January 30, 1990
Mr. John Weinberg
Chairman of the Board
For some time, I’ve felt that your industry, including Goldman Sachs, “sold your soul” when you elected to pursue the traditional big bucks fundamentally in conflict with your long term advisory role. If this is true, then all the bad things described in today’s New York Times’ article were inevitable.
The article mentioned the consultants helping with your introspection but didn’t mention any effort to talk to customers to get their view. Assuming all consultants are enthusiastic about customer inputs, I’m enclosing a letter I wrote you last September but, for a variety of reasons, didn’t send.
In the February 5th issue of FORBES, there is a J.P. Morgan ad striking a heroic posture about the deals they didn’t do. Good long term advice, etc. They didn’t say anything but uncoupling the deal from compensation structure. Apparently, they are pure enough to walk away from $10,000,000 fees with no conscious or subconscious effect on their professional advice- but I doubt it.
With my great respect for you, and the traditions of Goldman Sachs, I hope this current review will encourage you to take the lead in putting your customer relationship back into one of long term trust.
With best regards,
Raymond B. Carey, Jr.
Mr. John Weinberg
Chairman of the Board
Its an extraordinary time in which we’re living. The worldwide rush to Capitalism encourages steadily greater economic and political freedom. This shrinking world is becoming more ordered through the natural requirements of world business and political tensions decline with economic improvement and elimination of extreme ideological differences. Is it possible that world peace and prosperity, if not near, are being approached on an accelerated basis?
Within the U.S. workplace, Capitalism or, more appropriately, Democratic Capitalism is evolving on an accelerated rate to a new form, combining the energy of economic freedom with the idealism of communism. Marx was wrong on much, but he was correct that the system constantly searched for and evolved into its most productive mode. This mode now recognizes the productivity opportunities of tapping the ideas and energy of free people throughout the organization. Broader ownership and participation is happening and these new dimensions of profit seeking demand an environment of integrity and trust with recognition of the worth and dignity of each individual. Is it possible that Adam Smith’s invisible hand is powering an upgrading of the integrity level of industry and the quality of life of its participants?
This acceleration in both world unity and the moral level of industry comes after centuries of progress made slowly because of the inhibiting effects of those enemies of true Capitalism- the elitist with a zero sum mentality, the warrior state, and mercantilist gaining economic advantage through state involvement. A retrospection of the several hundred years of the Industrial Revolution shows an extraordinary paradox: Dramatic improvement in the quantity and quality of life for most, despite the persistent failure of leadership and the uncomprehending animosity of most of the elements of society. The visible evidence of greed and exploitation with the system conditioned most intellectuals, academia and media to their congenial view that the system was terribly flawed and prevented them from appreciating the positive momentum of the system producing the greatest social gains in history.
You may not agree with my thesis or my ability to express this optimistic vision of what’s going on in the world, but there’s a commercial. This progress into a more socially desirable form of Capitalism has been despite the external enemies but also despite an increasing polarization within Capitalism between Speculative Capitalism to Democratic Capitalism.
During the past five years, the effect of this has been an extreme concentration in the U.S. on short term goals and a dangerous distribution of wealth equation. The bottom of the pyramid has had years of rollbacks of fringes and 2% and 3% wage settlements while at the same time, the investment bankers, M&A lawyers, and certain CEOs have been accumulating extraordinary riches. Anyone that doesn’t recognize this type of imbalance as dangerous to the progress of the system is not a student of history. I wont try to summarize the pro and cons of the deal making frenzy. It is not well known that these providers of record capital infusion receive no appreciation or yield on their investment. The argument that its not their money is very limited. The argument that its another monstrous example of the Washington/Wall Street nexus, bad law plus greedy energy, is more appropriate.
Within this environment, the role of the investment banker has been demeaned by a fundamental conflict of interest. The exploitive technique of charging customers a fee based on a percentage of a total transaction where this pricing technique usually has no relationship to either creativity or risk and has as much economic logic as picking numbers off a freight car.
This conflict is not vague or theoretical. The investment banker is a key part of the restructured business plan. If a deal goes into an auction, his people regularly do the remodeling. But he also constantly emphasizes a non-participant’s role, “of course, we’re only working with management’s assumptions” you shouldn’t have it both ways. If you’re an advisor, get paid a fee not contingent on the deal. A corollary conflict is the director’s dilemma. In this whole spasm, no one has more responsibility for less return than the outside director (unless you’re on Wall Street where Hutton figured out how to rain money on outside directors). Where the projections are made and remade in an auction, where financing techniques with long deferred interest payments are recommended, there isn’t any question that the director is depending heavily on the investment banker in his/her effort to do the proper thing. Someday the business judgment rule will be tested after a failure. At that time directors will have to explain why they depended on advice from people to make a deal when a deal was worth $20 million to those people and no deal was relatively worthless. This conflict is so fundamental that its hard to understand how the percentage of the deal pricing became institutionalized. Hard- unless you recognize that originally it was slipped in during conditions where management was somewhat fatigued with little energy left to fight their investment bankers. Since then, the rationale has been neat comparisons of other deals usually evidencing modest fees. A practice I once described as an obscenity extrapolated from other obscenities.
I’m not sure you realize how broad and deep are the resentments against the whole investment banking community by the managers and directors of companies. The feeling is that your industry has abandoned the traditional role of steady advisor and has pursued exploitive profits in deal making. This polarization is a serious impediment to the progress described and continues to support the general impression of Capitalism as exploitive and greedy.
The usual self-correcting forces within our beautiful system are at work and, in time, assuming the government doesn’t try to get too involved, will correct this spasm probably into the long term detriment of your industry. There is still time for statesmanship within the industry however, and I cant think of anyone more appropriate to assume such statesmanship as you and Goldman Sachs, by the simple expedient of uncoupling investment banking fees from deal making percentages. When you risk your capital, you charge very high percentages; when you provide real creativity in a transaction, you have every right to charge for creativity, but you and your industry are both exploiting and encouraging a deal frenzy that, in most cases, is seriously counterproductive to the wonderful momentum of Capitalism described earlier.
I think the time is ripe, if not overdue, for someone in your industry to eliminate this fundamental conflict and, in the course of doing it, reaffirm the coalition of Financial Capitalism and Democratic Capitalism, rather than the polarization and animosity that now exists.
With best regards,
Raymond B. Carey, Jr.