Saturday, May 07, 2005

Bankers Gone Wild!

No doubt the current (and quite public) animosity which erupted this past month at Morgan Stanley has been brewing and bubbling for the past eight years—when Morgan Stanley and Dean Witter initially merged. What was supposed to be a seamless combination of the brokerage arm of Dean Witter with the securities generation arm of Morgan Stanley has turned out to be anything but in the years since. In the past five years, Morgan Stanley earnings are down 3.6%--the only large Wall Street firm to report a decrease.

The recent drama began to unfold in December of last year when Scott Siprelle of hedge fund Copper Arch Capital sent a letter to the board of Morgan Stanley urging the board to return the firm to its former core business of investment banking. Mr. Siprelle’s specific recommendation was to divest the Discover credit card business as well as the investment management and brokerage arms of the business. Mr. Siprelle threatened board members with his opposition to their re-election if they ignored his advice. The letter went unheeded and a month later Mr. Siprelle went public. Days later Philip Purcell, current CEO of Morgan Stanley, appointed a board member in response to the outcry: an old acquaintance he had known since the founding of Discover. A couple of months later and shortly after Easter, three higher-ups at Morgan Stanley were apparently passed over for a promotion, and Purcell instead appointed loyalists to the co-president role and to the board of directors—the three passed up, who were highly regarded on Wall Street, promptly left the firm. In response, Dan Strickler, a former banker at the firm and owner of several million shares, wrote the board a letter which specifically demanded the replacement of Purcell. Former Morgan Stanley president Robert Scott followed suit and sent the board a letter demanding Purcell step aside as well. Two weeks later, famed investment banker Joseph Perella (along with his deputy) left the firm, joining the group of high ranking (and highly paid) bankers to leave the firm.

The fate of Mr. Phillip Purcell is closely linked with that of the Morgan Stanley-Dean Witter merged company. The implicit goal of the group working to remove Mr. Purcell from his position of CEO is to split the company—a return to the investment banking of Morgan Stanley and the retail brokerage of Dean Witter. Many analysts feel that Mr. Purcell simply must go, primarily to stop the further defection of top talent. They claim that unless a change is made, Morgan Stanley is doomed to spiral further downward. Many are incensed that Mr. Purcell has entrenched himself by stacking the board with loyalists. One analyst feels that Morgan Stanley will not prosper regardless of which side wins (Purcell or the dissidents); instead, the analyst calls for a “white knight” savior from the outside to come in and rescue the company. Another analyst agrees that this battle over the CEO position has done nothing but weaken Morgan Stanley’s image. Mr. Purcell’s aggressive efforts to retain power have tarnished the respected name of Morgan Stanley; however, the rival dissidents have also disparaged the company through their bitter public war. The dissidents offer no real plan for the future of the company and have only contributed to the destruction of Morgan Stanley’s value. Perhaps the most powerful commentary on the Morgan Stanley commotion is the voice of the financial markets—as soon as the board of directors announced their support of Mr. Purcell, Morgan Stanley’s stock tumbled 6%. The markets clearly feel there is more value to be obtained through the removal of Mr. Purcell (and likely split-up of Morgan Stanley), rather than allowing Mr. Purcell to continue to lead the company forward with his diversified financial services strategy. However, the voice with the most direct influence in this saga is that of the board of directors, and they clearly feel that the risk and discontinuity inherent to a change in CEO is not appropriate at this time; the board feels there is no “fair or compelling” case for change.

While it seems that almost everyone is calling for Mr. Purcell’s head, at least one analyst feels that Mr. Purcell has a winning strategy and will improve Morgan Stanley’s numbers. While there is no guarantee of Morgan Stanley’s future success, we agree that the best decision for the firm is to keep Mr. Purcell in his role as CEO. First, the recent loss of talented bankers is not a legitimate reason to remove Mr. Purcell now. The defection of talent that has occurred is a sunk cost; these bankers will not return to the firm even if Mr. Purcell is ousted. The only real argument for removing Mr. Purcell is that future defections will be avoided; however, we feel that the people that were upset enough to quit over this issue have already done so. In fact, the vacancies created by the defectors will most likely act as incentive for the remaining bankers to stay. The “loss of talent” argument is moot at this point; the board should have removed Mr. Purcell over a month ago if it wished to retain all of the dissidents—removing Mr. Purcell now provides little upside in regards to talent recovery. Furthermore, if Mr. Purcell is removed now, Morgan Stanley runs the risk of offending Purcell-loyalists and suffering another talent drain from the Dean Witter side of the business. Second, we feel that the disorder and risks involved in changing CEOs (and most likely a change in strategies) is not worth the potential gains at this juncture. In the short-term, replacing Mr. Purcell may result in a quick increase in the stock price, but this solution has no guarantee of improving the long-term shareholder value of Morgan Stanley. Finally, if the board yields to the dissident faction, they will be setting a precedent which will erode the board’s leadership and authority in the future. Ironically, the very dissenters who plotted against Morgan Stanley’s Phillip Purcell may have ensured that he remains at the helm.

Rich Foley, Jamie Hood, & Bryant Mitchell


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