Thursday, July 30, 2009

The Fish Stinks from the Head

Benedick: “And, I pray thee now, tell me, for which of my bad parts didst thou first fall in love with me?”
Beatrice: “For them all together; which maintained so politic a state of evil that they will not admit any good part to intermingle with them.”

— William Shakespeare, Much Ado about Nothing

Heidi Moore 1 published an interesting counterpoint to all the recent Goldman Sachs-bashing at Slate’s The Big Money yesterday, entitled “Will Everyone Please Shut Up About Goldman Sachs?” Notwithstanding its title, the article seems to be less a defense of the orcish vampire squid threat to humanity everybody loves to hate and more of an encomium to its unique culture.

Ms Moore points out the fact that, for all its reputation as “a devastating hive mind that can control any institution it touches, including the U.S. government,” and as a gathering of the smartest minds, human and machine, on the planet, Goldman Sachs employees have proved singularly inept outside of the hive. I have made a similar argument—characteristically with fewer examples but many, many more words—in the past.

I have also described in these pages my experience of Goldman bankers over the course of my career and their almost uniform, as Ms Moore terms it, “lack of magic or voodoo.” For such a successful firm, Goldman Sachs seems to have a remarkable dearth of superstars, whether in my exalted realm of corporate finance and M&A or the sordid cesspits of sales and trading. Almost no-one there dazzles you with their sheer genius, overwhelming salesmanship, or scintillating personality. Nevertheless, the firm has a preternatural ability to persuade past, current, and future clients that it is the best of the best on Wall Street, no matter how badly it may have fucked up any one client’s particular transaction in the past. This is a truly admirable capability, and one which I and many other Goldman competitors continue to try and replicate, so far with less than complete success.

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Taking her cue from the “current and former Goldman bankers and officials” she interviewed 2 for the article, Ms Moore lays credit for the firm’s success firmly at the feet of its vaunted culture. Goldman encourages their bankers to express their opinions and disagree freely over important decisions, she says, but discourages dissent and second-guessing once decisions have been agreed. She notes that bankers are rotated freely among positions and functions, as part of developing general management experience. She cites the legendary Goldman focus on dense and high frequency internal communication via voice mail, and she posits that the firm's system of “360-degree reviews,” wherein “everyone is evaluated not only by their managers but also their underlings and peers,” not only encourages homogenization but also discourages some of the more disagreeable political shenanigans found at many other banks.

The interesting thing about this litany—which is widely known across the Street—is that few of these practices are unique to Goldman Sachs. In fact, I can confidently assert that the only really unusual practices at the firm are the near psychotic intensity devoted to communication by voice mail and the rotation of bankers through different areas and positions. While many banks are indeed noted for surface consensus belied by subversion, undermining, and open backstabbing, managerial decision making by open disagreement is not that unusual.

The fearsome old troglodytes at Salomon Brothers, for instance, prided themselves on a culture which encouraged open and voluble disagreement among bankers in pursuit of robust and thoroughly examined decisions. A correspondent remembers Solly bankers proudly explaining at an NYU recruiting function years ago that the firm did not tolerate backstabbing. Instead, if someone disagreed with you they promised to “break down the door and come at you [directly] with an axe.” Friends and colleagues from the house of Liars Poker confirm this tale: bankers would beat the crap out of each other over important decisions, and then go grab a beer or ten together afterwards. The system worked remarkably well.

Likewise, 360-degree reviews are now common across Wall Street. They have been almost universally adopted because they make sense, for all the reasons Ms Moore relates. However, I have worked at two big banks which used 360-degree review systems, and I can tell you from personal experience that they did not make a damn bit of difference. At both shops, bankers went through the motions of reviewing bosses, subordinates, and peers, but everyone knew that top management paid no attention to them. Banker pay and promotions were determined the old-fashioned way, through political patronage, budgetary infighting, and whoever screamed the loudest and most convincingly over deal revenues. No-one had any incentive to give honest reviews or constructive criticism, because anything negative could be seized upon by one's enemies or schemers among senior management as reason to reduce a bonus or even fire someone. Accordingly, all reviews became subject to massive grade inflation, and the category comprising bankers who were supposed to be rated in the top 10% of their peers magically grew to include 40 to 50% of everyone at the firm. It was a joke.

Now, maybe Goldman Sachs has figured this out, and these systems actually work for them. But if so, it is not due to the processes and procedures they have in place. It is the firm’s culture, and senior executives’ complete commitment to that culture, which makes these mechanisms successful. 360-Degree review systems, 24-hour response voice mail, and rotation of bankers through different departments only work when senior managers refuse to make exceptions to the rules. There are a nauseating number of investment banks which profess an undying commitment to teamwork and a dedicated focus on cultivating client relationships rather than chasing transactions. But these banks fall short time and time again because they do not enforce these principles. If Mr. Big Swinging Dick Managing Director who brings in a billion dollar IPO or a ten billion dollar merger throws a hissy fit and threatens to stomp out the door if he has to share credit, or a successful M&A banker refuses to manage a group in Capital Markets, or a Group Head inflates the review scores of all his subordinates to boost their pay and his power, senior management can either hold firm and preserve the culture, or they can cave. If they hold firm, everyone else at the bank hears about it, and they learn that the rules and the culture will be enforced. If they cave, everyone knows that too, and it’s off to the bad old races of “what’s in it for me.” Sadly, most investment bank executive teams cave.

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Now, for all the folderol in the press about how “brilliant” this or that banker or group of bankers is, I have always maintained that individual talent and originality are highly overrated in investment banking. With few exceptions—which always have extremely limited shelf lives, as competitors reverse engineer innovations within weeks or days—there is almost nothing new under the sun in my business. Notwithstanding what they like to tell you, investment bankers don’t really sell “ideas.” They sell connection, and access, and they are successful to the very extent they can maintain themselves in the flow of market information. Investment banks derive their market power and importance by maintaining dense and robust information networks across the numerous markets they participate in. This makes them better traders, better investors, and better advisors.

In the overall scheme of things, a successful bank should prefer to have strong networks, rather than strong bankers. Take a banker with excellent network connections out of his or her supporting environment, and he or she becomes dramatically less effective. Allow individual bankers to weaken the network by hoarding clients, refusing to communicate, or actively undermining their rivals within the firm, and you weaken the bank materially. Encourage the hiring and creation of “superstars,” and you shift power away from the bank into the hands of individual mercenaries. All of these things make an investment bank less valuable to its clients, as well.

So, a bank which can subsume individuals into a cohesive mass, which can preserve and encourage the development of internal and external networks, and which can build a stable platform has a long-term advantage. Maintain a stable platform, and you remain in the flow of information and deals over the long term. Remain in the flow, and you build a credible and trustworthy brand. Do it long enough, and you just might become Goldman Sachs.

Of course, Goldman Sachs is not unique in the history of investment banking for having developed a distinctive and stable culture. A long litany of culturally distinct and successful organizations graces the rolls, including such standouts from my early days in the industry as JP Morgan, Drexel Burham Lambert, First Boston, DLJ, Salomon Brothers, Morgan Stanley, Merrill Lynch, Bear Stearns, and Lehman Brothers. The distinguishing feature of almost all of these firms, however, is that they diluted, destroyed, or squandered their distinctive cultures through a series of ill-advised mergers or acquisitions, in the benighted industry-wide pursuit of growth.

Culture grows organically, and slowly, over time. Introduce a foreign culture into an existing institution—particularly one built entirely on the back of assets who walk out the front door every evening—and you almost always destroy what you have. The glue which binds colleagues and potential rivals into a cohesive whole dissolves, and the mantra becomes every man for himself. You can rebuild a culture, or build a new one, but it takes a long time and an almost superhuman dedication from the very top of the organization. JP Morgan is a good example of a firm with a formerly distinct and powerful culture which lost its way through acquisitions and which has now rebuilt itself to a near facsimile of its former self, largely on the back of Jamie Dimon’s personality. It is still absorbing the Bear Stearns virus, but early indications are that the House of Morgan will survive the infection.

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All of which helps explain why Goldman Sachs enjoys such prominence in the industry and the broader financial markets today. If nothing else, they have succeeded by being too smart—or too timid, or too insular—to buy anybody else in the last two decades. They have thrived by remaining the same—while admittedly swelling like a tick on a dog—while everybody else engaged in an orgy of corporate combination and lost or weakened their distinctive identities, franchises, and platforms.

Goldman’s integrity and cohesiveness certainly make it admirable in my eyes. But that does not necessarily mean it is not evil. A powerful culture creates a powerful divide in the minds of its members between what is inside and what is outside. Goldman employees’ dedication to the firm does not necessarily extend to its clients, its regulators, or the society it operates in. One can legitimately question whether Goldman behaves like the traditional stereotype of the mainland Chinese: if you are on the inside, and connected, you will be treated with respect and honesty; but if you fall outside the inner circle, you are fair game to be cheated and taken advantage of.

In the realm of fiction, the Borg are admirably focused, cohesive, and successful, too. That doesn’t mean they are the heroes of the story.

“We are the Borg. Lower your shields and surrender your ships. We will add your biological and technological distinctiveness to our own. Your culture will adapt to service us. Resistance is futile.”

Remember, Dear Reader, that old saw: Just because you’re paranoid doesn’t mean that Goldman Sachs isn’t out to get you.

1 Yes, that Heidi Moore.
2 I have no idea what Ms Moore's experiences were in said interviews, but I suspect that her description of these immensely wealthy and powerful individuals as drab, colorless nebbishes may prove the exception to the rule of women interviewing powerful men I elaborated earlier. I have to suspect that interviewing your off-the-rack Goldman banker generates about as much sexual tension as watching oatmeal congeal.

© 2009 The Epicurean Dealmaker. All rights reserved.