A Delaware judge’s public rebuke of Barclays Plc over conflicts of interest in the sale of Del Monte Foods Co. may become a calling card for boutique advisory firms such as Rothschild and Greenhill & Co.
Barclays, which represented the fruit-juice and pet-food company on its $5.3 billion sale to a KKR & Co.-led group, deceived its client by failing to disclose until late in the process plans to provide financing for the purchaser, Chancery Court Judge J. Travis Laster said in a Feb. 14 opinion. Del Monte would probably have hired another bank if it knew Barclays, the U.K.’s third-largest bank, planned to “double-dip” for fees by working for the buyers, he wrote.
Wall Street’s independent advisory firms may seize on the judge’s conclusions, which Barclays denies, to woo clients from the larger banks that advise on, structure and finance takeovers. Laster’s opinion will probably spur company boards to hire independent advisers earlier in the sale process and could make it more difficult for banks that try to work for both buyers and sellers, academics and dealmakers said.
“This is a real slap in the face for the industry,” said Roy Smith, a finance professor at New York University’s Stern School of Business in Manhattan. “It says the directors need to ask more about what their bankers are doing than in the past.”
Lazard Ltd., Greenhill & Co., and Evercore Partners Inc. are the largest publicly traded advisory firms that don’t have big businesses underwriting stocks and bonds or lending money. Closely held rivals include Rothschild North America Inc., Perella Weinberg Partners LP, and Moelis & Co. The firms are all based in New York.
Corporate boards need independent advisers especially when dealing with private-equity funds as potential buyers because the funds generate so much lucrative business for the banks, said Scott Bok, chief executive officer of Greenhill.
“It’s hard to rely on the large investment banks to vigorously represent your interests against those funds when those funds are literally their most important clients,” said Bok, who added that Greenhill was already expanding to take advantage of the need for independent advice.
While it’s going to be “a lot harder now,” investment bankers at the largest banks and securities firms will still angle for deals in which they can play a role on both sides because the payoff can be large, said Smith, a former partner at Goldman Sachs Group Inc. Goldman was the most profitable securities firm in Wall Street history before converting to a bank in 2008.
Del Monte Deal
In the Del Monte case, Barclays stands to collect $23.5 million for advising the San Francisco-based company on its sale and may earn $21 million to $24 million providing financing to the buyer, Laster wrote. The London-based bank received about $66 million in fees from KKR in the two years before the deal, Laster noted.
The bank “secretly and selfishly manipulated the sale process” to engineer a transaction that would allow it to obtain fees from the buyers, Laster said.
Del Monte is “confident” it ran an auction designed to get the best price for the company, spokeswoman Brandy Bergman said. “We don’t comment on ongoing litigation,” said Peter McKillop, a KKR spokesman. Del Monte shareholders have sued the company’s board, KKR, Vestar Capital Partners and Barclays.
Del Monte said following the judge’s opinion it will seek new offers and it hired Perella Weinberg to solicit potential buyers. Perella, which had provided a fairness opinion to the board, will be paid $1 million, a sum that could rise to $5 million if it can attract a higher bid.
The judge attacked Barclays’s decision to let KKR, the New York-based private equity firm started by Jerome Kohlberg, Henry Kravis and George Roberts, hold talks about teaming up with New York City-based Vestar Capital Partners -- a violation of both buyout firms’ confidentiality agreements with Del Monte.
“What indisputably crossed the line was the surreptitious and unauthorized pairing of Vestar with KKR,” Laster wrote. “Barclays actively concealed the pairing from the Del Monte board.”
Instead of relying on advisers to volunteer such disclosures, boards are now more likely to hire independent firms that don’t provide financing, said Peter Solomon, chairman of Peter J. Solomon Co., a New York-based boutique investment bank.
“The major firms have been doing this for 25 years,” said Solomon. “This decision explains why you can’t trust those firms. This lays it out bare, plain and simple.”
Jill Goodman, the head of a group at Rothschild that advises boards, said that at times it’s in a company’s interest to enlist an adviser that can provide financing -- so long as the board is informed and the funding is available to other buyers so the bidding is competitive.
“I think they will look for advisers they can bring in who will be independent and speak up, but who will not disrupt the process just for the sake of it,” Goodman said in an interview.
In a memo sent to clients last week, the New York-based law firm Cleary Gottlieb Steen & Hamilton LLP said that boards should consider hiring a second banker to run the sale process if the first adviser is offering buyer financing. The company “may wish to consider asking the first investment bank to bear some of the expense of the second firm’s fees under at least some scenarios,” the law firm wrote.
Banks offer financing to bidders in part to win additional work advising on takeovers for private-equity firms, which typically borrow about two-thirds of the purchase price. The deal work can also lead to follow-on assignments, such as refinancing and asset sales.
Barclays isn’t alone in providing loans to buyers: JPMorgan Chase & Co., the second largest U.S. bank by assets, is advising Jo-Ann Stores Inc. on its proposed $1.6 billion sale to Leonard Green & Partners LP and is helping finance the buyer. Bank of America Corp., the biggest U.S. lender by assets, advised NBTY Inc., the maker of Nature’s Bounty nutritional supplements, on its $3.8 billion sale to Carlyle Group last year and helped provide financing.
“It’s nothing new, it’s just the first time a judge has said the king has no clothes,” said Samuel L. Hayes III, a professor emeritus of investment banking at the Harvard Business School in Cambridge, Massachusetts. “The investment banking business has been rife with undisclosed conflicts for a long time. In an ideal world, they shouldn’t be permitted. But we’re not in an ideal world.”
‘Appearance of Impropriety’
Judges have faulted the practice of advising buyer and seller before. Credit Suisse First Boston, the predecessor of Credit Suisse Group AG, was criticized in 2005 by Leo Strine, another Delaware judge, for advising retailer Toys “R” Us on its sale that year to a KKR-led group while taking $10 million of fees for arranging financing for the buyers. While it created the “appearance of impropriety” the bank did nothing wrong because the loans were only arranged after the $7.5 billion takeover was agreed, Strine said.
Independent advisory firms haven’t made gains in M&A league tables since then. Lazard, the top-ranked independent adviser, placed 10th last year, down from ninth in 2008, according to data compiled by Bloomberg. Four boutique firms ranked among the top 20 in 2010, down from six in 2008, the data show.
“Part of the debate in the post-financial crisis years has been about how non-bank firms would get a larger share of the M&A work due to their independent advice,” said Peter Hahn, a professor at London’s Cass Business School. “Investment banks that have funding in their back pocket still have a substantial advantage over firms that don’t.”
Barclays is seeking to parlay its role as a financing provider into work advising on mergers following its 2008 purchase of bankrupt Lehman Brothers Holdings Inc.’s U.S. operations. The takeover expanded the lender’s investment banking unit, Barclays Capital, beyond selling and trading fixed income securities and foreign exchange and into equities and deal advice. Robert Diamond, who led Barclays Capital since 1997, was named Barclays chief executive officer last month.
Barclays’s dealmaker on Del Monte was managing director Peter J. Moses, a consumer banker in New York, according to Laster’s opinion. The bank denies any wrongdoing, and “strongly disagrees with characterizations that are based on an incomplete factual record,” spokesman Mark Lane said.
While the judge’s public criticism is embarrassing for Barclays, it probably won’t have a significant impact on the firm, said Tom Kirchmaier, a fellow at the London School of Economics. “Investment banks are surprisingly resilient to this type of reputational effect,” he said.
The case is In re Del Monte Foods Co. Shareholder Litigation, CA6027, Delaware Chancery Court (Wilmington).