Banking on Boutiques

A new breed of investment bank pitches M&A advice to the middle market. What's the advantage over a brand name?
Don DurfeeSeptember 15, 2005

When Mark Wattles, founder and former CEO of Hollywood Entertainment Corp., decided to buy the assets of bankrupt Ultimate Electronics Inc. in April, there was no shortage of investment bankers willing to assist with the deal. In fact, his prior connections at the parent of the Hollywood Video chain made Wattles a candidate for advice from several top-tier New York banks.

Instead, he chose a one-year-old, 17-person, Dallas-based firm, Challenger Capital Group Ltd. Weighing the pros and cons of enlisting a major investment bank for a deal worth about $40 million, Wattles, now chairman of Ultimate Electronics, says he “probably could have gotten attention from the partners [at a big establishment], but it’s not like they’d be jazzed about it.” With Challenger, though, he believes that not only will he get their attention, but “they’ll be enthusiastic.” One partner in particular that he depends on is former CS First Boston banker Mark Stephens, Challenger’s founder, CEO, and executive director, with whom Wattles had previously worked on Hollywood Entertainment M&A projects.

Other executives, without the ready access to the big investment banks that Wattles had, find themselves drawn even more powerfully to a new crop of middle-market specialist banks. For some acquirers, it’s because they have little choice. Many middle-market bank specialists of years past, including such distinguished outfits as Robertson Stephens, Alex. Brown, and Montgomery Securities, were swallowed up during the manic banking consolidation of the late 1990s. And while some larger banks profess an interest in smaller deals, in the current environment most feel pressure to do larger ones. “The consolidation of the banking sector has made it very hard for middle-market companies to find good advice for deal-making,” says Challenger’s Stephens.

How Low Do They Go?

Some smaller banks suggest that their larger competitors won’t take M&A deals below $200 million, though banks certainly make exceptions during slow markets or when a deal represents a strategic opportunity. “Big banks look at middle-market deals and say that doing those means they can’t chase a multi-billion-dollar deal,” says Challenger managing director Robert Bielinski. But, he notes, for many companies, “$200 million is a very big number.”

Sensing the market void, new boutiques have rushed to the space. Along with Challenger, newcomers include Pacific Growth Equities, Thomas Weisel Partners, ThinkEquity Partners, America’s Growth Capital, and Revolution Partners (see “Thinking Small,” below). Despite being new, many have at their core a collection of experienced bankers who once worked at the former middle-market specialist bank, or the major New York banks that snapped them up.

JMP Securities LLC, for example, was founded five years ago by three alumni of Montgomery Securities (acquired by NationsBank in 1997), and focuses on small and midsize growth companies. “We lived through Montgomery being bought by NationsBank, and watched them refocus the platform on larger-cap companies,” says Carter Mack, co-director of investment banking and one of the founders. “We saw a big opportunity to serve the small-to-mid-cap growth market.”

William Evans, CFO of Witness Systems Inc., a Roswell, Georgia-based provider of workforce optimization software, says he didn’t even approach the larger banks when he was planning his company’s recent $75 million acquisition of Blue Pumpkin Software. “The fact is, we’d be very small fish for one of the big banks,” says Evans, who turned instead to San Francisco–based ThinkEquity.

Pick a Banker, Not a Bank

Given the choice, though, wouldn’t an acquirer be better off having a well-known bank on its side? In some cases, sure. “A small company that is selling itself might want to work with a well-known bank as a bit of a ‘stamp of approval’ for potential buyers,” says Keith F. Higgins, a partner in the Boston law firm Ropes & Gray LLP. “And you want the stamp of approval from a brand name, not Tom, Dick, and Harry’s [investment banking] shop.”

It’s generally agreed that a bank’s name matters less in M&A than it does in a capital-markets transaction, where financial institutions put their own money and reputations behind the offering. Instead, the contacts and expertise of the individual bankers count for more than the firm’s name, says Evans. Witness Systems chose ThinkEquity because of a particular banker at the firm. “We had known this person from other firms where he had worked,” says Evans. “We chose him because of the nature of the acquisition, its size, and his familiarity with some of the people involved. It was more about our confidence in him than in the firm itself.”

Another drawback some see in the boutiques is that they generally lack strong balance sheets. But while ample capital reserves may be important when a deal calls for a large bridge loan (as in the case of a leveraged buyout), it is far less relevant in smaller deals. “What you’re looking for is strategic agility and a lot of attention from senior bankers for a small transaction,” maintains Wattles. “If you were doing a really large deal, you wouldn’t go to a midsize firm.”

Indeed, individualized attention may be the most compelling reason to hire a boutique. At large investment banks, partners tend to disappear once the business has been won. But a small deal matters more to a small firm.

That extends to capital-raising as well as other financial activities. This was one of the reasons OfficeTiger, a New York–based business-process outsourcing (BPO) company with operations in India and Sri Lanka, settled on JMP Securities to act as its agent when it raised $53 million in venture capital earlier this year.

Randolph Altschuler, OfficeTiger’s co-CEO, says his firm interviewed some of the bulge-bracket firms as well, but the promise of attention from JMP’s top banker for BPO won his firm over. “The fact that this banker — someone with 25 years’ experience, who had worked at Montgomery and Merrill Lynch — would be doing the execution was very appealing,” says Altschuler, who adds that OfficeTiger would use JMP for future M&A work.

“The big banks are obviously very good, but even if they were willing to handle transactions of our size, I don’t think we’d get the same level of attention or continuing interest,” agrees Witness Systems’s Evans. “Once the transaction was over, we’d be quickly forgotten.”

Don Durfee is research editor at CFO.

Disappearing Act

Since the mid-1990s, many of the smaller investment banks have been acquired.

Robinson Humphrey acquired by >> Shearson acquired by >> Travelers acquired by >> Citigroup

Rotan Mosle acquired by >> Paine Webber acquired by >> UBS

Alex. Brown acquired by >> Bankers Trust acquired by >> Deutsche Bank

Montgomery Securities acquired by >> NationsBank merged with >> Bank of America

Bowles Hollowell acquired by >> First Union merged with >> Wachovia

Wheat First acquired by >> First Union merged with >> Wachovia

Dain Rauscher acquired by >> Royal Bank of Canada

Source: The Securities Industry Association, Mergers & Acquisitions Quarterly

Thinking Small
A sampling of boutique banks established in recent years.
Est. Name
2003 America’s Growth Capital
2004 Challenger Capital Group
2000 JMP Securities
2001 Revolution Partners
2001 Seven Hills Group
2001 ThinkEquity Partners
1999 Thomas Weisel Partners
1998 WR Hambrecht
Source: Deal announcements