Analyst-Banker Firewall Weakened in Bill on Obama’s Desk
After the dot-com bust a decade ago, regulators forced Wall Street to adopt rules aimed at keeping stock analysts from over-praising companies doing deals with their banks. President Barack Obama is set to sign a law that would undo at least some of the changes.
One measure in the bill, passed by Congress March 22 to ease securities rules for closely held firms, would restore communication between bank research and underwriting arms. Those links were restricted in 2003 by regulators and by a separate settlement between then-New York Attorney General Eliot Spitzer and 10 firms including Goldman Sachs Group Inc. and JPMorgan Chase & Co.
Spitzer forced the banks to restructure their practices after his office obtained internal e-mails from Merrill Lynch & Co. analysts who privately called dot-com stocks they had recommended “dogs” and “crap.”
“It undoes part of the regime set in place through the analyst settlement,” said Stephen Crimmins, a former Securities and Exchange Commission enforcement lawyer who is now a partner at K&L Gates LLP in Washington. “It’s possible we’ll see some of those parties involved in the settlement ask the court to be relieved of their undertakings.”
Obama is scheduled to sign the bipartisan agreement tomorrow. When it becomes law, regulators will no longer be able to write or maintain rules that restrict investment bankers from arranging communications between analysts and investors when dealing with firms with less than $1 billion in gross annual revenue.
Analysts also will be able to join investment bankers on meetings with the management of qualified firms, as well as have the freedom to publish research reports on firms immediately after an initial public offering instead of waiting for a blackout period to end.
“It appears that it will eliminate some provisions of the analyst rules with respect to emerging growth companies,” said Nancy Condon, a spokeswoman for the Financial Industry Regulatory Authority, which oversees more than 4,000 brokerage firms.
Spokesmen David Wells of Goldman Sachs (GS), Joe Evangelisti of JPMorgan and John Yiannacopoulos of Bank of America Corp., which purchased Merrill Lynch in 2008, declined to comment on what if any changes firms may make under the new law.
The new measure doesn’t directly address the 2003 global research analyst settlement, which stipulated that most of Wall Street’s largest firms could no longer have research arms that shared in the fees from stock offerings and other investment banking deals and instead had to rely on a shrinking pool of revenue generated from equities trading. It also mandated a separation between the two sides.
“One of the things that I think the investment banks that are party to the global settlement are likely doing now is taking a hard look at the global settlement provisions, to see how they may affect how those banks might modify their policies and practices going forward,” Glenn R. Pollner, a partner at Gibson, Dunn & Crutcher in New York, said in an interview.
The SEC is also reviewing the bill’s impact on the settlement, according to a person briefed on the discussions who spoke on condition of anonymity because the matter isn’t public.
For those opposed to the new law, including Democratic Senators Carl Levin of Michigan and Jack Reed of Rhode Island, the provisions mark a rollback of protections that will open the door to new conflicts of interest between investment bankers and analysts.
The National Venture Capital Association, a trade group that lobbied heavily for the new bill, said the current restrictions have held back the growth of new companies because they haven’t been able to get analysts’ attention.
Regulations have “limited the amount of research about these emerging companies available to investors, constraining investor interest,” Mark G. Heesen, president of the venture capital group, wrote in a February letter to lawmakers that was co-signed by Duncan Niederauer, the chief executive officer at NYSE Euronext.
Supporters of the law said that protections for investors remain in place. For instance, the bill doesn’t upend a rule the SEC finalized in 2003 that requires researchers to certify that their reports reflect their personal views and disclose whether they were compensated for those views.
“To date, the discussion of these issues has often overlooked the detailed, substantial and robust regulations that continue to apply to research,” Joel Trotter, a partner at Latham & Watkins (1115L) LLP and a member of the IPO Task Force, a group of lawyers, academics, bankers and venture capitalists that presented a report to the Treasury Department last year on how to boost the IPO market.
Heesen and Niederauer, in their letter, said the changes in the law would correct a problem faced by many firms looking to go public -- they can’t get enough interest from investors because research analysts don’t have an incentive to cover smaller or marginal companies. The current rules force analysts to focus on “high-volume, high-liquidity large-cap stocks that now drive revenues for their institutions and provide the basis for their compensation,” the IPO task force wrote in its October report.
“You can expect some form of research on IPO issuers to become a regular part of the deal landscape for companies that are going public,” Trotter said.
Among those who didn’t welcome that prospect was SEC Chairman Mary Schapiro, who told lawmakers in a March 13 letter that the measure would “weaken important protections” that separate analysts from investment bankers in the same firm, as well as rules that bar firms from promising potential clients favorable research in return for underwriting assignments.
Levin, one of the co-sponsors of an amendment that would have stripped the changes, cited the dot-com bubble in his floor remarks against the underlying bill, which was eventually passed in the Senate 73-26 and cleared by the House 380-41.
“This abuse helped feed a stock bubble that, when it burst, wiped out investors, evaporated companies and devastated the economy,” Levin said on March 22. “It is astonishing that we would forget these lessons and allow the return of such blatant conflicts of interest.”
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