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Then earlier this month a very similar brokerage business, Beeson Gregory (LSE: BGG), joined the main market. This IPO raised £30m and valued Beeson, which boasts more than 80 quoted companies as clients, at £165m. That is equivalent to just 30 times 1999's post tax profit. Both new entrants seem surprisingly cheap compared to their rival Durlacher (LSE: DUC). This investment boutique currently trades on a historic price to earnings ratio of 275, valuing the group at a heady £560m.
All three constitute a particular type of Wise adviser. Their larger brethren are mainly US banks of the calibre of Goldman Sachs (NYSE: GS) and Morgan Stanley. However, both Peel Hunt and Beeson Gregory are more focused boutiques. They do not offer retail products and services to individuals. They have no private clients to which they offer brokerage accounts and do not manage money. Durlacher still has a small group of private clients but the other two are purely focused on corporate finance advisory services.
Two other similar groups are worth comparing with these three. Firstly Teather & Greenwood (LSE: TEG) has roughly 70 clients, but is only considered worth £70m or 30 times prospective earnings. Traditional stockbroker Teathers, though, does still have some private clients. Finally, Dawnay Day Lander has outlined plans to float its high-tech corporate finance boutique as well, raising £5m and valuing the company at a massive £100m, or 150 times earnings.
Privileges of Partnership
What is driving all these financiers onto the market? Traditionally investment banks were run as partnerships. Goldman Sachs operated very successfully in this manner for most of its working life. Many partners resisted the attempt to float the business in 1998. The public offering was delayed for a year. Partners enjoyed a very nice life, dividing up any profits the group made in bonus payments each year. In the UK Cazenove is the largest broker still run as a partnership.
Effectively these traditional brokerages are behaving like building societies and other mutual organisations, cashing in their birthrights in exchange for tradeable securities, in the form of shares. The partnership structure suited these businesses well, since they primarily relied on people (in the form of partners) to provide quality advice and services to companies. Superior people skills made certain corporate brokerages and merchant banks better than their rivals.
Law firms and accountancy practices are other examples of professional services outfits, which consequently still run along partnership lines. Where a lawyer's job is to advise his clients to the best of his ability and an accountant's is to audit accounts competently and fairly, the stockbroker's role to his corporate clients is probably to get the best price for the business he is selling, normally in the form of shares issued to investors he rounds up.
This practice normally involves underwriting a share offer. The broker will guarantee to buy any unwanted shares not taken up in an offer. This involves an extra charge. Morgan Stanley came in for a lot of stick for selling Lastminute.com (LSE: LMC) shares at a supposedly inflated price last month. In supporting the offer they stabilised the price for several weeks after trading commenced in the shares. However, this cost Lastminute nearly 10% of the total funds raised, or £10m.
Doing a Durlacher?
In the pre-Internet era a successful flotation was one where the offer was oversubscribed and the underwriting (or sponsoring) broker was left with no shares on his hands. However, many recently floated brokerage-cum-advisory houses have revelled in the fact that they have stakes in their client companies. They have wanted to emulate the enthusiasm with which investors have snapped up shares in Durlacher, enabling the company to increase in value by nearly 1000% over the past year.
Last Spring Durlacher started publicising the stakes it had in its clients, many of which had yet to float. The stock has fallen 50% recently in the wake of the general slide in technology companies' shares but still investors look on the company as a quasi-investment trust for the Internet sector, incubating the growth companies of the future. Consequently many rival boutiques have transformed their businesses more into early-stage venture capital outfits, investing in supposedly revolutionary companies, rather than old-style brokerages.
However, investors should tread warily in this brave new world. These Wise companies do not in the main detail these future policies. Their businesses, and their directors and employees, are at present based on corporate finance advice and broking skills, rather than long-term investment ability. As such, Peel Hunt admits that 50% of operating profits are paid to staff as bonuses. Beeson Gregory pays out a third of operating profits as bonuses, on average.
These companies therefore act as old-style partnerships rather than "Internet incubator" investors. That may be a good thing rather than a disadvantage in the present climate and is well worth considering before plunging in trying to find "the next Durlacher".
Please post any feedback to either the Beeson Gregory or Fool's Eye View discussion boards.
Related links
• Uncle Bulgaria's Beeson Gregory prospectus thoughts
• Stock Ideas Special on Durlacher's dramatic rise
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