typically kept us as far away from their customers as possible because they didn’t want to lose the loan or deposits on which their bonus depended.
My sector of the financial industry is among the worst when it comes to objective advice. There are two national M&A/valuation firms that prey on business owners whose companies are below the radar screen of more reputable investment banking firms. These firms (one is a spin-off of the other) barrage business owners with invitations to attend their seminars where they sell the owners Amway-style on the vision of riches they will achieve if they sell their companies.
These firms sometimes use paid actors to parade as happy clients; they charge enormous fees to value companies; they typically overestimate the market value to induce the owner to sell; and they succeed in closing a deal less than 10 percent of the time. The time and expense they put clients through, often chasing a mirage, leaves cynical business owners in their wake who question the integrity of honorable investment bankers. What surprises me the most is not that firms like these have succeeded financially, but that a major bank and a major CPA firm have acquired these two companies.
I suppose none of the behaviors I have witnessed on Wall Street, in Washington or on Main Street should have surprised me, though none of this was ever mentioned in business school. After 25 years in finance, it appears to me that there are two types of people in the business world, whether business owners, CPAs, bankers or otherwise: those who do the right thing because it is the right thing to do, and those who do whatever they think will serve their immediate personal interests. And which camp you fall into does not depend on where you went to business school; it is usually taught by your parents.
Michael Jacobs, Author
Michael Jacobs is the CEO of Jacobs Capital and Professor of the Practice of Finance at The University of North Carolina at Chapel Hill. He's the author of several books and a certified speaker.
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