This week, the tech world was shaken up on the news of one of the largest tech deals ever, when Microsoft announced they would be acquiring LinkedIn for the whopping sum of $26 billion. Eye-popping valuation aside, this deal stands out for another reason: the advising investment banks. Most M&A transactions anywhere close to this size make use of the services of the industry’s behemoths: J.P. Morgan, Goldman Sachs, Deutsche Bank, and their ilk. While Mr. Nadella, CEO of Microsoft, went to Morgan Stanley, one of the investment bank brass, LinkedIn’s CEO Jeff Weiner opted for two much smaller boutique investment banks in Qatalyst and Allen & Co.
While comparatively small, with headcounts of 170 and 47 at Allen & Co and Qatalyst, respectively, they are hardly strangers to mega-deals in the Silicon Valley. Allen & Co handled part of Google’s IPO back in 2004, Twitter’s in 2013, Facebook’s 2014 purchase of Whatsapp, and advised on Time Warner’s 2015 merger with Charter Communications. Qatalyst, meanwhile, focuses heavily on the technology sector, and worked on acquisition deals for Yahoo, VMWare, Texas Instrument, and Google, among others. In fact, they’ve been part of the growing trend among all M&A activity where the traditional players in the space are being pushed aside for smaller boutique investment banks.
Some deals don’t have advising banks at all! While this is more likely to be the case in much smaller businesses, even larger enterprises have begun shunning banker involvement as of late: earlier in 2016, when Comcast purchased Dreamworks for $3.8 billion, they did the work in-house. Even the $5.8+ billion purchase of Stemcentrx by AbbVie was completed without any outside advisers. A shift in away from the giants towards smaller players represents a major change in the industry, so what is driving this shift?
One reason behind this growing trend is fairly obvious, and that is cost. If the large banks are collecting billions of dollars a year in advisory fees for deals, this money obviously has to come from somewhere. Fees associated with the Microsoft/LinkedIn deal are estimated to reach up to $65 million, and that’s excluding underwriting fees for Microsoft’s debt issuance, which could bring the total to over $100 million when the deal is finally completed . Clearly, doing the legwork in-house offers some pretty sizable cost-savings, if your company has the resources and know-how to do so. Going with a smaller adviser can also keep costs down, just by virtue of lower rates – with leaner, more focused operations, these boutique firms can charge less and still maintain their margins, allowing them to compete with the giants on the same deals.
Another driving force in this trend has been the fallout from the 2008 Financial Crisis. The scars from the crash have long-lasting effects, and the corporate world is no longer convinced that the large investment banks have their best interests at heart. This trend of spurning the major players who are deemed to have been at the center of the turmoil 8 years ago could in part reflect these attitudes. This damage can take quite some time to repair, as well, as reputations are built over years and destroyed over days. As Warren Buffet wisely said, “We can afford to lose money — even a lot of money. But we can’t afford to lose reputation — even a shred of reputation.”
Unfortunately for many of the large banks, they have lost considerably more than a “shred” of reputation in the aftermath of the crisis. Furthermore, many banks, particularly in Europe and the UK, have reduced and/or capped banker pay at the behest of the public and their shareholders, prompting an exodus of many major rainmakers at the banks. Many of these former bulge-bracket employees then went on to start their own boutique firms or move to companies to provide in-house merger advice. The latter is precisely what happened at Comcast and AbbVie, who lured former bankers to their in-house advisory teams.
Deals of this size require significant expertise in various aspects of the businesses involved, as well as their operating environments and sectors overall. While larger banks have teams dedicated to particular sectors, like Technology or Agriculture, the push towards in-house and boutique advisers can partly be explained by this expertise gap. Clearly, no outside firm is better positioned to understand the ins and outs, both in quantitative and qualitative manners, than the company itself, so why outsource this critically important function for a massive undertaking like an acquisition if you can do it yourself? Boutique firms often focus on a particular sector, like Qatalyst does in technology, allowing them to leverage their in-depth knowledge to a greater degree than a more broadly-clienteled business could and provide superior service.
For the mega-banks who have come to rely on their Investment Banking department’s advisory fees on M&A deals for maintaining and growing their bottom lines, this is a startling trend indeed. Without some way of combating this development, their lunches may be eaten by the industry’s smaller players or even their former clients! On the other hand, for bankers who tire of either the bureaucracy of a large institution or who simply desire a greater work-life balance than their current career, the prospects for breaking away and living the dream have seemingly never been better.