The Predators’ Ball (52 page)

“The distortions and even falsehoods being uttered about our firm and some of its personnel are so rampant and willful that one wonders if it isn't a plot to destroy us,” wrote Tubby Burnham, the then seventy-seven-year-old honorary chairman of the board, in an anguished letter to Drexel Burnham employees ten days after Boesky Day.

Arthur Bilger, corporate-finance partner in Beverly Hills, spoke for many of his colleagues when he pointed out that “between twenty and twenty-five percent of Fortune 500 companies disappeared in 1986. I am convinced that it is that, generally—plus our having gone after the major oil companies, Gulf, Phillips and Unocal—that has caused our troubles.”

Others at Drexel saw the backlash springing from a resentment more deep-rooted and age-old. Now they harked back to the fears expressed by many Jewish members of the business establishment ever since Drexel had first conjured up its armies of takeover entrepreneurs. Paul Levy, one of Drexel's 3(a)9 (unregistered exchange offer) specialists, put it bluntly. “There is a lot of anti-Semitism at work,” Levy declared. “People see Drexel as a bunch of Jewish guys who have been making too much money.”

Amidst all the talk of persecution, however, there was a certain amount of self-examination and recrimination. What the aftermath of Boesky Day made crystal clear was that Drexel had no friend on the Street. In the early eighties, as its junk business flourished, the firm had been disdained by Wall Street's titans. Not hated, but disdained. Once Drexel had become a titan itself, it had seemed to take pleasure in remaining the outsider, in flouting the rules of the fraternity, in crushing that fraternity's members when it could. Other firms syndicated deals (in common stock and investment-grade-bond issues) not only to share the risk but to spread the goods about the Street in a collegial fashion. Milken hated syndicated deals. He hated having a co-manager. He would not spread the goods, and they could
keep
their fraternity.

Now was the comeuppance. Howard Brenner, a member of Drexel's Executive Committee who had been at the firm since it was Burnham and Company, admitted, “Some of our colleagues [at Drexel]—especially the younger ones—were very arrogant, and it's come home to bite us.”

“To me, the investigation is a parable,” declared another Drexel executive. “It has brought us down for our hubris—in our not paying sufficient attention to our transactions, in our dealings with other people. Things like sending people to another city for a road show. Not giving any bonds to a co-manager. Taking a piece of business from another firm which had already filed a prospectus. Other people have occasionally done this kind of thing to us, but I have a hunch that we started it. So far, the government doesn't seem to have evidence of anything illegal. But we are already so
weakened [by the press reports of the investigation], it is as though we are paying the penalty for our other sins.”

In the months after Boesky Day, it seemed plain that even if Drexel and Milken were to survive, their idyll—in which Milken could raise billions in a matter of days for a hostile bid, in which no company in America was safe from him—would be ended. It was a time for epitaphs.

“I think the systematic realigning of corporate America, and putting parts of companies in the hands of guys who have major equity stakes in those companies, is the best thing we have done for our society,” commented corporate-finance partner Stephen Weinroth. “The cat's out of the bag—and if the old-guard establishment puts us out of business, they're not going to put the concept out of business, be it the LBO or the hostile takeover or valuing a company and breaking it up because the assets are worth more broken up than whole.”

Weinroth lapsed into the familiar refrain (articulated by Milken, Icahn and others of their persuasion) about the decline of corporate America in the hands of its managers, and its rescue by the new breed of manager-owners. “Old companies were started by true entrepreneurs, who had children some of whom were affected by the ills of the rich,” he continued. “They brought in professional managers, who ran the companies in a conservative fashion . . . but those professional managers didn't have an ownership stake. Their risk-reward ratio was skewed to being a conservator, not an initiator. Then the second-generation [managers] grew to the top. And even if they were high quality as managers, they were certainly not entrepreneurial. And then that group promoted people who couldn't threaten them, and they in turn hired people inferior to them, who lived for their perks and compensation and ran their companies conservatively because they had no upside interest. And by the time you go through several generations of these managers, you have a company run by dull-normals!

“It started to change in the fifties,” he said. “As new businesses sprang up largely out of a new spurt of technological innovation, there were some entrepreneurial guys. More recently all the LBO guys have said, ‘We want the managers to have a stake in this business, because we want them to get rich if they do well' (typically, five to twenty percent of a deal would be owned by management).

“I think the principles are right,” Weinroth concluded, “and the fact that some of our players are venal or self-interested or unpleasant is almost beside the point. There is a greater machine going, and if these guys don't make a go of it, then somebody else will buy the stock, and the ownership will reside very close to the helm. And Drexel had more to do with it than anyone else.”

The months after the November Boesky Day were rife with signs of Drexel's ebbing power. The first and most symbolic was Drexel's decision, announced in early December, to abandon its much-heralded move to the forty-seven-story tower, Seven World Trade Center, which it had agreed to lease in its entirety in June '86. Just as the announcement of the impending move to that imposing building had been a dramatic statement that Drexel was assuming its place among the established giants of Wall Street, so its cancellation suggested that that ascension was no more.

The most mammoth publicly announced deals that Drexel had been backing when the Boesky news hit, Icahn's bid for USX, Perelman's for Gillette and Sigoloff's (Wickes's) just-announced acquisition of Lear Siegler, came to a total of roughly $14 billion. For Icahn, Perelman and Sigoloff, these deals would have represented an enormous expansion of their respective empires. In addition to collecting a king's ransom in financing fees in these deals (in USX, for example, Drexel's fee would have been roughly $250 million), Drexel would have reaped a golden harvest of divestiture business. But after Boesky Day, despite Drexel's assertions that it could still place the debt for these deals, those financings were deemed sufficiently questionable that the bidders' hands were weakened. Ultimately, all three deals foundered: Wickes abandoned its acquisition of Lear Siegler, and Perelman and Icahn were beaten back from their targets. In the next six months, the whole of the first half of 1987, Drexel did not back a single hostile bid.

Other hallmarks of the Milken regime also disappeared, casualties of this new epoch in which Milken and Drexel would be forced to live under the government's microscope. Privately placed, unregistered bonds, for example, no longer changed hands en masse, moving from Milken's high-rollers to the second-tier buyers in that flow that was so integral to the Milken machine. Mark Shenkman of Shenkman Capital commented about two months after Boesky Day, “Privates still trade—but now precise logs are kept, and they [Milken's salesmen and traders] can only talk to twenty-five
people about it. It can't be a public distribution. They are reining Mike in.”

And at least some of the gold-mine investment partnerships, through which Milken had built wealth first for his own people and then for a wider group in corporate finance, were closed down. The major partnership with corporate finance, which invested in buyouts, was named Concordia. In 1985, Concordia's return had been close to 100 percent. By the end of 1986, when it was closed out, it was flat for the year. This was strange, since 1986 had been a soaringly profitable year at Drexel. “That had to have been done on purpose,” insisted one former Drexel employee, “so that they could say, ‘See? We always knew that with the kind of risk we take we'd hit a bad year sooner or later.' ”

Within days of the Boesky plea, rival investment bankers had begun going down the list of Drexel clients, soliciting their business. While Drexel's traditional stable appeared still loyal, the blue-chip clients that Drexel had been struggling to win (whether by courtship or by coercion, whether by Martin Siegel or by Jim Dahl) quickly fell away. Theirs had been an uneasy alliance with Milken. In the months just prior to Boesky Day, Goodyear had brought Drexel in along with Goldman, Sachs to advise it on a defensive restructuring. Viacom had hired Drexel along with Donaldson, Lufkin and Jenrette to assist in its management buyout. Ralston Purina had added Drexel as a third co-manager, along with Goldman, Sachs and Salomon, for an investment-grade-bond issue. According to well-placed sources in each of these deals, Drexel was brought in for only one reason: so that it would not bring in a competing bidder or finance a raid on the company.

The uneasiness, moreover, had existed not only on the part of these corporate clients, but within Drexel. Such client representations were integral to Joseph's and Siegel's shared vision of institution-building, were in fact the mission with which Siegel had come to Drexel. But they were at odds with the gospel according to Milken—a gospel which taught that these corporate behemoths deserved to be taken over because they were being run inefficiently, so it was not only profitable to do so, but right. In the above instances, however, Milken had apparently acceded to Joseph and agreed to allow his peace to be bought.

Now Milken's hands had been involuntarily tied. And the corporate establishment, no longer afraid, was no longer interested.
Lear Siegler, for example, had followed Siegel from Kidder to Drexel. In its sale to Wickes, Drexel had been its investment banker. But about a week after Boesky Day, when that sale fell through, Lear Siegler brought in Goldman, Sachs to study the alternatives of a leveraged buyout or a corporate recapitalization.

“With the Fortune 500 companies, it was all fear,” remarked one former Drexel employee. “[In the summer and fall of '86] I would make a call to a CEO and the call would be returned in a half hour. Once Drexel started to fall, they never returned my calls.”

Now Drexel, which had used fear to wedge its way into corporate suites, was riddled with fear itself: Fear of what the government might find. Fear of losing business. Fear of seeing the value of the firm's stock (widely held among about 2,050 employees) and its capital decimated, in the event the firm had to pay crippling damages as a result of the investigation. Fear of the damage to recruitment. And, because of all this, fear of a mass exodus of employees (draining the firm not only of talent but of capital as they demanded payout on their stock).

In the first few months, about a half-dozen associates in corporate finance and M&A did leave Drexel. This was followed by a major defection in April, when an entire group of seven professionals, including one senior-level executive—all of whom had been hired from Kidder within the past year—departed for Paine Webber.

So fearful was Fred Joseph of an exodus, according to one Drexel employee, that in December '86 he broached the idea of soliciting signed loyalty pledges from all senior employees, promising that they would not leave the firm for at least one year. Executives reportedly tried to dissuade him, arguing that it was distasteful, a sign of weakness on the firm's part, and in any case unenforceable. Finally, Joseph abandoned the idea.

For Joseph, who had had false starts in the business, who had dreamed back in the seventies of building an institution “as important as Goldman, Sachs,” and who had felt he was tantalizingly close to that goal, it must have been an agony to see it slip through his fingers. While Milken remained protectively cloistered as always, Joseph, the front man, had to step into the glare of the public spotlight. Looking gray and puffy-eyed, photogenic no longer, he was shown (incredibly enough) sitting on the floor in his office on the cover of a December '86 issue of
Fortune
magazine, where the
subtitle described him as “Floored by the crisis.” The ready and confident, albeit superficial, answers he had always produced were now replaced by ones so tentative and unsure that they invited parody among some of his partners—such as his quote in
Business Week,
dated December 22: “What I think I'm confident of is that we don't know of anyone here who's done anything wrong.”

It was Joseph's personal crucible. He had assumed the post of CEO—from Robert Linton (who retained the title of chairman, but had clearly yielded the leadership of the firm to Joseph)—only about eighteen months before Boesky Day. Back in the early seventies, Joseph had become chief operating officer of Shearson, Hamill—which, six months later, had had to merge into Shearson Hayden Stone (through no fault of his). One Drexel executive recalled ruefully that at a meeting immediately after Joseph had assumed the top post at Drexel, John Sorte, who had been with Joseph at Shearson, quipped, “Fred, how many months do you give us before we fail, with you as chief executive?”

Joseph, more than anyone else, had been the architect of the institutional expansion of Drexel. For Milken the firm was a vehicle, but for Joseph it was an end in itself. And Joseph possessed certain traits which had, in his lexicon, added value to the firm. First, he was a supersalesman, a great complement to Milken on the corporate-finance side, especially in the early days before Milken started doing everything himself. Second, he had a front-man personality that was so good it made you forget that that was what it was: down-to-earth, good-humored, redolent with boyish charm, but all bright surface, with a veneer that never cracked. And, third, he had that overriding desire to win, which was probably the key to his and Milken's compatibility.