"

Schulich School of Business

Course: FINE 4900
2013 2014




Guided Study Enforcing Private-Equity Thinking in Public-Equity Markets




Prepared by: Aaquib Nasir
Prepared for: Professor Greg Milavsky
April 2014

#
Abstract
This paper is an empirical investigation of the short-term nature of capital markets. Recent
debate suggests that the prevalent view in markets is short-term in nature as companies
forgo future success for short-term earnings. Thorough analysis indicates that the root of
the short-term thinking is due to the overbearing pressure that research analysts exude on
the prospects of a companys future. Private-equity as an asset class has offered
meaningfully higher returns than public-equities and given the long-term view private-equity
firms take on their investments, as five-to-ten year investments, takeaways can be taken
from the private-equity model to inspire a healthier, longer-term platform for public
companies.
Solutions that will be explored include:
Mandatory Compensation Structures ensuring the management and board members
own a meaningful percentage of a companys equity in order to align interests.
Abandoning Earnings Guidance relying on performance metrics that span broader than
the traditional EPS number.
Lock-Up Structure on Public Equities mandating a hold-time on public equities to
ensure investors have a vested interest in the long-term interests of companies.
Prohibit Institutions from Speaking to Management barring research analysts from
interacting with management to ensure transparent, balanced information.
Remove the Role of Sell-Side Research allowing only independent, conflict-free
research firms to report on a companys prospects.

$
Table of Contents

Timeline of Capital Markets %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% &
Civil War Era %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% &
Analysis %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% "'
Post-Depression %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% ""
Analysis %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% "$
1980-1999 %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% "$
Analysis %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% "(
LBO Boom %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% ")
Analysis %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% "*
Dot-Com Boom %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% "&
Analysis %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% #'
Takeaways %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% #"
Case Study: Goldman Sachs %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% #$
History %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% #$
Reflections %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% $#
The Problem %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% $$
The Importance of Research Analysts %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% $$
Why Private Companies Work %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% $)
Examples %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% $&
Potential Solutions %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% ('
Mandated Compensation Structures %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% ('
Abandon Earnings Guidance %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% ($
Lock-up Structure on Public Equities %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% ((
Prohibit Outside Institutions From Speaking to Management %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% (+
Remove the Role of Sell-Side Research %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% (+
Final Thoughts %%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%%% (&

(
Mandate

This guided study will explore, and aim to propose solutions to, problems relating to
the short-term nature of investing and decision-making activities in the public markets, in
comparison to the different behavioural and operational mindset of private-equity backed
companies.
The problem being explored arises from pressures that public companies face in the
short-term to meet analyst estimates and stakeholder expectations. Short-term thinking
becomes a problem because of the potential value that is destroyed or unrealized when
decisions are rationalized on a quarterly timeframe, as opposed to the longer-term horizon
adopted by private equity firms.
Despite the increased administrative costs of going public for example, the
compliance costs related to Sarbanes-Oxley the impermanent structure of todays public
markets threaten a companys long-term innovation, strategic plans, and ultimately
shareholder returns.
The on-going focus on meeting quarterly earnings and analyst estimates deters
management from broader, strategic priorities. Management should focus their efforts on
building going-concern companies with initiatives that emphasize the long-term, but the
pressure on meeting earnings expectations has resulted in attention being diverted to
increasing EPS numbers, sometimes by laying of staff, financial engineering, and at times
even outright fraud.
According to a December 2013 study by McKinsey and CPPIB, in which 1,000 board
members and C-Level executives were interviewed, 86% believed that a longer time
horizon to make business decisions would positively affect corporate performance in a
number of ways, including strengthening financial returns and increasing innovation.
)
Despite the increasing awareness of the detriments of short-term public market focus, 63%
of respondents claimed that the pressure to demonstrate short-term financial performance
has increased over the previous five years.
1

This focus on meeting the estimates of research analysts is what led to the demise
of many companies in the early 2000s. Daniel Reingold, author of Confessions of a Wall
Street Analyst outlined how companies of all scales engaged in accounting manipulation
and often pressured investment banks to publish positive outlooks on their company in
exchange for investment banking business.
2
Regulators have since implemented policies to
ensure that the structure of investment banks is no longer prone to these flagrant conflicts
of interests, but what hasnt changed is the focus on quarterly results and the pressure to
meet market expectations.
As outlined in Beth McLeans book, The Smartest Guys in the Room: The Amazing
Rise and Scandalous Fall of Enron, much of Enrons motivations to pursue fraudulent
accounting statements were driven by 1) the immense pressure felt to meet analyst
estimates; and 2) the perverse compensation incentives that rewarded short-term increases
in share price. Todays management teams face similar circumstances but pressures are
further exacerbated due to activist investors, takeover threats from large private equity
funds, and attacks from short sellers. When a management teams principal focus is on next
quarters earnings and not the long-term growth of the company, a structural conflict of

"
"Insights & Publications." Focusing Capital on the Long Term. McKinsey & Co., Dec. 2013. Web. 04
Mar. 2014.
#
Reingold, Dan, and Jennifer Reingold. Confessions of a Wall Street Analyst: A True Story of inside
Information and Corruption in the Stock Market. New York: Collins, 2006. Print.

+
interest exists between the expediency of short-term goals at the expense of forgone long-
term value and lack of innovation.
Contrast this to a private equity owned firm that makes its decisions based on a five-
year time frame. In a private equity environment, layoffs are undertaken to preserve a
business that is at risk of failing, but typically as a last-resort option. A private equity firm
has the flexibility to implement decisions that can grow the company in the long-term
without consideration for the next ninety days. In 2011 when Governor Mitt Romney ran for
President and faced attacks regarding his experience at Bain Capital where allegations
arose that he had laid off employees as part of his the firms private equity operations, he
responded by extolling the virtues of private equity and mentioning that by laying off jobs in
some companies, the companies were able to stay afloat and many years later prospered.
3

The same troubled companies that private-equity firms often acquired would have
pursued bankruptcy had they been public companies. When private equity investors acquire
stakes of companies, they ensure that management compensation is aligned with the
interests of investors, through the use of warrants and equity interests that provide a step-
up in returns if certain objectives are met at the end of the year or the end of five years. This
is quite a contrast to our current public-market landscape, where executives are rewarded
for quarterly share price increases. In some cases, when a portfolio company is struggling,
private equity firms will even inject further capital in the company through bolt-on
acquisitions a signal that the private-equity firm believes in its growth. A follow-on equity
offering in the public markets tends to signal to investors that a company is in grave need
for capital and has failed to acquire funding in the debt markets. This implication creates

$
Murray, Sara. "Romney Defends His Record at Bain." The Wall Street Journal. Dow Jones & Company,
17 May 2012. Web. 5 Nov. 2013.

*
reluctance to raise funds when needed and instead encourages the company to act in the
least-volatile fashion possible. In private equity, long-term thinking, not short-term results,
guide strategic decisions that can only be undertaken because external pressures relating
to short-term performance from Wall Street dont exist.
With this prevailing short-termism in public markets, a simple solution may be to
discourage companies from going public and instead allocate greater amounts of capital to
private equity funds. However, as hedge-fund manager William Ackman describes, public
markets have the potential to implement the same functions that drive the success of
private-equity backed firms
4
:
[In most] businesses you can create more value as public companies than you can
by taking them private. I think businesses should only be taken private if theyve
reached the end of their strategic life, meaning that theyve grown as far as they can
grow and theres no more value that can be created as a public company

If you think about what private equity does they make changes to management,
make changes to strategy, cost structure, capital structure; all of these things are
available in the public market. In fact, I think its a failure when a company sells itself
to private equity. It means that the company itself, the management, the board and
its shareholders couldnt figure out how to create the value on their own.

Over the course of this guided study, we will explore, in a nutshell: can public
companies be managed as though they were private? And to help construct the analysis of
where views diverged, we will consider the history of Wall Streets influence on
corporations. Approaches that will be considered include the frequency of company

(
"Bill Ackman; Jason Dufner." Charlie Rose. PBS. 12 Aug. 2013. Web. 04 Jan. 2014.

&
reporting, management compensation, and disclosure requirements pertaining to quarterly
results and investor activity.
Timeline of Capital Markets

The short-term nature of todays public markets has been derived by the pressure
management teams feel to meet quarterly EPS guidance, and this view is further
proliferated by Wall Streets own target financials. The success of a company is predicated
upon whether the company has been able to consistently meet analyst expectations, which
is measured on a quarterly basis. Given this peculiar dynamic, the modern day corporation
has conceded control of major strategic decisions to Wall Street research analysts.
Historically, financiers were the middlemen for the corporation and the providers of capital,
yet over time this dynamic has evolved to the overbearing influence that investment banks
currently possess. To identify the shift between corporations using investment bankers
solely for financing activities to the modern day approach where companies need Wall
Street as a source of validation, the history of the industry will be drawn out and analyzed.
To illustrate this shift, a case study will be presented on Goldman Sachs; the securities firm
founded in 1869 that has helped shape the shift in the roles investment banks play in our
capitalistic society.
Civil War Era

Prior to the civil war era, families including Seligman, Lehman, Loeb, and Goldman
focused mercantile activities, principally operating by offering a single service: raising debt
for small companies seeking to grow. Commercial banking first began following the
Revolutionary War (1775-1783) by simply lending money, safeguarding deposits, and
,
issuing banknotes. Commercial banks held $700 million of loans but the US had yet to
adopt a unified natural currency, and without that, participants in the banking system were
often left confused. Replacing the older state-owned banking system, the National Banking
Act of 1863 implemented a dual system of federal and state chartered banks. The era
brought forth the interest-bearing demand deposits; deposits which, over a century later,
would be used for proprietary trading.
5

During the civil war, banks heavily lent to fund the governments war efforts. The
initiative took off when American financier Jay Cooke underwrote a total of $1.5 billion of
capital for the Treasury. Following Cookes initiatives, many corporations began seeking
funds to grow and consolidate. This led to the creation of the modern day investment bank.
First, as a function of capital, investment banks increased their role during the boom
period (1920s) by raising debt for railroads and industrial companies that required capital
that extended beyond the capacity of traditional commercial banks. Second, the concept of
active investment banking emerged. Active investment banking represented the influence
of a banker through membership on corporate boards or other committees. The business
began moving from a capital-intensive model where the relationship was derived on a
banks ability to raise debt, to one where the investment banker was a CEOs advisor and
partner. Long-term relationships between CEOs and bankers were formed as CEOs looked
to their investment bankers not only for M&A / underwriting advice, but on a variety of
strategic decisions. In contrast to modern day where the investment banker is attached with
stigmas pertaining to excessive bonuses, risk-taking, and tax payer-led bailouts, the model

)
Beattie, Andrew. "The History Of Capitalism: From Feudalism To Wall Street."Investopedia. N.p., 04
Oct. 2011. Web. 26 Nov. 2014.

"'
where an investment banker is considered a stamp of approval beyond fairness opinions
required for company boards -- represents a stark contrast.

Analysis

The post-civil era represented the first evolution to modern day investment banking.
It began from raising capital for companies to assisting with M&A negotiations, to serving as
a CEOs partner in their most difficult times. At its core, M&A is one of the most important
decisions a CEO could make. An M&A transaction is the culmination of several years of
scrupulous planning with a CEOs advisors to engage in a long-term, illiquid transaction.
Unlike the stock market where one can enter a transaction on a Tuesday and exit on a
Thursday, M&A transactions by nature of their illiquidity are one of the most important
decisions a CEO will make during his or her career. Therefore, when contemplating M&A
transactions, CEOs had looked upon their trusted partner their investment banker to
serve as a vote of confidence to its board, its employees, and its partners. This was partly
due to the limited scope of large companies engaging in M&A transactions but it was
prominently because of the partnership model in place. M&A wasnt a commoditized
service, which banks competed for, based on fee percentage or debt capabilities. Instead, it
was the result of the multi-year process of building a long-term relationship with their trusted
advisor. In fact, Henry Ford the former CEO of Ford Motor Company once referred to his
investment banker at Goldman Sachs, Sidney Weinberg, as his best friend. In modern day
investment banking which is convoluted with conflicts of interests, it would be rare for a
CEO to consider a banker his friend.
These conflicts of interest emerge from the investment banks dual role of both a
principal and agent, with the investment bank sometimes taking opposing stances on the
""
same transaction. Ken Moelis, previously of UBS left the firm in 2008 to start his own
investment-banking boutique named Moelis & Co., with the intention of developing a
business model that reverts back to the old-fashioned investment banking model, which
focused on advice. In an interview with CNBC after defecting from UBS, Moelis affirmed
that clients appreciated the move. Some of my best relationships would say, thank you for
getting away from that [environment]. I know youre a good guy but I was concerned. I didnt
know what your CDS position was, whether you had a bank loan, what your research
position was, what your trading position was. And I think people are genuinely concerned
that these large organizations have some other agenda.
6

Post-Depression

The stock-market crash of 1929 brought forth the first major collapse of the financial
system in the US, with 40% of banks either failing or forced to merge.
7
The era represented
the first time the moral of bankers were questioned on a public scale. It was believed that
questionable practices by bankers led to the economic depression and correspondingly, the
public demanded external regulations are imposed on financial institutions. In fact, it is
widely believed that mirroring the events of the 2008 stock market crash; the Depression
could have been avoided with more stringent use of regulation. Prior to the depression, in
1907, following panicked selling on the NYSE, banker J.P. Morgan assembled a free-
market solution that transferred capital from healthy banks with excess capital to those who
needed it during the dire times. Twenty years later during the depression, after the Federal
Reserve had been established, the Fed refused to bail out financial institutions that were

+
Ken Moelis on Bloomberg Television. Bloomberg. 15 Oct. 2009. Television.
*
"The History of Investment Banking." WallStreetPrep.com. Wall Street Prep, n.d. Web. 04 Dec. 2014.

"#
going under ironically, to discourage the irrevocable behavior by investment banks,
perceived to have led to the economic collapse. Despite several other factors that played
into the depression occurring, such as the Federal Reserves push to keep interest rates
low in the 1920s, and President Roosevelts timid response to the initial signs of calamity,
Wall Street was perhaps unfairly the only segment of the population that was demonized as
a result of the depression.
The events that the public blamed Wall Street for were in many ways events that
recurred prior to 2008s Great Recession: excessive risk, overconfidence, and investor
exuberance. The policy response post-Depression was institutional change to increase
safeguards and ensure greater transparency in the financial markets. Several pieces of
regulation were introduced, including the Revenue Act, the Securities Act, the Securities
Exchange Act and the infamous Glass-Steagall Act. The Glass-Steagall Act prohibits
commercial banks from engaging in investment banking activities and vice versa, which led
to many commercial banks, such as JP Morgan being split up into separate entities (Morgan
Stanley and Morgan Greenfell, in JP Morgans case).
8
The use of individual depositors
money to engage in investment banking activities was widely viewed as excessively risky,
and by splitting up the activities of deposit-takers and investment banks, consumers could
rely on its commercial bank to safely preserve their capital. These new safeguards worked
well for many decades. It wasnt until the 1980s when the activities of investment bankers
were once again questioned.


&
"Time.com." Business Money Forget GlassSteagall Repeal Its the Securities Acts Amendments of 1975
That Really Did Us In Comments. Time, 02 Oct. 2008. Web. 14 Oct. 2013.

"$
Analysis

Until the great depression, the relationship between bankers and corporate CEOs
remained a sacred one that stayed out of the publics eyes. After the great depression, the
populace began expressing outlash at investment banks for using consumer deposits for
risky investing activities; this led to many modern day regulatory responses, including the
FDIC (Federal Deposit Insurance Corporation) which protects depositors funds up to
$100,000.
9
The prolific public outrage led to the break-up of many commercial banks and
wasnt repealed for several decades, in 1999. Unfortunately, the revocation of the Glass-
Steagall Act quickly led the industry to pursue the same excesses that the Act aimed to
avoid.
1980-1999

Beginning in the late 1970s, partly in response to shrinking commissions from
trading activities leading to decreased investment bank profitability, the industry began
engaging in proprietary trading activities and introduced a series of complex financial
instruments: structured financial products and more prominently, junk bonds. Banks
including Goldman Sachs, Salomon Brothers, DLJ, and Drexel Burnham Lambert began
hiring and grooming proprietary traders to conduct trades using the banks own capital. This
proved to be far more profitable than simply providing brokerage services or other
commoditized services to clients. At the same time, the United States economy was

,
The Editors of Encyclopdia Britannica. "Federal Deposit Insurance Corporation (FDIC) (United States
Banking)." Encyclopedia Britannica Online. Encyclopedia Britannica, n.d. Web. 03 Dec. 2013.
"(
booming as GDP grew at a rate of 7%, while equity issuances and M&A were up 20% and
25%, respectively.
10

Fueled by Drexel Burnhams Michael Milken, Debt issuances were also up 25% in
the 1980s and 1990s. Milken travelled across the country speaking to any investor who
would listen, informing them of the missed opportunity in junk (high-yield) bonds. Former
central banker Braddock Hickman, who detailed the default rates and returns on junk
bonds, inspired Milken. Based on Hickmans conclusions, Milken believed that junk bonds
offered an asymmetric risk / reward profile. Returns generated on junk bonds exceeded the
probability of default; particularly for large, national corporations who had received an
unfavorable credit rating but werent as risky as the markets had made them appear to be.
The junk bond market began booming in the late 1980s, and because many banks had
retreated from the space during the early 1980s recession, Milken and Drexel were able to
generate a monopoly on the market. Investors could take comfort knowing that any junk
bonds that Drexel underwrote would have a market for it, created and monitored by Milken.
Analysis

Junk bonds helped meaningfully raise capital for companies that had no other way of
obtaining debt to pursue acquisitions or growth strategies. Milken believed that many
companies were undeservingly labeled falling angels and were instead stable, blue chip
companies that had a low risk of default. In the event that the company did default, the
return was more than adequate. However, over time Milken began issuing high yield debt
much more liberally than when he first proposed his theory, and this led to companies with

"'
"Stars of the Junkyard." The Economist. The Economist Newspaper, 23 Oct. 2010. Web. 10 Nov. 2013.

")
no revenue and negative profits obtaining large amounts of leverage, on the basis that they,
too, were formidable institutions that had simply suffered a short-term blow.
The period also marked the beginning of an era marked by financial engineering.
The quintessential Wall Street celebrity was Michael Milken, not the trusted investment
banker. Milken was able to single-handedly raise Drexels stature from a boutique
brokerage firm to the no. 1 issuer of junk bonds in the world. The easy money would later
give birth to the LBO and fuel the countrys LBO boom.
LBO Boom

Junk bonds were later used to fund leveraged buy-out (LBO) activity. The first major
LBO was the acquisition of RJR Nabisco, a conglomerate that sold tobacco and food
products, by Kohlberg Kravis Roberts. Valued at $25 billion, the transaction was funded with
$6 billion of junk bonds underwritten by Drexel. The $6 billion mezzanine debt issuance was
so obscenely high that if Drexel were to gather every investor in any deal it had
underwritten, and each investor invested the maximum theyve had in any past issuance,
the RJR transaction would still double the value.
11

Though LBO funds were the primary user of junk bonds, many firms that had failed
to raise capital from traditional investment banks were willing to pay Milken lofty 3%-4%
fees (vs. 1% for investment-grade companies) to finance their expansion. The issuance of
junk bonds helped Drexel grow its market share in several peripheral businesses, which
marked an inherent conflict of interest prevalent across investment banks engaging in
similar behavior. When Milken underwrote a junk bond for a Drexel client, Drexel was often

""
Wilson, Jim. "The Collapse of Drexel Burnham Lambert; Key Events for Drexel Burnham
Lambert." The New York Times. The New York Times, 13 Feb. 1990. Web. 04 Jan. 2014.

"+
awarded investment banking advisory fees on the transaction, as well as future
commissions through its trading and brokerage arm. Similar conflicts were arising at
Goldman Sachs, though not in the junk bond business. In Goldmans efforts to combat the
squeezing margins Drexel felt, the firm began building up their asset management franchise
to serve as a principal on transactions and correspondingly earn a greater return than they
otherwise would have as simply an advisor. The desire for increased earnings in the Asset
Management business led Goldman Sachs to compete with that the firm may have also
been representing in an advisory role. For instance, the firm may have been representing a
client on an acquisition that its private equity arm, Goldman Sachs Capital Partners, would
simultaneously be seeking to acquire. In some cases, the client would have paid millions of
dollars in fees to Goldman Sachs investment bankers to represent them in an auction, only
to have been out-bid in the auction by, Goldman Sachs itself. The opaqueness of the dual
roles signaled the shift away from client devotion to managing conflicts.
After the junk bond industry increased six-fold in the first half of the 1980s, and
~$200 billion in junk bonds were being issued for M&A transactions, also at record highs,
financial institutions across the Street were reaping the benefits of the excessive fees.
Shareholders received larger premiums on companies they owned, encouraging them to
continue trading and investing generating fees for banks which boosted the share price
of companies and hence increased management compensation, while encouraging them to
pursue more transactions also generating fees for banks. They pursued M&A transactions
with an increasing reliability on junk bonds unsurprisingly, also generating fees for banks.
The vicious loop continued to reinforce itself until the late 1980s when one of Drexels
investment bankers, Dennis Levine, pled guilty to securities fraud in a broader insider
trading scandal. The SEC ultimately built a case accusing Milken of insider trading, stock
manipulation, and assisting in tax law violations. Drexel pled guilty on six counts of
"*
securities fraud, endured a $650 million fine, and agreed to fire Milken from the firm.
12
This
scandal, in addition to a slowdown in the economy, and large losses for junk bond investors,
led to the contraction of the junk bond industry.
Analysis

Whether through an asset management business, junk bonds, or other financial
mechanism, the industry had undergone a major transformation. The investment banker,
once the CEOs most trusted partner in the area of financial and strategic decisions, was no
longer basing their advice to pursue an M&A transaction solely based on its merit. Financial
institutions that sought to grow their market share could no longer rely solely on investment
banking revenues to increase earnings. Instead, the firm was incentivized to offer clients a
range of services that would earn the bank, and correspondingly the investment banker,
revenues.
The perspective from a CEOs lens had changed, too. For instance, private-equity
houses that relied heavily on the use of junk bonds in an acquisition would rely on Drexel
because of their confidence in Drexels underwriting capabilities, not on the basis of
Drexels advice or confidence in the transaction. Instead, private-equity firms had their own
view on the merits of a deal and were reluctant to seek the investment banks approval. In a
time when corporations were rapidly growing inorganically, the focus became less on
prudent and reliable advice from ones trusted investment banker, and more on which
financial institution was capable of underwriting the debt required. In a time where M&A was
prevalent across many industries, CEOs felt the urgent need to pursue large, industry-
transformative transactions, and quickly. As a result, the bond between a CEO and an

"#
"Stars of the Junkyard." The Economist. The Economist Newspaper, 23 Oct. 2010. Web. 10 Nov. 2013.
"&
investment banker became much more commoditized. Less emphasis was placed on the
advice as it was on the execution.

Many of the incentive systems in place, along with the general direction of Wall
Street firms in the 1980s portended the next major economic downturn in the early 2000s.
Dot-Com Boom

The next time Wall Streets credibility had been questioned was during the late
1990s. It represented another cycle of market exuberance, unjustifiable investor confidence,
lack of due diligence, and Wall Street excess. As highlighted in Dan Reingolds book,
Confessions of a Wall Street Analyst, the dynamic between the investment banker and CEO
meaningfully evolved during the Dot-Com Boom.
13

The dot-com boom was initiated by a large wave of technology companies seeking
capital to help build and grow their businesses. Among the long list of businesses that were
caught up in the bubble include Amazon, WorldCom, Nortel, Broadcast.com, among others.
As internet companies began seeking capital, equity issuances rose to record highs and
there began another bubble. Companies with virtually no revenues were going public and
investment banks including Goldman Sachs that had previously enforced policies outlining
the minimum required revenues and earnings a company must generate before going public
abandoned these principles in an effort to generate fees and league table credit.
In the telecom industry, small companies with nominal revenues were going public and
growing larger by acquiring smaller players. How does a company with nominal revenues
and negative earnings get larger by acquisitions? Using stock as its currency. With inflated

"$
Reingold, Dan, and Jennifer Reingold. Confessions of a Wall Street Analyst: A True Story of inside
Information and Corruption in the Stock Market. New York: Collins, 2006. Print.
",
multiples on companies that produced no actual profits, many technology and telecom
companies were using their equity to fund acquisitions, in hopes that the combined
company would produce revenue synergies in the future, thus helping justify an increase in
the combined companys stock price and P/E ratio.
From Wall Streets perspective, IPO issuances and M&A activity was booming, and as a
result the fees did, too. Stock prices continued an upward trend and investors of all risk
tolerances were investing in the latest dot-com stock. This created an issue for research
analysts on Wall Street, as they were required to provide buy / sell ratings and
corresponding target stock prices for companies whose prospects were based solely on
superfluous management assumptions. The research analysts behaviour following the dot-
com bubble was at the center of Elliot Spitzers case against Wall Street, in which
permanent, structural changes were implemented to prohibit interaction between research
analysts and investment bankers.
Following the 1980s LBO boom, companies viewed their investment banker as just
one part of a large institution of financial service products, not a long-term strategic partner.
After the repeal of Glass-Steagall in 1999 following a push by Travelers CEO Sandy Weill to
ensure that the merger between Travelers and Citigroup consummated, financial
supermarkets such as Citigroup were formed, but even traditional investment banks such as
Goldman Sachs and Morgan Stanley provided a whole slew of services such as debt /
equity issuances, research reports, and M&A execution. Given the euphoric state of the
industry, many companies were seeking equity issuances and only a limited number of
banks had the capacity to underwrite those issuances. Thus, pressure mounted on the
banks to ramp up capacity in an effort to underwrite the highest number of deals for fees
and league table credit.
#'
Dan Reingold further explained that while working at Merrill Lynch, the firms
research department was under intense pressure as clients often attempted to sway the
ratings of sell-side analysts by inferring that only financial institutions that gave the firm
positive ratings were deserving of its business, including sought-after IPO and M&A
transactions. Therefore, pressure rose for research analysts to continue offering up buy
ratings and optimistic views on companies that lacked profitability and any basis for growth.
The period resulted in several charges against many industry executives. Jack Grubman of
Salomon Smith Barney, earning over $25 million a year as the highest paid research
analyst on Wall Street, was tangled in several conflicts of interests. On one instance, he
upgraded AT&Ts stock as a bribe to offer his children admission to an elite New York
private school. In many instances, Grubman was involved in M&A transactions at Smith
Barney, posing a discernible conflict of interest due to the unprecedented access he had to
proprietary information that he then used to publish to institutional investors and build a
reputation as an omniscient analyst. Grubman was ultimately barred from the securities
industry for life and fined $15 million by the SEC.
14

Analysis

Continuing with the trend of M&A evolving into a commoditized service, the dot-com
boom demonstrated that M&A activity no longer required years of analysis by a CEO and a
partner. Instead, technology companies felt the need to keep up with the pace of the growth
in the industry, and saw M&A as a quick way to grow inorganically using their equity. The
value of the equity was validated by investor sentiment, which was derived from the views
of research analysts. Therefore, companies ceded control of their growth to research

"(
Guyon, Janet. "Jack Grubman Is Back. Just Ask Him." CNNMoney. Cable News Network, 16 May
2005. Web. 04 Nov. 2013.
#"
analysts who had complete authority over a companys share price. As a result, research
became perhaps the most important function for an investment bank, as a positive research
rating was the single pre-requisite to generate revenues in other businesses. If a research
analyst were to issue a positive rating on a company, it could generate investment-banking
fees, debt underwriting fees, IPO fees, and increase trading commissions. Frank Quattrone
of Credit Suisse realized the importance of research analysts and developed a
compensation structure which awarded analyst compensation based on a percentage of
total investment banking revenues. The research business was intended to provide
unbiased views for institutional investors, who would in turn use the research as part of their
diligence efforts. The new Wall Street structure transformed the business into an entry point
for a pipeline of fees that could be generated by corporate clients. Once again, the model of
investment banks being partners and stamps of approvals shifted to one where investment
banks were simply large conglomerates that you went to for execution, not advisory
purposes.
Takeaways

Throughout every boom, particularly the dot-com boom and LBO boom, companies
on the other side of investment banks felt enormous pressure to grow as quickly as Wall
Street would allow them to. If a tech company wasnt growing through acquisitions, then it
was failing to keep up in a world where Amazons, eBays, and Yahoos were emerging. The
only way to grow as a tech company with no revenues, no assets and no debt capacity was
by funding growth through the companys equity. The impact of a change in a companys
research rating had major implications, even on promising companies such as Amazon. In
2000, analyst Ravi Suria of Lehman Brothers posted a research report probing into
Amazons losses, and the stock subsequently fell 20%, considerably hindering its ability to
##
use stock as form of currency.
15
In hindsight, from a CEOs perspective during the dot-com
boom, Wall Streets prevalence on a companys plans was hard to ignore. As competition
grew in size and scale, many of these companies recognized that in order to maintain their
position against the benchmark was by accessing equity financing thus using stock was a
greatly cherished tool. Knowing how sensitive a stock was to the views of research
analysts, the only way to grow a company was to appease the research analysts. They had
complete control over the only form of currency to pay employees, acquisition targets, and
even suppliers.
Furthermore, CEOs of these technology companies didnt view investment banks as
partners, but firms they need to impress their entire business relied on it. The many years
of service that an investment banker would provide to serve his or her client was quickly
reversed with the CEO now having to pitch their companies to the investment banks.
Through meetings, investor days, and the allure of high fees, companies felt the need to
prove their companys worth to investment banks. A company that failed to garner the
praise of research analysts could fail to generate meaningful traction from investors to raise
funds for an IPO. Even existing public companies were exposed to these risks, as their
value would quickly dwindle if any investment bank were to lower their ratings.
In the early-to-mid 1900s, investment banks were fighting for the CEOs attention in
an attempt to build a long-term relationship. In the late 1900s and early 2000s, a shift
occurred where corporations were now competing to capture the attention of established
investment banks in an attempt to gain credibility.

")
Stone, Brad. The Everything Store: Jeff Bezos and the Age of Amazon. N.p.: n.p., n.d. Print.

#$
Case Study: Goldman Sachs

Goldman Sachs has experienced, first-hand the changes in the dynamics between
investment banks and corporations. From its modest beginnings as a partnership that
provides capital to its role as a trusted advisor to boards and CEOs to its current stature
that has led Rolling Stone Magazine to label it a blood-sucking vampire squid
16
, Goldman
Sachs is the quintessential investment bank that lost its roots after an array of internal and
external changes. Below is a timeline detailing the investment banks history.
History

1869 1929
Founder Marcus Goldman began in 1869 by selling promissory notes from a one-room
office on Pine Street. After hiring his son-in law, Samuel Sachs, they together formed
Goldman, Sachs & Co. The firms expansion was modest but nonetheless, impressive. By
1904, its capital reached $1 million and shortly after, the firm co-managed its first IPO for
United Cigar Manufacturers. This period also brought forth one of the companys future
leaders, Sidney Weinberg, who joined the firm as a janitor and 1907 and twenty years later
was the second partner at Goldman Sachs who was not from one of the two founding
families. The company also suffered its first major reputational and financial loss by
engaging in trading after the newly appointed CEO, Waddill Catchings, pushed for the
creation of the Goldman Sachs Trading Corporation. The subsidiary invested in highly

"+
Taibbi, Matt. "The Great American Bubble Machine." Rolling Stone. Rolling Stone Magazine, 9 July
2009. Web. 01 Feb. 2014.

#(
leveraged investment trusts and suffered heavy losses as the stock market collapsed.
Goldman Sachs vowed to remain out of the asset management business.
1930 1969
After the Goldman Sachs Trading Corporation losses, Waddill was forced to resign and
replaced with Sidney Weinberg, who took over leadership as a senior partner and began
building its investment banking operation. As a function of Goldmans partnership model,
the Sachs family covered the entirety of the trading losses.
Weinberg individually held 30% of the companys shares and proved to be pivotal to
Goldmans pristine reputation in the mid-to-late 1900s. He began his tenure at Goldman by
organizing the Business and Advisory Council for President Roosevelt in 1933, which
helped bridge business and government during the New Deal. This was during the same
time that that the Glass-Steagall Act was passed by Congress, which separated commercial
and investment banks.
Between 1942 and 1945, Weinberg took a brief break from Goldman to serve in the
government as the chairman of the War Production Board where he would build many of
the relationships that would soon become Goldman clients. To provide insight into the scale
of Goldman Sachs during this period, the firm held just 1.4% market share in underwriting
activities, but could soon look forward to a slew of underwriting mandates, including Ford
Motor Cos IPO.
Sidney Weinberg retired in 1969 but not without his hesitations of leaving Gus Levy a
trader and not a banker, as had historically been senior partner. The topic was of great
dissonance; with many partners believing that a trading mentality would shift Goldman
Sachs form the trusted, client-focused reputation it had attained after decades of investment
#)
banking business. The clients Goldman acquired would continue to be from its investment
banking activities, but with its trading business representing a greater proportion of the
firms revenues vs. investment banking, traders began exuding greater influence within the
firm. To help provide a balance, Levy would be appointed partner but a management
committee was created comprised of individuals from across the firm bankers, traders,
and even risk managers to oversee any senior partners decisions. Immediately after
taking the reigns, Levy began bolstering the client trading business but steered clear of
asset management, until Levys introduction of the Investment Management service.
Throughout Sidney Weinbergs tenure at Goldman, he helped institute a culture that stuck
with Goldman for many decades to come. A major component of this culture, and later the
justification to avoid going public, was its partnership model. Partners were expected to put
the firms interests above their own and nearly all of partners earnings were re-invested in
the firm. When partners lost, they lost together. And when they won, their earnings we
reinvested into the partnership model. Among the firms many axioms was one that
emphasized leaving the firm in a reputationally and financially better position than the firm
they had inherited. The composition of partners also wasnt limited to the front-office
revenue generators. Partners included risk managers, back-office support staff, and viewed
them as equally as the trading partner earning multiples more than they did. Partners were
also discouraged from flashing their wealth, abiding by the mantra Wealth is for creation,
not display. Partners earning millions of dollars a year lived in modest apartments and
drove Fords to demonstrate their loyalty to the firms trusted client. And despite this
difference in approach, potential recruits were eager to join the firm and were willing to forgo
a meaningful amount of compensation (relative to other firms), for the prospects of one day
attaining a famed partnership at Goldman. The partnership model was sacred and awed
#+
across Wall Street, yet was inherently noble and emphasized client-service, not
compensation.
1970 1990
This period began with the amendment of NYSE rules in 1970 allowing investment banks to
consider pursuing an IPO. Merrill Lynch was the first investment bank to go public in 1971,
while Goldman Sachs was facing its own domestic challenges. Mainly, the litigation that
followed the bankruptcy of Penn Central Transportation, including $80 million of bonds that
Goldman underwrote; the launch of its first office in London, its private wealth division, and
its fixed income division,
In the early 1970s, pursuing a public offering had yet to be seriously considered by
the firm. At the time, the market was focused on hostile takeovers companies that were
seeking to acquire target companies by approaching shareholders directly. Investment
banks played an important role, representing both the acquirer and the target. Goldman
Sachs emerged as the preeminent defense advisor opting to only represent the targets of
hostile takeovers, further establishing the firms brand as a trusted partner.
In 1976, John L. Weinberg (Sidney Weinbergs son) and John Whitehead were
appointed senior partners following Levys death. Though both senior partners were from
investment banking backgrounds, this didnt impede Goldmans explosive growth in its
trading operations. As the firm grew larger and diversified its businesses, Whitehead drafted
a set of 14 principles that Goldman identified as its core values. Famously, the list began
with Our Client Interests Always Come First.
In 1981, after Salomon Brothers went public and Goldman looked for continued
venues for growth, it acquired J. Aron & Co,, merging it with the fixed income division. Lloyd
#*
Blankfein, who was a J.Aron employee, would later serve as CEO beginning in 2006. In the
meantime, the firm would undergo unprecedented growth.
Amidst the departure of Whitehead in 1985, Goldmans capital base was $1 billion,
and since nearly every prominent investment bank had already gone public, Goldman
seriously began debating the merits of a public offering. The sentiment internally that
engaging in a public offering risked eroding the firms client-focused culture and would
undermine the partnership model that Weinberg and his successors had spent creating
enforcing. Instead, the firm opted to raise $500 million from a Japanese partner, Sumitomo
Bank.
With the new influx of capital, Goldman launched the Water Street Corporate
Recovery Fund with the intention of investing its own capital alongside clients. After the
launch of the fund, clients reacted furiously, threatening to boycott Goldmans trading desk
after accusations of the banks abuse of conflicts of interest. In fact, the executives running
the fund were from investment banking backgrounds, which alarmed clients who were
concerned that Goldman would use proprietary investment banking information to benefit its
investing arm. Despite the Water Street Corporate Recovery funds profitability, Goldman
opted to shut down the fund. The dismantling of the fund sent a strong message that
Goldman was dedicated to its clients and wouldnt compromise their interests in the pursuit
of increased earnings.
Another sign of the firms client-focus was in 1987 when Goldman had agreed to underwrite
$100 million in debt for British Petroleum. After a global stock market crash where every
other investment bank subsequently reneged on their underwriting obligations, Goldman
opted to continue with its agreements, despite costing each partner millions of dollars each.
#&
The firm prided itself on acting beyond the legal line to a moral standard only its own
partners could uphold.
1991 1999
The early 90s began with the bankruptcy of Drexel Burham Lambert, the fifth largest
US investment bank at the time, due to Milkens insider trading allegations. At the same
time, Goldman saw a shift in leadership, with Robin Rubin (trader) and Steve Friedman
(investment banker) taking charge of the firm as co-senior partners. The backgrounds of the
two CEOs was promising, signaling that Goldman would be emphasizing trading activities
while continuing to focus on investment banking clients. However, just one year later in
1992, Rubin left to serve President Bill Clinton as his assistant on economic policy. Taking
the firm public continued to be a point of discussion, having been seriously considered at
least half a dozen times since the mid 1980s.
1994 was a transformative year for Goldman as the bank experienced first-hand the
constraints of the partnership model. After a massive scam by media mogul Robert
Maxwell, Goldman paid out $253 million in settlements, and as a result, a meaningful
number of partners exited the partnership, taking their capital with them. One M&A banker
even declined entry into the partnership, which was appalling to the other employees who
had spent a decade working tirelessly at discounted compensation levels in hope of one
day joining the partnership. In fact, many believed that the only incentive to keep their
capital in the partnership was for the prospects of an IPO.
In the same year, Steve Friedman retired as senior-partner just four years after
taking the role, leaving Jon Corzine, with no experience in any division except trading, as
sole-partner. Corzine, along with Hank Paulson, led the beginning of a large cost-reduction
#,
program, while limiting the withdrawal of partners capital. At the same time, proprietary
trader Eric Mindich became the firms youngest partner at 27, showcasing the shift to
trading activities.
In 1996, with Corzine and Paulson pushing for less reliance on M&A activities, the
firm aggressively expanded in international markets and proprietary investing and asset
management. The IPO idea had been brought up again but turned down due to concerns of
the impact on culture, moral obligation to future generations, and the attractiveness of the
business model. Instead, in an effort to minimize defects of VPs to other investment banks
that offered a more senior, managing director title (at Goldman, there was only VP and then
Partner), the firm introduced a Managing Director title. Another signal of the shift in culture
came a year later in 1997 when Hank Paulson (then promoted to Co-Senior Partner)
reversed Goldmans long-standing policy of not advising on hostile takeovers.
The IPO decision finally culminated in 1998 when despite significant pushback from
former senior partners Johh Weiberg and John Whitehead, Goldmans partners voted to
pursue an IPO. At the same time, Sandy Weill of Travelers announced intentions to lobby
congress to repeal Glass-Steagall in an effort to ensure that the merger of Travelers and
Citicorp that created Citigroup, would be consummated.
Though the decision was pushed back several months due to a recession in Russia,
the IPO was completed in 1999. Following the IPO, one more business principle was
added: a commitment to provide superior returns to shareholder. As a sign of the shift,
Goldman began taking new dot-com companies public with negative earnings and nominal
revenues repealing its underwriting policy of only taking companies public if it had been in
business for three years, with consistent profitability.
$'
2000 2006
The early-to-mid 2000s brought forth a promising period for Goldman investors but
signaled further deviation from its partnership culture. First, Paulson announced that the
firm would be embarking on a mission to become the worlds premier securities firm, no
longer limiting itself to client-oriented investment banking and trading activities. Paulson
also made a bold claim that 15%-20% of the firms employees add 80% of the value.
However, those same employees began defecting en masse once restricted IPO stock
vested and opportunities in the alternative investing space became more attractive. As a
result, the firm that once prided itself on modest pay in hopes of achieving something
greater in the form of partnership status began having to retain employees with lavish pay
packages, proliferating the star culture that the firm once relegated to less-sophisticated
competitors. For instance, in 2006, the head of Goldmans Special Situations proprietary
trading group earned $70 million, 1/3 more than the CEO, after threatening to leave to a
hedge fund that promised more lucrative compensation.
Second, conflicts of interest even within the M&A space became discernible and
commonplace. In 2005, the firm represented both sides in the NYSE and Archipelago
merger, earning a $100 million fee while blatantly being incentivized to ensure the
consummation of the transaction. In the same year, Peter Weinberg, nephew of John
Weinberg, left the firm in order to start a new M&A investment bank, Perella Weinberg, with
former Morgan Stanley investment banker Joe Perella. Weinberg would later cite the
investment banks riddled conflicts of interests and internal agenda as the catalyst for
starting Perella Weinberg.

$"
2007 Present
In 2006 the firm made a decision to proprietarily short the housing market but still
acted as counterparty to investors that sought to take the other side of the bet, in some
cases even advising investors to do so. In 2007 this bet helped the firm earn a record $11.6
billion of profits. A year later in 2008, when the mortgage market collapsed, Goldman was
pressured to turn into a bank holding company and accept a $10 billion investment from the
governments TARP (Troubled Asset Recovery Program) fund.
In 2010, the firms decision to pursue the other side of the mortgage market came
under scrutiny when trader Fabrice Tourre had allegedly failed to inform clients that Abacus,
the investment they were being pushed to go long on, was designed as a portfolio for John
Paulsons investment fund to short. Traders had also provided their own internal views on
the security, citing it as a business that is totally dead and further claiming that the poor
little subprime borrowers will not last too long!!!
17

Amidst the crash, several pieces of regulation, including the Dodd-Frank Reform that
mandated proprietary trading restrictions, effectively limited Goldmans capital in proprietary
trading activities to 3% of the firms business. Despite vowing to abide by regulation set
forth, the firm became globally vilified as a symbol for the greed and excess prevalent in
Wall Street, which became the sole focus for the Occupy Wall Street movement in 2012.
Further exacerbating the disdain was Greg Smiths New York Times op-ed announcing his
resignation from the firm, citing conflicts of interest, a changing culture, and a muted focus
on client interest.

"*
"The Case Against Fabrice Tourre." The New York Times. The New York Times, 08 July 2013. Web.
02 Mar. 2014.

$#
Reflections

In the firms pursuits to grow as the worlds preeminent securities firm, the company
has more recently found itself crossing legal and ethical lines. One could argue that the
reputational change was beyond the firms control. For instance, if the firm hadnt began
exploring alternative business lines, it wouldnt have been able to grow partners capital at a
sustainable pace and the firm would risk imploding due to the increasing number of firms
rapidly expanding during the same time period. One could also argue that by using its
balance sheet to avoid the turbulence in the mortgage market was Goldman able to earn its
partners and shareholders a return on their investment when nearly every other investment
bank had faced much more dire straits.
The original business principles were designed to help guide the firm through the
difficult balance of short-term and long-term success. However, as the firm began to grow in
the late 1990s, the focus became narrowly short-term; as in, how do we ensure we
capitalize or avoid this current circumstance?
Another alarming change is the firms push to abide by the legal constraints of the
law, as opposed to the ethical constraints of the partnership. When John Weinberg decided
the firm would continue with its promise to underwrite BP debt, he did so not because the
firm was legally obligated to Weinbergs family was set to lose $33 million from the
transaction but because it was in the clients and therefore the firms best long-term
interests. On the other hand, when Goldman viciously defended itself against the SECs
allegations against the firm and Fabrice Tourre had misled clients, it responded by claiming
it had no legal obligation to inform clients of its conflicts of interests.
$$
Goldman Sachs has exemplified many of the changes that the modern day
corporation has faced. Mainly, the focus on the short-term has created a cycle that
dismisses the opportunity for long-term success, or in other words, the ability to remain
long-term greedy. The change in Goldman Sachs and Wall Street culture reverberates
across every company that retains investment bankers, not as their best friends but instead
counterparties that they have to be careful around. And when companies take a reactive
approach, having to find a response to appease the analysts that control a companys fate,
then its understandable why companies opt for a short-term solution instead of a set of
proactive plans that seek to be as long-term greedy as their advisors once were.
The Problem

There exists a deep rooted and intrinsic flaw in todays capital markets system, as it
relies on the approval of research analysts to validate a companys business model. Not
customers, investors or growth, but research analysts that were initially considered only one
of many ways to obtain independent views in attempts analyze a companys valuation.
Companies forgo long-term growth to achieve quarterly success success that is principally
determined by the independent views of research analysts. Those views should remain
independent and be one of many tools used to analyze the success of a company. The
pressure that companies face to meet quarterly earnings hinders its ability to make long-
term, strategic decisions.
The Importance of Research Analysts

Prior to the dot-com boom, institutional investors had extensive experience investing
in large, blue chip, Fortune 100 companies that based their value on free cash flows,
$(
tangible assets, and a clear growth trajectory. Imagine their concern when in the early
2000s companies emerged that were growing exponentially, yet were impossible to value
using any traditional method of valuation. Benjamin Graham, renowned value investor,
based his entire investment thesis on valuing companies as a function of Current Assets
Total Liabilities. These high-flying tech stocks not only had virtually zero current assets, but
they had enormous amounts of liabilities and were dramatically outpacing the growth of
traditional old-line companies.
These tech stocks earned nominal revenues, negative profitability, and lacked a
valid business model, but were worth billions of dollars. Their value was validated through
the combined efforts of management optimism and research analysts who supposedly
found a way to value these companies based solely on future growth. For any institutional
investor that was accustomed to traditional methods of valuation, their primary source of
valuation became the research analysts. These analysts, through an intimate understanding
of the industry and relationships with key CEOs were relied on to provide a basis for
valuing these esoteric, unprofitable companies. This view was further proliferated by
individuals like Jack Grubman, who obtained inside information from CEOs in exchange for
positive ratings information he published in research reports that earned him the trust of
institutional investors. Grubman went on to earn accolades for his purported expertise, and
thus investors placed greater confidence in the belief that research analysts held the
answers to valuation. These prescient views turned out to be entirely on the basis of
arbitrary assumptions and inside information.
Prior to this era, companies that missed earnings targets were able to rely on their
long-term investors offering them the benefit of the doubt because of their intimate
understanding of the company and its management team, as well as a clear understanding
of its future strategic plans. But in the dot-com boom, companies proliferated with no track
$)
records, and no clear roadmap for the future; therefore, the main basis for a companys
valuation was the research analyst, and a company that missed earnings was instantly
doomed for failure. To help mitigate this, CEOs of these companies often leaked their
earnings results to analysts ahead of their earnings calls, ensuring that the analysts
estimated results in line with what they would deliver. In the cases that they didnt meet
estimates, they were penalized with a significant decline in share price. Due to the
implications that missing earnings targets had on a companys share price including its
owners personal wealth, its ability to garner trust from investors, suppliers and customers,
and its ability to grow and compete companies like Worldcom went to great extents to
prevent share prices declines, in any way possible, including manipulating financial
statements.
18

Providing inside information to a research analyst has always been illegal, and
though our system has ridden itself of outright crime, the overarching culture in the industry
hasnt changed. Companies still go to great extents to meet analyst guidance and those that
fail to do so are punished with a hammered share price. Though the stakes arent as high
any more, the outcomes are material and consequently impact the way companies think of
their long-term plans.

Why Private Companies Work

Public companies possess investor bases that comprise a breadth of retail and
institutional investors. On the other hand, a private equity funds LPs are generally
comprised exclusively of sophisticated institutional and high-net-worth investors. Private

"&
"Worldcom's Ex-boss Gets 25 Years." BBC News. BBC, 13 July 2005. Web. 03 Feb. 2014.

$+
equity firms are able to make decisions based on the five-year life of a fund and are able to
trust that their sophisticated investors are able to weather short-term fluctuations in
performance, and are willing to stand-by the company for capital infusions in the future, if
necessary. Public companies have the fiduciary responsibility to provide long-term
shareholder value, and private equity firms have a fiduciary responsibility to maximize
investor returns. Though the objectives are similar, the public markets have proven to be
less tolerant to any blips that a company faces, and also less likely to favor long-term
strategies that are based on the performance of several variables, beyond simply ensuring
quarterly earnings are met. This focus on quarterly earnings has prevailed across public
equity markets and appears to be a structural issue that requires further analysis before a
solution can be proposed.
A recent Harvard Business Review report analyzed how an investor behaves when a
company chooses not to release earnings guidance. According to HBR, when CEOs dont
deliver a concise, informative message on quarterly results, investors assume the worst and
the stock is typically punished as a result.
19
Another HBR article on earnings guidance
discussed the positive effect that releasing guidance has the increased transparency
helps fill the void of uncertainty by setting realistic expectations, and as a result, investors
reward such behaviour.
20
HBR suggests that share prices decline when investors dont
have a clear understanding of managements message; therefore, this leads one to believe
that the key issue is transparency. Management has just one chance a quarter to update

",
Fox, Justin. "HBR Blog Network." Harvard Business Review. HBR Global Edition, 24 Jan. 2012. Web.
02 Oct. 2013.
#'
Lev, Baruch. "November 2011." Harvard Business Review. HBR Global Edition, 2011. Web. 02 Oct.
2013.

$*
investors on their plans and strategy. Outside of this quarterly update, opportunities dont
exist for management to explain their plans. The opaqueness concerning performance
leads investors to seek the guidance of research analysts to help build a thesis on the
companys performance. Thus, CEOs feel the mounting pressure to meet results during the
one of just four times a year when management is scrutinized.
Two possible solutions exist. First, perhaps sharing progress and plans on a more
consistent, timely manner would avert unwarranted expectations and help management
control the flow of information. More often than not, research analysts base their target price
and expectations on internal models in an effort to correct or provide further insight into
managements own guidance often weeks or months outdated.
If management were to use sources such as their own investor page, journalists, or
social media to convey their objectives and progress, they can convey their own message
and in the process, eliminate arbitrary expectations while helping management realize their
own targets and acknowledge when theyve failed to meet them. This proposed process is
analogous to the hands-on approach that private equity firms adopt by setting specific goals
and then thoroughly monitoring the progress of the set goals. In turn, this would help
investors see a companys progress on a long-term, holistic basis.
Second, another major issue arises with the need for companies to attain long-term,
patient capital, predominantly from pension funds, as opposed to day traders. Companies
go public in an effort to seek a permanent source of capital. As an example, Goldman
Sachs switched from a partnership model to a public company to ensure capital for growth
and risky activities.
$&
As indicated in the case study on the firm, Goldman Sachs underwent a major
change in culture following its IPO. The firm is now less likely to live by its mantra long-term
greedy in order to meet quarterly estimates. Though it was the culmination of years of
debating and dissonance, an event in 1994 cemented the decision to go public. Goldman
had taken the wrong side of an interest rate trade and lost hundreds of millions, which
subsequently led to many high profile partners pulling capital out of the partnership, leaving
traders dry. Till that point, the partnership model had worked to ensure that Goldman Sachs
both had the required capital to grow as well as the ability to keep a long-term perspective
in mind, as stewards of the capital.
Examples

Several institutions have realized the risks of the short-term behaviour and have
offered their perspectives on changing the short-term sentiment. McKinsey published a
report in 2008 that examined the performance of pubic versus private companies. Though
public companies were applauded for their superior governance and management
development, the report suggested that private equity-owned boards are viewed as more
effective overall due to their stronger strategic leadership, performance oversight, and
management of key stakeholders.
21

In lieu of its public offering in 1997, Amazons Jeff Bezos stated its all about the
long-term and in an interview in 2011, Bezos discussed that when a company operates on
a three-year timeframe, there tends to be a lot of competition; however, when competing in

#"
"Insights & Publications." The Voice of Experience: Public versus Private Equity. McKinsey & Co.,
Dec. 2008. Web. 04 Nov. 2013.

$,
a 5-7 year timeframe, you compete against a fraction of those companies because very few
companies are willing to take longer term approaches to shareholder value.
22

Over the last five years, Amazon has increased its revenue and EBITDA by a CAGR
of 57% and 74%, respectively. The share price has also increased 452% in the last five
years, which is 4x greater than the index it trades on. Amazon has been able to achieve this
success by focusing very minimally on earnings growth, in many cases, slashing margins
for the sake of market share to establish a long-term foothold in an industry.
Unilevers chief claimed American-style capitalism is broken. To help implement
change, Unilever has aligned management incentives for the long-term and invested in
R&D. The CEO has also refused to issue quarterly guidance, under the belief that since
companies dont operate on a 90-day cycle for investment, marketing, or advertising
purposes, they just as equally shouldnt for reporting purposes. The day Unilever
announced they would be cutting guidance; the share price declined amidst investor
uncertainty, but quickly rose by 35% thereafter.
23

According to Ben Horowitz, former HP employee and venture capital partner at
Andreesen Horowitz, he found that during his time at HP, businesses were run with
intensely strict revenue and margin targets. The divisions that were able to make their
numbers did so by underfunding their R&D and according to Horowitz, this dramatically
weakened their long-term competitive position and set them up for future disaster. The

##
Jackson, Eric. "6 Things Jeff Bezos Knew Back in 1997 That Made Amazon a Gorilla."Forbes. Forbes
Magazine, 16 Nov. 2011. Web. 29 Sept. 2013.
#$
"Time to Put an End to the Cult of Shareholder ValueAdd to ..." The Globe and Mail. N.p., 26 Sept.
2013. Web. 28 Sept. 2013.

('
pursuit of ensuring that a company will provide consistent and predictable results can
certainly be achieved, but almost always at the expense of long-term success.
24

Potential Solutions

With the right incentives in place, management can provide activist / private equity
services in-house. As opposed to a large private-equity fund acquiring a company at a 20%
or greater premium, levering it up, conducting operational improvements, resulting in a
20%-30% annual return, a public firm can do that entirely by themselves by simply
operating with the same principles that a private equity firm does. In fact, there isnt
anything that a private equity firm is able to offer that a public company cant. The public
company has access to the same capital, same operational improvements, and same
performance metrics that a private equity firm has. And because it doesnt need to pay a
20% or greater premium, its returns can be even higher.
In order to structurally improve our capitalist system and avoid the systemic issues
mentioned throughout this report, several changes will be considered. These changes, in
unison, should help remove the short-termism prevalent in the modern day company.
Mandated Compensation Structures

In the current landscape of public companies, there is no standard basis for
compensation, nor any requirement for management to own a minimum equity stake in the
company. Lacking a standard for compensation is tenable given the varied financial profiles

#(
Horowitz, Ben. The Hard Thing about Hard Things: Building a Business When There Are No Easy
Answers. N.p.: n.p., n.d. Print.

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of companies in different industries. For instance, it is much more likely for a nascent tech
company to issue its management team equity than it is for a large industrials company.
Currently, the solution to align management interests with shareholders has been to
award a proportion of compensation in options or company shares. In this model,
management is incentivized to increase the share price as it correspondingly increases their
personal wealth, and accordingly benefits shareholders. The rationale is this: if
management does a good job running the company, earnings will increase beyond Wall
Street expectations, the share price will increase, and everyone is happy.
However, according to a recent study conducted at Stanford GSB, the merits of
equity ownership lack soundness and are susceptible to abuse. First, management teams
very rarely purchase equity stakes with their personal wealth. Instead, their stakes are
almost exclusively amassed through awarded options. Second, modest evidence indicates
that equity ownership is positively correlated with share price appreciation. In cases with
large ownership positions (25% - 50%), evidence suggests it actually leads to lower
valuations. The study also found suspicious trading activity that suggests the abuse of
insider information.
25
Though the SECs blackout period helps mitigate this, the potential
for abuse still exists. Moreover, simply awarding management equity doesnt solve the
underlying concern over managements focus on quarterly EPS in fact, it exacerbates it.
When a CEOs personal wealth is tied to the performance of the stock price, which is
inextricably linked to the companys ability to meet EPS numbers, the company is likely to
face even greater pressure to meet quarterly earnings.

#)
Larcker, David. "Executive Equity Ownership." Center for Leadership Development & Research.
Stanford GSB, 2011. Web. 03 Mar. 2014.
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According to HBS, private equity boards are more informed, hands-on, and
interventionist than public company boards.
26
The private equity approach to this issue is
focused on accountability, and two approaches have proved successful and scalable to
public companies: 1) Performance metrics; and 2) Management compensation.
First, instead of waiting 90-days to assess results of a single number, private equity
firms measure management teams on a slew of realistic performance metrics that extend
beyond EPS to cost savings as a %, revenue growth, capital allocation targets, among
others. These goals are both short and long-term and very clearly conveyed to
management. Private equity professionals request monthly reports form companies and
often engage with management on a weekly, and sometimes, daily basis with the intention
of enabling a consistent dialogue with management. Furthermore, results arent measured
solely on the monthly or quarterly reports, but instead over a longer-horizon to reflect the
time required to implement meaningful, long-term turnaround or growth strategies.
Second, private equity funds adopt a meritocratic approach to compensation and
employee retention. Managements compensation is based on whether theyve been able to
meet broad metrics concerning the companys financial profile and operating improvements.
Management is also rewarded a step-up in compensation if performing above hurdles. The
hurdles as well as the step-up in compensation are clearly outlined. Managers and
employees that fail to meet targets are quick to be terminated and replaced. Conversely,
because net income isnt the only determinant for success, management is much more

#+
"Learning from Private-Equity Boards." HBS Working Knowledge. Harvard Business School, 17 Jan.
2017. Web. 05 Feb. 2014.

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likely to pursue broader goals on the five-to-ten year horizon PE funds run, as opposed to
resorting to lay-offs to meet EPS targets.
Public markets should ensure that companies implement compensation plans that
more closely align with shareholders with inspiration from the private-equity model,
beginning with the consideration of compensation. Instead of awarding options set at
discounted values, management should receive a considerable proportion of compensation
through Restricted Stock Units (RSUs) that vest over a period of 1, 5, and 10 years. The
number of stock units received should also be a reflection of the companys performance
based on the variety of metrics previously mentioned, not solely EPS. Management
compensation and methods used to award should be publicly disclosed. By developing a
sound ration for compensation and awarding management with shares that vest over a
prolonged period of time, much of the concern around excessive compensation and
potential for abuse will be mitigated. Management should also be obligated to hold a
minimum portion of their wealth in the companys shares. Though this recommendation
risks further shifting managements attention on quarterly earnings, rethinking earnings
guidance, discussed below, can eliminate this concern.
Abandon Earnings Guidance

Instead of solely offering investors quarterly guidance, management should offer
greater transparency in a range of metrics. By providing more frequent goals that extend
beyond simple EPS guidance, management can outline a long-term plan that is measured
based on both quantitative and qualitative measures of long-term added value. As
previously mentioned, HBR suggests that share prices decline when investors lack a solid
gauge on managements message. By focusing their message on those investors focused
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on the long-term, management may be able to rid themselves of traders attempting to earn
a quick return before exiting the investment. At the same time, companies need to be
careful to not disclose things that will benefit their competitors.
When the pressure from analysts every quarter is stripped away, companies can
focus on the long-term and conversely, do what the capitalist system intended: make
mistakes. When there is no quarterly guidance offered and the only shareholders remaining
are the long-term investors, then a company can afford to make mistakes, learn from them,
and accordingly adapt and grow. At the same time, publishing long-term goals keeps
management in check and forces them to act like owners of the business.
Given that buying a share in a company implies ownership, adopting a view that only
considers arbitrary estimates of EPS is negligent. Metrics in the form of revenue growth,
customer loyalty and more broadly, progress made towards long-term goals would allow
investors to determine a companys value by making an informed decision on a companys
holistic prospects.
Lock-up Structure on Public Equities

Today, an investor can purchase a security in the public market on a Monday and
sell it the following Wednesday. Conversely, an investor purchasing a security through an
M&A transaction is likely to hold the company into perpetuity or at minimum, for 5-10 years.
Months or years of due diligence is conducted and once the ownership stake is acquired in
the target, great measures are instituted by the acquirer to ensure the companys success.
A shareholder in a public company that enters on a Monday and shortly after exits the
transaction should be considered a trader, not investor, as they simply put downward
pressure on the stock, usually without merit. Short-term micro concerns, external factors,
()
and rumours shouldnt be a basis for exiting an investment, yet its those investors that
skew a companys ability to remain focused on their main goal: providing long-term
shareholder value.
If a lock-up period was instituted on public equities, shareholders would become
much more focused on the long-term and act accordingly. This structure would imply that
any investment in public equity must be held for a minimum duration of one year. Therefore,
day-to-day concerns wouldnt affect a shareholder. This model can be built out further for
instance, if an investor would like to acquire 5% or greater of the companys outstanding
shares, the lock-up period perhaps increases to two years. This helps protect the company
against activist investors that acquire large stakes to exert influence and then exit after a
short-term increase in share price. Instead it promotes that investors acquire large and
controlling positions in companies that they believe will prosper over an extended period of
time. In December 2012 Dan Loeb published a report claiming that his fund had taken a
long position in Herbalife after conductive extensive due diligence and deemed it to be a
good long-term pick, with a price target of $70 an increase of 75% over its share price at
the time. Shortly after the stock rose to $55 due to the research report he published, he
exited the investment generating a considerable return.
27
If Loeb was forced to hold the
company for five years, he might think twice before amassing a large position to capture a
quick monetary profit.


#*
Celarier, Michelle. "Loebs 'long-term' Herbalife Investment Lasted Only 16 days." Loebs Longterm
Herbalife Investment Lasted Only 16days. New York Post, 12 Nov. 2013. Web. 22 Dec. 2013.

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Prohibit Outside Institutions From Speaking to Management

Much of the exuberance that existed during the dot-com boom was due to insider
information that analysts obtained from proprietary information that either belonged to other
parts of the banks, or management themselves. Following the barring of Grubman, the
Conflict Wall regulation is now in place, restricting research analysts and investment
bankers from interacting with each other. The Conflict Wall ensures that analysts base their
estimates solely on objective information available to the public, and not proprietary
information accessed through the banks investment banking arm. Despite this regulation,
every public company still employs a large investor relations teams to engage in dialogue
with research analysts and potential investors. Therefore, if only one of two of the original
catalysts for the research analysts criminal behavior has been resolved, the potential for
abuse still exists.
If the dialogue between analysts and management were to taper off, research would
become what it was originally intended to be: unbiased views of a company that should be
used as just one of many tools to analyze a companys performance.
Furthermore, research analysts would have the same information available to them as
investors. The retail investor would no longer have to worry about asymmetric information,
due to their minority stake in a security. Implementing this would level the playing field and
help mitigate much of the insider trading that is prevalent today.
Remove the Role of Sell-Side Research

Removing the role of a research analyst entirely would eliminate conflicts of interests
and force buy-side investors to conduct extensive due diligence before taking a position in
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an investment. The role of research analysts at a sell-side firm has evolved since the dot-
com boom. Because of the Conflict Wall, research is no longer used to generate investment
banking revenue through positive ratings, but is still meaningfully used to generate fees.
For instance, many mid-sized companies wont engage a banks investment banking
service if research analysts at the bank dont cover the companys stock. Often, a research
analyst will initiate coverage in an attempt to show the company that the bank understands
the firm and its operations. This is misleading because the investment bankers attempting
to generate fees are prohibited from engaging with the research analysts. Still, in order for a
company to trust that a bank believes in them, they often look for the bank to offer coverage
on its stock.
Despite the laws surrounding sell-side research in investment banks, the industry is
still prone to conflicts of interest. The vast majority of all sell-side research is published with
a positive rating, with a small portion allocated to neutral / sell ratings as a result of SEC
laws mandating the disclosure of the percentage of sell ratings. Todays research analyst is
not the same as the pre-Conflict Wall research analyst. Compensation has changed
drastically, as research analysts are no longer paid as a percentage of investment banking
revenues, but instead the compensation scheme is in a much narrower band and based on
institutional feedback. Therefore, many of the top research analysts are leaving for buy-side
funds, where their views extend beyond buy or hold, because their own capital is at risk
and the incentives are such that they are rewarded for sell / short ratings. The existing talent
that remains within the research arms of investment banks is still subject to appeasing
clients by rarely providing negative feedback. This structure doesnt provide the honest,
transparent analysis that should be a fundamental part of every investment decision.
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Removing sell-side research ensures that potential investors conduct their own research
based on information that is available to everyone. And if professional assistance is
required, that it come from a truly independent source. Rating agencies, for instance,
measure the financial profiles of companies yet arent run out of investment banks. They
operate as separate entities in order to ensure their objectivity. Research should be viewed
in the same light, as there remains very little justification for providing the service from
within the bowels of an investment bank.
Final Thoughts

Famed value investor Benjamin Graham once said, In the short-run, the market is a
voting machine but in the long-run it is a weighing machine.
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Is it rational to base a
companys going-concern value on its ability to meet earnings estimates? In our current
system, its the standard; and this standard erodes the long-term prospects of the modern
day company by focusing singularly on quarterly estimates. Organizations have increasingly
realized the detrimental effect this thinking is having on companies, yet very few have
sought to seek change. Certain anomalies such as Amazon and Unilever exist, but on a
broad scale, companies succumb to stakeholder pressures. Is it worth it to invest $100
million in capital expenditures when the non-cash flow based depreciation will adversely
impact your earnings? Is it worth it to hire a team of employees to build out R&D plans that
may not materialize for several years? In both cases, when earnings are a companys
principal concern, the focus shifts to short-termism.

#&
Graham, Benjamin. The Intelligent Investor. New York: Harper, 1959. Print.

(,
The capitalist system is based on a set of values that encourages risktaking, yet
after a company achieves a certain size; those values are replaced with conservative
approaches to appease shareholders. Long-term projects and acquisitions are untenable if
they fail to provide short-term accretion. This laser-focused short-term mindset risks
undermining the same culture that helped build the formidable institutions in our stock
exchanges.
An industry with $2 trillion of capital exists with the premise that by operating public
companies as private companies, returns in excess of 20% can be achieved. In fact, the
ten-year return in private equity is 10%, while public markets returned just 5.8%
29
. As Mr.
Ackman extolled, the strategies that private equity firms adopt are available to any public
company that wishes to adopt them. Adopting principles from private-equity firms would
help replace our short-termism with a longer-term horizon for making key strategic
decisions. Investing in R&D and capital expenditures, hiring employees for long-term future
projects, basing decisions on strategy and not just earnings - all of these are based
processes that help instill a long-term view and allow companies to make decisions to
ensure its vitality in the next decade, not just the next quarter. Yet these processes are
limited to private-equity backed companies.
It is therefore imperative that a structural change is made in the way the modern-day
company operates. Private equity-backed firms shouldnt be the only ones to aspire to 20%
returns. With a structural change premised on the solutions above, companies of varying
size can implement the processes required to ensure long-term success.

#,
Drean, Antoine. "Rethinking Private Equity." Forbes. Forbes Magazine, 15 Nov. 2013. Web. 17 Nov.
2013.