Rescuing Salomon Was One Thing, But Running It...Leah Nathans Spiro
No question about it, Warren E. Buffett saved Salomon. When the Feds collared Salomon Inc. last August for submitting false Treasury auction bids, Buffett, the firm's largest shareholder with $700 million in stock, promptly replaced John H. Gutfreund as chief executive and chairman. He held candid press conferences, wooed congressmen with folksy mea culpas, threw open the firm's doors to federal investigators, and, more than anything, restored the confidence of regulators, shareholders, and employees.
But rescuing Salomon is a cakewalk compared with actually running it. Six months later, the reign of the Wizard of Omaha seems anything but magical. Salomon's underwriting business has plummeted (chart). From January through July, 1991, the firm had a 10.1% share of the market. Since then, its share has dropped to 6.6%. While major competitors racked up big gains during Wall Street's hot fourth quarter, Salomon is expected to report a $30 million loss. Desultory morale has helped precipitate an exodus of high-level employees. "Chapter one is over, and chapter two is real tough," says Alan Johnson, an executive recruiter with GKR International.
RISK-AVERSE? Underlying these events is a strategy that the firm's critics, mainly current and recently departed executives who declined to be quoted by name, see as both confusing and ill-advised. At a time when most major firms are expanding the range of services they offer clients, Salomon appears to be narrowing its focus, especially in equities and investment banking. While most major firms view risk-taking as crucial to staying competitive, Salomon seems to be becoming increasingly risk-averse.
Salomon's top executives, who decline to be quoted by name, deny that the firm is changing its strategy or scaling back equities or investment banking. "Through no fault of their own, both areas were hit hard by the events of last year, and it will take time to restore them fully," Buffett said in a Jan. 28 speech. "But it will be done."
Much of the criticism of Salomon's management focuses on Buffett, who gives great autonomy to heads of companies in which he invests and who has had little experience as a hands-on manager. Although he spent much of his time at Salomon's New York headquarters last summer, he currently runs the company from Omaha, where Berkshire Hathaway Inc., his investment vehicle, is located. He keeps in close touch with Salomon executives by phone. But he is in New York only about one day a week and hasn't attended regular partners' meetings since last August. "We have telephones in Omaha, just like New York," says T. Verne McKenzie, secretary of Berkshire Hathaway. A senior Salomon official says the firm "dominates Buffett's thinking and will until we get it settled."
Still, Buffett leaves the day-to-day operations to his designated successor, Deryck C. Maughan, the chief operating officer. The 44-year-old's credentials seem perfect for the job: He is squeaky clean, has a successful record, and is well regarded. A British citizen, he even served a stint in the British Treasury. Most recently, he headed Salomon's highly profitable Tokyo office, having the good fortune to be thousands of miles away from the scandal-tainted bond department. But several former executives say he is a low-profile individual who is a far cry from Gutfreund, a powerful personality who used fear and machismo to dominate Salomon's entrenched fiefdoms.
WINDING DOWN. Maughan has been unable to arrest the perception that Salomon's strategies are floundering. In the Jan. 28 speech, Buffett said reducing the firm's commitment to investment banking and equities was "unthinkable." And Salomon plans to hire 35 equity professionals. But the belief is widespread that the firm is returning to its roots as a bond house. Late last year, Maughan told employees that the profitability of equities and investment banking was mixed. The firm forced out its well-regarded head of equities, Stanley B. Shopkorn. And it packed Salomon Brothers' executive committee with bond chiefs, seemingly reducing the clout of the equities and investment banking representatives. "Some signals indicate they're backing away from the equities business, but their public posture is they're staying in. I'm confused," says John Keefe, an analyst with Lipper Analytical Securities Corp.
Buffett also seems intent on cutting Salomon's risk profile. In a recent speech to employees, Maughan said that before last August, there seemed to be "no limit on the balance sheet. That has changed. It's a finite balance sheet." Bruce C. Hackett, Salomon Brothers' new equity chief, says the department is shifting from trading for its own account to customer trading and has disbanded a large proprietary equity hedge fund. "There are no restrictions on our desk in terms of committing capital but to do it intelligently," says Hackett.
Former Salomon executives say less willingness to take risks is costing the firm business. Shopkorn, for instance, often used the firm's capital to handle large blocks of stock for big customers. That helped build close client relationships that brought in a lot of other business. Now, "instead of going out and bidding on, say, 100,000 shares, they'll take on 10,000 shares," says one investment manager. "It will mean a real pullback."
Equally ill-advised has been Buffett's widely publicized campaign against Salomon's salary structure, which has backfired. Salomon shareholders rejoiced when Buffett stated in newspaper ads that he was slashing compensation by $110 million in the third quarter of 1991.
What better way to boost earnings than by reining in overpaid Wall Streeters? And if they left, so be it, Buffett said.
But the Wizard miscalculated. A get-tough strategy may have worked in a poor market when employees had nowhere else to go. But the Street is booming. While Salomon sliced most employees' compensation some 20% to 30%, Salomon's competitors were handing out equivalent raises. The resulting defections have included high-profile salespeople and traders; senior staff in private placements, high yield, over-the-counter, and block trading; key individuals in Salomon's London office; and several research analysts, including Thomas H. Hanley, who helped expand the firm's bank underwriting business.
BONUSES BACK. Startled by the departures, the firm has backed away from the policy. Salomon restored compensation to pre-1991 levels and has cut special deals guaranteeing bonuses to a select few equity analysts, a highly criticized Wall Street practice. "It's a sign of desperation," says recruiter Alan Johnson. And in a further sign that Salomon is locking itself into a potentially costly compensation structure, Maughan rolled out a new companywide pay system in late January that guarantees all employees a minimum bonus in 1992.
This could stem more departures. More broadly, Buffett and Maughan are trying to dispel a deepening disillusionment about the firm's direction. "There's a question of leadership and trust," says one employee. Adds Joan Zimmerman, a recruiter with G.Z. Stephens: "You are dealing with a morale issue that is extremely important to holding the firm together. If you have crushed morale in one or two departments, you're very vulnerable."
For all its troubles, Salomon remains a top-tier firm along with Goldman Sachs, Merrill Lynch, and Morgan Stanley. But keeping that position may well require another act of magic from the Wizard of Omaha.
BUFFETT'S CHALLENGES STRATEGY Firm lacks clear direction. Has given mixed signals on commitment to investment banking and equities EMPLOYEE DEFECTIONS Uncertain leadership at the top, management reshuffling, compensation cuts, and stigma from scandal have made it hard to keep key employees COMPENSATION Policy inconsistent. Firm cut compensation $110 million, then hiked pay when key employees left MANAGEMENT CEO Buffett already spending less time at Salomon's New York headquarters. But designated successor Deryck C. Maughan still needs Buffett's help DATA: BW