Goldman's Problematic Dual Role as Advisor/Buyer in M&A Deals

Big buyouts attract a great deal of attention. In an earlier post we noted the fine line some investment banks walk in their dual roles as both adviser to and investment buyers of certain companies in going private transactions. We noted that if, and when, the buyout boom ends badly these very same firms will get scrutinized for these potential conflicts.

Landon Thomas Jr. in the New York Times expands on this thesis by holding up Goldman Sachs (GS) as the exemplar of this business model. (Not too long ago we noted that Goldman could be viewed as an “alternative investment proxy” for its success in private equity and hedge funds.) Goldman’s success in using their principal investments as a source of business for other lines of business is both envied and now becoming copied by other investment banking firms.

“Investment banking has become a loss leader for the principal investments area,” said Richard J. Barrett, a former top investment banker at Credit Suisse First Boston. “The name of the game is principal investments, including private equity.”

The challenge for Goldman and others is to try and keep not only all of your internal business units happy but also the clients.

“I’m amazed that Goldman has been able to walk this very thin line between investment banking and merchant banking,” said Brad Hintz, a Bernstein analyst and the author of the report. “And the fact that Merrill is imitating Goldman tells you that the Goldman model was right.”

We would recommend the Thomas article to those of you interested in the changing nature of investment banking. Goldman, for now, is the king of this synergistic business model. The question is how long it can it continue.

Some corporate executives already believe the market for acquisitions is already overheated. DealBook highlights some comments by the chairman of McGraw-Hill (MHP) on the effects of “excess liquidity”. In short, they are reluctant to spend cash on acquisitions that are valued at “enormous premiums.” Instead they are focusing on share buybacks.

Grace Wong at CNNMoney.com looks at the potential downside of going private transactions on the “little guy.” The risks include reduced employment, firm bankruptcy and the risky future IPO of the now private firm. In short, while these transactions may generate value for their investors the sources of that value may very well come from the average worker or investor.

One thing that the return of the mega-buyout brings is plenty of speculation on the next LBO candidate. DealBook passes along some thoughts on the viability of a Viacom (VIA) transaction. Given the general malaise in the media conglomerates it is surprising that more transactions have not occurred in this sector.

The return of the mega-buyout has a pervasive effect on the capital markets. From the role of investment banks, to megacap valuations, to the strain on the high yield market these deals are affecting the markets. Even if you are an individual investor, keeping an eye on the players involved may provide some insights into the future state of the markets.