Over the last decade, most money-center banks and many superregionals and regionals have for-ayed into Wall Street's turf of corporate finance.
Many banks considered this a survival strategy, as increased access to the capital markets by large and midsize corporations was eroding the profitability of traditional lending.
But the report card on bank corporate finance activities is decidedly mixed.
On the positive side, banks have generated product innovations, moved up in the league tables, and redefined whole businesses. On the downside, many banks have been burned by the loan portions of major deals while Wall Street firms cornered the low-risk fee income.
Banks also experienced successive waves of turnover and many debilitating reorganizations as their managements sought to come to grips with the strategic fit of their corporate finance activities.
At the heart of the issue for many banks are conflicts between the way they are used to doing business and the success requirements of investment banking.
Commercial banks tend to adhere to their traditional ways of managing customer relationships and transactions. And top management at commercial banks is reluctant to pay market-level bonuses before performance has been demonstrated.
The pay-for-performance issue is particularly crucial, since the productivity gap for commercial bank corporate finance groups is large.
Corporate finance productivity at commercial banks, as measured by professional costs as a percentage of revenue, is typically four to eight percentage points lower than at the leading investment banks.
Three factors explain much about why commercial banks have yet to match the productivity of investment banks: organization structure, staffing configuration, and compensation management.
In commercial banks, relationship management groups traditionally wrote loans while product groups managed deliver of ancillary services such as cash management.
As they entered corporate finance, commercial banks applied this traditional organizational model, creating product groups for corporate bonds, asset finance, and other transaction categories.
Many commercial banks see this emphasis on relationship management as a competitive advantage. Unfortunately, this approach puts undue focus on bridging the gap between the relationship and product organizations. This typically results in excessive head count.
It also leads to inefficient deal sourcing, since overlapping efforts often create internal confusion and conflict.
Investment banks, on the other hand. have employed two alternative models, both resulting in greater productivity.
Many successful investment banks, such as Goldman, Sachs & Co., have high-level relationship managers. These people rarely have sizable organizations dedicated to them. Instead they rely on teams organized by target industry or geographical area to develop and execute corporate finance business.
A few top-tier and most middle-tier firms focus on transactions driven by product innovation, with client relationships managed by individual teams that both develop and execute business.
The two banks widely considered the most successful in penetrating the investment banking business have used each of these models.
J.P. Morgan & Co. has taken the relationship route, building on its gold-plated client list and using its most senior people as relationship managers. Execution teams lend support with commercial as well as investment-banking products. Bankers Trust New York Corp. has evolved into a transaction-oriented firm using dedicated teams to create products, source business, and execute deals.
Bulge in the Middle
Corporate finance staffs in …