By Telis Demos And Alexandra Scaggs
Ten Wall Street banks were fined Thursday over how they hustled
for business on an initial public offering, in a settlement that
could reshape the role of banks' stock analysts in pitches for IPO
work.
The Financial Industry Regulatory Authority, a securities
industry regulator, said it levied a total of $43.5 million in
fines on the banks for using "implicit and explicit" offers of
favorable analyst research coverage to secure a role in the failed
IPO of Toys "R" Us Inc.
Potential conflicts of interest for stock analysts in banks'
pursuit of IPO business have been a concern of regulators for at
least a decade. At issue is whether banks suggest they will give a
company glowing research if a company selects their bank to handle
the lucrative business of underwriting a public stock offering.
Stock research is supposed to be independent.
Current rules that date back to the 2003 Global Settlement bar
Wall Street analysts from participating in pitches to companies for
IPO business, though they do allow analysts to independently meet
with companies during parts of the IPO process. But Finra argues
that in the Toys "R" Us deal, pre-IPO meetings between the
companies and the analysts were used as a way to offer favorable
coverage to companies to get a role in the deal, in effect becoming
part of the pitch.
"This case stands for the proposition that for firms to compete
for the IPOs, you have to stay within the rules, you can't offer
favorable research," said J. Bradley Bennett, executive vice
president for enforcement at Finra, in an interview on
Thursday.
Finra executives on Thursday suggested that the behavior they
found in the Toys "R" Us situation was extreme, but at the same
time they continue to monitor potential conflicts around IPOs.
Toys "R" Us "was an extreme situation, where [the banks] all
wanted to get this deal, and you had fairly aggressive sponsors.
And it was during a tough deal market, when there weren't a lot of
other deals to be had," said Susan Axelrod, executive vice
president for regulatory operations at Finra.
Finra began looking at the IPO for Toys "R" Us following a
referral from the Securities and Exchange Commission's enforcement
division, Finra officials said. Finra said, in settling the matter,
the banks "neither admitted nor denied the charges, but consented
to the entry of Finra's findings."
In one email Finra cited in support of the findings, a Goldman
Sachs Group Inc. analyst told Toys "R" Us that he was "extremely
excited" and "appreciate[d their] time," according to Finra.
Finra also said that a Citigroup Inc. research analyst who met
with Toys "R" Us said in an email to others at the bank: "I so want
the bank to get this deal!"
An analyst at Needham & Co. said in an email to a colleague:
"I would crawl on broken glass...to get this deal." In other
emails, he said: "My whole life is about posturing for the Toys "R"
Us IPO," and that he was "trying to impress a certain group of
private investors, wink, wink."
Toys "R" Us is owned by private-equity firms Bain Capital, KKR
& Co., and Vornado Realty Trust. Private-equity firms, who
often lead dozens of IPOs a year and work with many banks on deals,
are particularly aggressive about vetting analysts when selecting
banks, according to industry participants. And as the IPO has
rebounded in the past few years, the number of
private-equity-backed companies that have gone public in the U.S.
has surged, reaching 90 such deals for a record $33 billion in
proceeds so far this year, according to Dealogic.
Some said Thursday the action is likely to put an end to what
has become a common practice among private-equity firms of vetting
investment banks' analyst views before choosing underwriters for
the IPO of a portfolio company.
"Whenever I'm on the company side of the deal, I say interview
the analysts before you mandate anybody," said Richard Truesdell,
co-head of Davis Polk & Wardwell LLP's capital markets group.
"And that's not going to be able to continue."
On Thursday, some argued that companies and their owners also
bear some responsibility for asking banks' analysts to, in effect,
be responsible for whether their investment banking divisions win
roles in deals.
"Banks are getting punished for behavior by the issuers that the
regulator doesn't like. But the regulator doesn't have jurisdiction
over the issuers," Mr. Truesdell said.
Finra's Mr. Bennett said that under the rules, banks should not
allow potential IPO clients to vet the banks' analysts or ask them
to fill out "templates" that make clear their views on the client's
prospectus. "The rules are clear, and they apply to the banks.
There's no doubt on whom the obligations falls," he said.
Meanwhile, some big banks have started to ban pre-IPO meetings
between analysts and companies before the companies select banks
for an IPO, and the practice of filling out the templates, people
familiar with the moves said.
Toys "R" Us originally filed papers for an IPO in 2010 and
withdrew those papers in 2013, with the company citing unfavorable
market conditions and the chief executive's departure.
Among the banks fined were Barclays PLC, Citigroup, Credit
Suisse Group AG, Goldman Sachs and J.P. Morgan Chase & Co.,
which each paid $5 million. Deutsche Bank AG, Bank of America
Merrill Lynch, Morgan Stanley and Wells Fargo & Co. each paid
$4 million, and Needham paid $2.5 million.
Needham didn't provide a valuation to Toys "R" Us that reflected
its analyst's views, Finra said.
All of those banks, with the exception of Barclays, were
mandated to work on the IPO before it was withdrawn. Some of the
banks--Barclays, Citigroup, Credit Suisse, Goldman, J.P. Morgan and
Needham--were given fines for failing to supervise their
analysts.
In some cases, Finra said, analysts didn't give specific views
on Toys "R" Us. Deutsche Bank, for example, wasn't fined for
supervisory failure, in part because it didn't allow its analyst to
mention Toys "R" Us by name, Finra officials said.
In one email to a Toys "R" Us executive, a Bank of America
Merrill Lynch analyst wrote: "I am sorry that I was not permitted
to speak about many specifics today," then added, "but, I hope that
my enthusiasm surrounding the Toys "R" Us story was evident." BofA
Merrill was also not fined for supervisory failure.
Toys "R" Us has struggled to grow its sales and profits since
its $6.6 billion leveraged buyout in 2005 led by Bain, KKR and
Vornado, which saddled the company with billions in debt. In the
year leading up to January 2011, as it was considering an IPO,
profits fell by 50%, according to company filings.
Write to Telis Demos at telis.demos@wsj.com and Alexandra Scaggs
at alexandra.scaggs@wsj.com
Access Investor Kit for Credit Suisse Group AG
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=CH0012138530
Access Investor Kit for Barclays Plc
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=GB0031348658
Access Investor Kit for Barclays Plc
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US06738E2046
Access Investor Kit for Citigroup, Inc.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US1729674242
Access Investor Kit for Credit Suisse Group AG
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US2254011081
Access Investor Kit for The Goldman Sachs Group, Inc.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US38141G1040
Access Investor Kit for JPMorgan Chase & Co.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US46625H1005
Access Investor Kit for Wells Fargo & Co.
Visit
http://www.companyspotlight.com/partner?cp_code=P479&isin=US9497461015
Subscribe to WSJ: http://online.wsj.com?mod=djnwires