Meet The Upstarts In Tech Banking

Small investment firms are lining up, but can they grab enough business?

Back in 2001, Krish Panu had a problem with Wall Street. The CEO of At Road Inc. (ARDI ). had launched his wireless-data software company in a September, 2000, initial public offering managed by Credit Suisse First Boston (CSR ). But as the tech bust set in, CSFB and other banks dropped research coverage of the company, and Panu struggled to get At Road's story out. In 2001 and 2002, smaller investment banks like Think- Equity Partners began following At Road and took Panu to visit large investors. Today, At Road is profitable, its stock price has tripled in a year, and many of its largest shareholders are institutions Panu met through smaller banks. "We were looking to get attention, and the small banks worked harder," he says.

Stories like Panu's are what's driving more than a dozen small investment banks to try to build themselves into the new stars of tech banking. The idea: to become to the next bull market what Hambrecht & Quist, Alex. Brown, Robertson Stephens, and Montgomery Securities (collectively known as HARM) were until they were acquired in the 1990s. Firms like ThinkEquity Partners, Perseus Group, and W.R. Hambrecht want to assume the old HARM role of showering attention on emerging tech companies rather than established giants. They argue that the top banks like Goldman, Sachs & Co. (GS ) and Morgan Stanley (MWD ) are too hamstrung by staff cuts to give Silicon Valley the ears-to-the-ground coverage small companies need. "We believe there's a huge gap in the marketplace," says ThinkEquity CEO Michael T. Moe. "These people feel like they have been abandoned."

Even larger companies sniff opportunity. Discount broker Charles Schwab & Co. (SCH ) bought investment-banking boutique Soundview Technology Group Inc. (SNDV ) last month and made a deal with Perseus to distribute shares of Perseus-sponsored IPOs to Schwab's institutional customers. Jefferies & Co. pushed into technology mergers by buying M&A adviser Broadview International LLC on Dec. 23. Thomas Weisel Partners, founded in 1998 by Montgomery's former CEO, continues to expand in tech. And midtier banks like S.G. Cowen and First Albany Corp. are hiring tech bankers.

But the aspiring tech bankers may face a tougher challenge than they realize. For starters, the top Wall Street firms haven't cut banking staff as deeply as the upstarts seem to think. Morgan Stanley has reduced its tech bankers in Silicon Valley by 20% from the peak, to 60, and Goldman has cut by 40%, to more than 50. But Chuck Cory, Morgan's global tech M&A chief, says that activity is down 40% to 80%, depending on the line of business. "The supply of banking advice exceeds demand, not the opposite," says Cory.

The other problem is that many new tech bankers aren't playing what could be their trump card -- reform. Most of the new tech banks hope to make money by doing banking for the same companies whose stocks they research. That's precisely the approach that New York Attorney General Eliot Spitzer attacked in his investigation of Wall Street because of its inherent conflicts of interest. With the same possible conflicts, the new banks may struggle to differentiate themselves. "In spite of reforms, the business model is the same as five years ago: Favorable research coverage in exchange for banking business," says Jay Ritter, an IPO expert who teaches at the University of Florida.

LOOKING FOR AN EDGE. Some firms, however, are trying to avoid Wall Street's traditional conflicts. Schwab has agreed not to split banking fees with Perseus, believing that taking banking fees will pit its interests against those of investors. Instead, Schwab will settle for research and trading revenue that Perseus' clients create. W.R. Hambrecht, founded in 1998 by legendary Hambrecht & Quist CEO Bill Hambrecht, has the most radical model: It abandons traditional IPO pricing, in which bankers set a price after consulting with institutional investors, in favor of a modified auction where the market sets the price. "The conventional approach is behind so much of the scandal that has bubbled to the top the last few years," says Patrick M. Byrne, CEO of Hambrecht client e-tailer Overstock.com Inc. (OSTK ). "A Dutch auction gets the right price." But even Hambrecht has struggled, leading or co-leading just eight IPOs in the past three years.

Of the boutiques, new and old, Weisel, Perseus, and Jefferies probably have the clearest shots at success. For Weisel and Perseus, the edge is relationships. CEO Thomas Weisel's venture-capitalist friends, including New Enterprise Associates co-founder C. Richard Kramlich and Technology Crossover Ventures partner Rick Kimball, are in positions to give him business. Indeed, Kramlich says Weisel probably will participate in half of the IPOs of NEA-backed companies. Perseus Group will benefit from its Schwab connection and its affiliation with merchant bank Perseus LLC. And Jefferies can combine Broadview's M&A expertise with its own trading business, which handles 11% of New York Stock Exchange trades.

More than likely, none of the newcomers will build a bank that rivals the clout and prestige of Goldman or Morgan Stanley. But after three years marked by stock losses and Wall Street layoffs, even small-scale success will taste pretty sweet.

By Timothy J. Mullaney in New York

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