Can Consultants Serve Two Masters?

The ones that go public have to worry about earnings and stock prices, say critics, who insist that partnerships are still the best model

For PricewaterhouseCoopers it was a sharp about-face. Before announcing on July 30 that it would sell its consulting arm to IBM for $3.5 billion, the firm was well down the road to an initial public offering. Over the past few years, in a bid to build their businesses and separate themselves from conflicted audit partners, many of PwC Consulting's rivals have gone public -- including Accenture, formerly Andersen Consulting, and KPMG Consulting.

The result is that the public increasingly owns shares in an industry once dominated by large private partnerships. In 2001, half of the largest consulting firms were public. By the end of 2002, that figure could easily reach 75%.

PwC Consulting seemed destined for the same future. Filings had been sent to the Securities & Exchange Commission, and a CEO with experience running a public company, Greg Brenneman, had been brought in to shepherd the deal. Meanwhile, the firm's worldwide partners had approved the IPO proposal by a 99% margin.


  Now, PwC's sudden change of course has raised questions about public ownership's suitability for a cyclical industry like consulting. PwC isn't alone. Deloitte & Touche decided earlier in 2002 to forgo an IPO and instead spin off its consulting business as a private partnership. Managing Director Manoj Singh insisted at the time that the decision would allow the outfit to concentrate on its primary goal of serving customers, rather than focusing on the short-term demands of shareholders.

Coming on the heels of that decision, PwC's move "is very telling for investors looking at the consulting stocks," says Marshall Cooper, president of Kennedy Information, a Peterborough (N.H.) research firm that tracks the consulting industry. "The bloom," he adds, "is off the rose."

PwC's change of heart fuels an ongoing debate: Is the public-company structure appropriate in an industry that is, by its very nature, highly cyclical and opaque? According to Kennedy Information, the 50 largest consulting firms, which were increasing revenue at a torrid 27% rate in 1998, dropped to a slow 2% climb last year. A true rebound won't come until the middle of next year -- at the earliest.


  That has taken a brutal toll on KPMG Consulting, which has watched its stock drop 54% since its February, 2001, IPO -- more than twice the decline of the Standard & Poor's 500-stock index over the same period. And even Accenture, which has done much better than the market since its IPO on July 19, 2001, has been falling of late.

In this inhospitable market environment, investors seemed unenthusiastic about the PwC IPO. Management worried an IPO might be able to raise only $2.5 billion. The deal was losing value every day because the offering would have been priced relative to PwC' Consulting's public rivals, whose stocks have declined from 40% to 50% since April, 2002.

That could be shrugged off as a response to the current market, but the second reason for the shift was more fundamental. Management worried that an independent PwC Consulting would not have a strong enough balance sheet to fund the kind of outsourcing services its clients increasingly demand. "There's a strategic reason for this -- and a financial reason for this," explains Brenneman.

Advocates heartily defend the public structure. Rand Blazer, CEO of KPMG Consulting, argues that being public gives him more flexibility to reward good performers with stock options, thereby attracting the best people. He also credits it with helping fund the firm's growth, including a recent deal to gobble up much of Arthur Andersen's consulting practice. "The scrutiny of the public marketplace is an absolute positive," says Blazer.


  But the momentum seems to be with rivals like Deloitte, whose execs say their freedom from shareholder pressure lets them invest as needed to expand their business with the most profitable clients of all -- the very largest multinational companies -- and to do so without having to worry about the impact on this quarter's numbers.

Smaller firms like New York-based Tigris Consulting are making inroads with megacorporations, like Best Foods, by selling smaller contracts that focus on improving returns from existing systems. Tigris CEO Brent Habig sees great opportunities selling against the consulting giants in the current environment, when contracts tend to be smaller and independence is a favored commodity.

As the consulting firms navigate an uncertain economic environment, the ones that have gone public may find they come out of the current market downturn at a relative disadvantage. "A partnership can invest in a firm in a bad year. They can make a big investment for the next big thing," notes Jess Scheer, editor of Consultants News. Public companies, by contrast, "have to manage quarter to quarter," he adds. Thanks to the IBM deal, that's a fate PwC Consulting has deftly managed to avoid.

By Nanette Byrnes, associate editor at Business Week in New York

Edited by Beth Belton

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