The first serious attempt to organise an initial public offering (IPO) was in late 1986. Earlier in the year, the management committee had unanimously recommended that the partnership should vote on the question of whether GS should opt for a public listing. There were several reasons for this:
žOther partnerships had opted for mergers or public ownership. The list was growing, and involved nearly all of Goldman’s key rivals: Dean Witter was bought by Sears and Salomon Brothers was bought by Philip Brothers in 1981. Lehman Brothers was sold to Shearson American Express (1984) and General Electric bought Kidder Peabody (1986). Bear Stern went public in 1985, followed by Morgan Stanley in 1986. The partners of these firms became immensely wealthy, and much needed capital was raised, allowing them to expand existing activities, and enter new areas. The establishment of a global presence was thought necessary for effective competition. Globalisation would increase diversification.
žMore capital was needed to fund expansion into trading and investment in other operating companies.
žAs a partnership, each partner faced unlimited personal liability. Earnings were more volatile as the firm invested and traded more. Also, Goldman Sachs had long been a target for law suits, launched by dissatisfied clients and the public (e.g. the Maxwell pension fund trustees). Employment law made it easier for employees to sue the firm for sexual harassment, job discrimination, and so on.
žThe firm’s capital could not be relied upon as a stable source of finance. If a year of poor results coincided with the retirement of a significant number of partners, with a consequent loss of capital, the financial implications for GS could be very serious.
There were also a number of arguments against going public:
žAn IPO, to the extent that it undermines relationship banking (shareholders take precedence over the client), would reduce important information sources.
žIn 1986, 37 new partners had been created. They had spent many years working as associates in the hope they would be offered a partnership some day. The financial windfall would be small ($3 – $3.5 million) compared to what the senior partners would get.
žThere was a division between partners in the traditional investment banking areas and those in trading. Investment banker partners opposed the change because they did not need more capital to run their divisions.
žShareholders would expect dividends each year. As a public company, the firm would have to adhere to a number of regulations, such as quarterly reporting requirements. It was argued that as soon as a firm went public it, by necessity, would have to focus on strategies that boosted short-term profitability. By contrast, a private firm had no such pressures, and could focus on long-term returns.
žIf GS went public, the firm could not protect their privacy from the press.
žThere were human resource implications for existing employees. Some partners argued the emphasis on teamwork would suffer as would dedication to serve the client, because the short-term interest of the shareholder would become paramount. Also, new employees could no longer expect a partnership, so the value placed on team effort would disappear.
TEAM
FLY
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The firm’s unwritten motto, ‘‘never say I; say we’’, and the likelihood of opportunistic behaviour would increase, as would principal agent problems between employees and management. On the other hand, many public firms create the right incentives to encourage teamwork, and minimise agency problems by linking bonuses to long-term profitability – withholding a fraction of the bonus in the event of a subsequent downturn.
žGoldmans might find they could no longer recruit the best graduates, because the attraction of making partner would disappear. On the other hand, the days of the lifetime employee ended when GS was forced to hire senior people from outside the firm to remain competitive, especially in new areas such as proprietary trading, derivatives and, more generally, risk management. The bank could use schemes such as stock options and golden handcuffs to keep the best employees. Also, Goldman’s traditional methods of compensation meant they were losing some of the best employees to rival firms.
žIt was possible to raise capital in other ways. In 1986, in a secret deal, Sumitomo Bank injected $500 million for a non-voting minority shareholder state, in exchange for 12.5% of annual profits. At the time, Sumitomo was the most profitable Japanese bank, and their long-term goal was to enter the US market in some way. Also, it would give Sumitomo a unique insight into how a deregulated, competitive market works, so that if and when Japan was deregulated, they would have some experience. Originally, Sumitomo had hoped its employees could shadow GS workers, but the Federal Reserve imposed explicit firewalls before it would approve the investment. Sumitomo could not have any directors on the boards of Goldman Sachs; nor could it participate in the selection of partners or policy making. It was not allowed to hold voting shares in Goldmans. Neither firm could solicit business for the other, and explicit contracts were to be used for any business transactions.
ž‘‘Weinberg was Goldman Sachs’’ (Endlich, 1999, p. 7). John Weinberg faced a moral dilemma: why should the money raised by the IPO (estimated at $2 – $3 billion) go to the existing partners, when generations of partners had contributed to the growth in the economic value of the firm over 127 years? He reasoned that since partnership injections were based on book value, this should determine what they are paid in the event of an IPO. However, payments based on book value would create a new problem: large surpluses.
Weinberg also believed capital constraints could be useful if they forced the partners to choose the best markets to enter rather than just following the competition. For example, the firm would have to decide whether a big expansion into capital intensive trading was appropriate given the traditional strengths of the firm in areas such as underwriting and mergers and acquisitions. This attitude would mean Goldmans concentrating on niche markets, traditional investment banking. However, the firm always moved with the times, profiting from new areas. The decision to be a niche player would be at odds with its long history of expansion. Perhaps more important, going public does not suddenly convey an endless supply of capital to any firm. For capital to be forthcoming, it has to satisfy its shareholders and lenders that more injections will be profitable.
Five days after the new partners joined the firm, the December meeting was held to decide on the future of Goldman Sachs. Steve Friedman and Robert Rubin (co-vice-chairmen since 1987), who oversaw the daily operations of the firm, expressed support for going public. In
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the end, no vote was taken. With such strong opposition, especially by John Weinberg and his elder son (Jimmy),9 there was no chance of a majority vote in favour of an IPO.
In February 1987, Robert Freeman was arrested for insider trading. By November 1991, the Maxwell affair was public knowledge. During these years, the question of seeking a public listing was very much on the back burner.
Goldman’s was the leading investment bank for mergers and acquisitions, but in the heady days of the 1980s, until the October 1987 crash, risk arbitrage was the second most profitable division. It specialised in spotting opportunities for making profits from arbitrage among securities: buying/selling equity or bonds because they were considered under/overpriced, For example, a firm that became a target for a leveraged buyout often saw its share price rise dramatically after the announcement. Profits could be made if investment banks spotted potential LBO targets and bought shares before the LBO became public information.
However, in this risky business, there was a fine line between public information and insider information, confidential information held by, say, the M&A department about an upcoming merger, that would yield high profits to the risk arbitrage department. Insider trading is a criminal offence. To ensure compliance, Chinese walls were erected which restricted the flow of information between departments in a bank or securities firm.
In 1986, Mr Robert Rubin (a partner at GS since 1966) was head of the arbitrage department, originally founded by Gus Levy. Robert Freedman, his assistant and a partner since 1978, was chief of arbitrage and head of international equities. In 1987, Dennis Levine of Drexel, Burnham Lambert10 was arrested for insider trading. Plea bargains led to Levine naming Ivan Boesky, who then identified Martin Siegal, a recent recruit to Drexel from Kidder Peabody. Siegal, in turn, named Robert Freedman, and some former employees from Kidder Peabody.
Robert Freedman was arrested in February 1987. An internal investigation by GS after Boesky’s arrest had revealed no evidence of insider trading at Goldmans, so the firm was confident there was no case to answer and stood by their man. To have a relatively senior partner convicted of this crime would seriously damage the reputation of any bank, especially one as august as Goldman Sachs. On 13 May the US government, seemingly unable to prove its case, moved for dismissal, claiming it was preparing a bigger indictment. In 1989, after over two years of legal wrangling, Freedman pleaded guilty to one charge of insider dealing, based on what some would interpret as an innocent remark made to Siegal. During the internal investigation, no one at GS thought the remark constituted insider trading. But in 1989, when reminded of what he had said, Freedman acknowledged that after Siegal had confirmed some information in relation to a leveraged buyout (LBO), he should not have continued to trade in the shares of the target firm, Beatrice Company.
Freedman was ready to plead guilty on this one count, perhaps because he was worn down by the affair and like Goldmans, recognised that the chances of a fair trial were slim. Polls of potential jurors had revealed an innate hostility to investment banks, which were perceived by the average public to be greedy and lacking in morals. Freedman was fined,
9 Weinberg’s other son, John, on the management committee, did not voice an opinion.
10 Drexel, Burnham, Lambert specialised in leveraged buyouts, raising large amounts of finance based on borrowed money (e.g. junk bonds) on behalf of a bidding firm, so it could buy out a target.
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spent just over 3.5 months in jail, and resigned his partnership. The whole episode cost GS $25 million (they paid Freedman’s legal bills) and a lost reputation.
Goldmans had been slow to make its mark in London, possibly because of its long running relationship with Kleinworts. Though they opened a London office in the 1970s, it was a small, largely unprofitable operation. The firm was anxious to establish itself. Enter Mr Robert Maxwell, a Czech who emigrated to the UK after World War II.
Robert Maxwell had already been censured twice, once in 1954 and again in 1971, when the Department of Trade and Industry declared he was unfit to run a public company. Despite warnings from the London office, the management committee in New York agreed to do business with Maxwell. However, in view of Maxwell’s chequered history, the London office was instructed to proceed with caution. All the transactions were to be relatively low risk, such as buying and selling MCC (Maxwell Communication Corporation) shares over the period 1989 – 91.
Maxwell’s champion was Mr Eric Sheinberg, a partner in GS for 20 years and based in the London office. Sheinberg had known Maxwell since the mid-1980s and bid on a block of shares being offered by Maxwell. This was followed by a series of block share (5 – 20 million shares per purchase) dealings, the most serious of which involved Goldmans unwittingly repurchasing shares Maxwell stole from his company’s pension funds. The proceeds, £54.9 million, from the share purchase went to BIT, a private firm in the Maxwell group. BIT used the money to finance the purchase of the shares by two Liechtenstein trusts, indirectly controlled by Maxwell. Using these trusts, Maxwell gained control of the stolen pension fund shares, which could now be used as additional collateral.
During this period, Sheinberg arranged numerous foreign exchange transactions and two call options on Maxwell’s behalf, pricing them himself rather than using the experienced option price team. Sheinberg also arranged two loans of £25 and £35 million in, respectively, March and August of 1991. However, the management committee was increasingly concerned about the Maxwell connection, and Sheinberg’s role. At an August 1991 meeting, it was decided that two partners, Mr Ken Brody and Mr Robert Katz (a lawyer) should handle the Maxwell affair; Sheinberg was gradually eased out. GS was holding £106 million worth of shares in Maxwell’s companies. If they called the loans and tried to offload the shares on the market, they would get very little back. The plan was to get Maxwell to agree to reschedule debts. Maxwell had the firm exactly where he wanted them, because Goldmans would be too embarrassed to call a loan or sell their collateral.
It was not just Goldmans that fell into the trap. Most of the major American and British banks in the City of London had dealings with Maxwell. At the time of his death, he owed £2.8 billion to a large group of banks. Despite Maxwell’s bad reputation, withholding crucial financial information and secrecy about the links of over 400 firms within the publicly owned MCC, banks were attracted to Maxwell because he was prepared to pay high fees and comparatively high rates of interest on his loans, a classic example of adverse selection. It also demonstrates the dangers of a herd mentality. A reputable bank such as Goldman Sachs doing business with Mr Maxwell acted as a signal to other banks that perhaps Maxwell was creditworthy.
The GS loans had not been repaid by early October 1991. Deadlines were set, then extended, when no payment was made. GS had had enough but after Maxwell barged
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into the New York offices, he was given another week to repay the $35 million loan. By 30 October, no payment had been made. Maxwell was informed that GS would begin liquidating collateral. Maxwell left for his yacht, making no attempt to extend the deadline. GS was able to sell 2.2 million shares, leaving them with 24.2 million. They tried to stall further sales, telling Kevin Maxwell they would halt the sales if the loan was repaid. By 5 November, the markets knew that GS was liquidating Maxwell’s shares. Two hours later trading was suspended because Maxwell had disappeared from his yacht.
For Goldman Sachs, it was the beginning of three years of law suits and trying to salvage its damaged reputation. The US Securities and Exchange Commission investigated GS but did not charge the firm or Sheinberg with any wrong doing. The pension funds were a different matter. The public perception of the affair was that Goldmans and other reputable banks were guilty of supporting Maxwell and indirectly, of depriving 17 000 British pensioners of £400 million worth of retirement income. Lawyers for the funds’ trustees launched a US law suit, presenting GS and Sheinberg with a long list of charges including, among others, fraud, breach of contract and conspiracy. Not willing to risk a hostile jury and public trial, GS settled out of court for $253 million. Not only had the firm’s reputation suffered, but many of the partners, especially limited partners11 who knew nothing of the affair, were angry at having to pay out such a large sum.
In addition, GS faced losses totalling $91 million from defaults on loan and unsecured foreign exchange transactions the firm had conducted on Maxwell’s behalf. The Securities and Futures Association (SFA) fined Goldmans for breaching its capital requirements in its commitments to Maxwell. The cost in reputation became clear when the British government excluded GS from underwriting the third flotation of British Telecom shares in 1993.
Profits at Goldmans in 1994 were the lowest in a decade. The fixed income and foreign exchange departments in the London office had lost over $350 million between the beginning of the fiscal year (December) and April 1994. Profits were also undermined by a 40% increase in operating costs between 1992 – 94, due mainly to overseas expansion.
10.2.5. Volatility and Losses from a ‘‘Cocktail’’
In 1994, GS considered itself to be highly diversified, engaging in commodity trades, underwriting stocks and bonds, mergers and acquisitions, and proprietary trading. Unfortunately, in February 1994, the Federal Reserve Bank raised interest rates by 0.5% – the first of six increases over 6 months. As a consequence, losses in proprietary trading nearly exceeded the gains made in other areas of investment banking.
At this point in time, GS had no risk management system per se – the view of Mr Michael O’Brien (head of proprietary foreign exchange trading) was to hire the best in the business and let them get on with the job, with minimal interference, provided he was kept informed. Traders could take very large positions – it was up to them to decide when to close them down. Trading managers were responsible for their own desk; senior management relied on informal channels of communication. Friedman, the co-chairman,12was hoping for the
11Partners who retired but left half their capital with the firm, earning interest on the capital invested.
12Stephen Friedman and Robert Rubin were appointed co-vice-chairmen in 1987. They were named senior partners and co-chairmen in 1990, succeeding Mr John Weinberg.
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success of one big trade. A trader, Houghton-Berry, had a short sterling position, the result of a ‘‘cocktail’’ (Endlich, 1999, p. 203) of 50 000 options and futures, designed to profit from the timing and size of the Bank of England (BE) future rate changes. HB and the GS economist Davies expected UK rates to rise, but not by as much as the market was anticipating. The HB position would profit provided any rise in UK rates was less than the market anticipated. By December 1994, they were to be proved correct, but short-term events resulted in a fiasco.
The position showed marginal profits by September 1994, despite volatility in the markets since July. On 7 September, the Chancellor of the Exchequer would announce any change in official interest rate. There was no announcement, and activity in the markets suggested a rate rise was unlikely. By Monday, 12 September, the position had recouped losses from the previous week13 and was in profit of $10 million. On the same day, the portfolio lost millions in minutes, because the Chancellor announced a 0.5% increase in UK rates to 5.75%, resulting in changed market expectations that UK rates could be as high as 8% by Christmas.
Houghton-Berry was instructed to unwind some of the position. GS lost $50 million because the market was illiquid, and the action of unwinding the position depressed the markets even more. Had the position been carried until year-end, these futures and options would have made about $20 million – the rise in interest rates (to 6.25%) was much lower than had been expected after the September announcement. Davies and Houghton-Berry were proved correct, but it was too late.
10.2.6. Risk Management: A Formal System
Goldman Sachs responded to these losses by introducing an interdisciplinary, firm-wide risk management committee in 1995. It meets weekly and can ‘‘push a button’’ to see GS’s market and credit risk exposure in aggregate. Traders had to defend their positions weekly. Each trader is assigned a ‘‘risk limit’’, an amount which GS will accept as losses before the trader shuts down. Unlike other banks (e.g. Bankers Trust), the limit is not based on a predetermined size for a given position. It is possible that had formal risk management procedures been set up at the time, HB and Davies might have successfully defended holding the position. It would be highly unusual for the Chancellor to raise rates by 2.25% in 3 months – it had taken the Fed 6 months to raise rates by 3%.
This risk management committee has evolved through time in response to the introduction of new risk management techniques and the requirement to meet new demands set by regulators. By 2003, the single committee had expanded into nine risk committees.
1.Firm-wide: Approves new businesses/products, divisional market risk limits, sovereign credit risk limits, credit risk limits, limits based on abnormal/catastrophic events, inventory position limits for some country exposures. Reviews activities of existing businesses, business unit market risk limits, scenario analyses. Also, together with the Controllers Department, regularly reviews internal valuation models and the pricing positions set up by the individual limits.
13 More than $50 million was lost the week before the BE had been unsuccessful in a sale of short-term bills, causing rates to rise by 1% – quickly reversed because there had been no official change of interest rate policy.
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2.FICC and equities risk committees: Set market risk limits for their respective product lines based on a number of measures including VaR, scenario analyses and inventory levels.
3.Asset management control oversight and asset management risk committees: Oversee issues related to operation, credit, pricing and business practice.
4.Global compliance and control: Develops policies and training programmes to mitigate compliance, operational and reputation risks; assists management in the identification/review of these risks.
5.Capital: Reviews/approves all transactions involving commitment of GS capital, e.g. extensions of credit risks, bond underwritings and any unusual transactions or financing arrangements which involve significant capital exposure; also, maintenance of capital standards on a global basis.
6.Commitments: Reviews and approves underwriting and distribution activities; sets policies to ensure standards (e.g. legal, reputation, regulatory, business) in relation to these activities are maintained.
8.Operational risk: Development/implementation of policies on operational risk; monitors their effectiveness.
9.Finance: Oversees GS’s capital, liquidity and funding needs; sets inventory position limits.
All the risk committees report to the powerful management committee, which takes ultimate responsibility for risk management and control.
GS also has departments (‘‘non-revenue’’ producing) that perform risk management functions: firm-wide, controllers, treasury, global operations, internal audit and legal.
Goldman Sachs’ integrated approach to managing risk involves:
žManage the exposures through diversification of exposures, controlling the size of trading positions, and using securities and derivatives to hedge positions.
žUse quantitative tools which includes:
–Use of VaR to set risk limits. Use of scenario analyses to set risk limits: scenario analysis involves looking at how certain market events affect GS’s net trading positions. The market events include: an unexpected, large widening of credit spreads, substantial decline in equity markets, and significant changes in emerging markets.
–Setting limits on inventory positions for certain country exposures and business units.
–Value at risk, scenario analysis and stress tests are explained in some detail in Chapter 3.
GS has started to review its approach to VaR, and some related VaR numbers in its Annual Report. Recall from Chapter 3 that a number of assumptions are needed to compute value at risk. In the Annual Report, the VaR numbers reported are based on a 95% confidence interval and a 1-day time horizon. So there is a 1 in 20 chance that daily net trading revenues will fall below expected net trading revenues by an amount that is at least as large as the reported VaR. Or, on average, about once a month, shortfalls from the expected
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Table 10.1 Goldman Sachs: Average Daily VaR ($m)
Risk categories
2002
2001
2000
Interest rates
34
20
13
Equity prices
22
20
21
Currency rates
16
15
6
Commodity prices
12
9
8
Diversification benefit
(38)
(25)
(20)
Firm-wide
46
39
28
Diversification effect: the difference between the firm-wide or aggregate VaR and the VaRs for the four risk categories. Arises because the four market risk categories are not perfectly correlated. For example, the losses from each category will occur on different days.
Source: Goldman Sachs 2002 Annual Report, p. 49.
daily trading net revenues can be expected to be greater than the daily VaR.14 GS reports that it uses weighted historical data to compute VaR, with more recent observations given a higher weight. The VaR number includes the product positions taken plus any related hedges which require positions taken in other product areas. The VaR numbers are reported for the four major risk categories: interest rate, equity, currency and commodity. Table 10.1 reproduced from the 2002 Annual Report.
The table shows that in aggregate, Goldmans’ average daily VaR has increased since 2000, and most of the increase can be traced back to higher interest rate risk. According to the Annual Report (2003), greater interest rate volatility and increased exposure contributed to the increase between 2000 and 2001, but between 2001 and 2002, it is caused by increased ‘‘market opportunities’’ and more customer activity which raised interest rate risk. Goldman Sachs reports that one day in 2002, trading losses exceeded its 95% daily VaR.
The paragraphs above are a brief description of how risk is managed at GS, with a special emphasis on market risk. As the outline of the committee system showed, the company also has systems in place to manage non-trading risk, credit risk, and operational risk.
10.2.7. Go for an IPO?
On 6 September 1994, Mr Friedman informed the management committee that he wanted to resign and become a limited partner. The public announcement came on 12 September, hours after the Chancellor unexpectedly announced the rise in interest rates and GS lost $50 million as a result of the Houghton-Berry/Davies ‘‘cocktail’’. Though a coincidence, the markets perceived that Friedman was being asked to resign because of the losses in proprietary trading, which suggested there were management problems at the top. Morale appeared to be low. In 1994, 35 partners opted for a limited partnership.
When Mr Friedman resigned in November 1994, Mr Corzine was made senior partner and chairman, and Mr Paulson sub-chairman. After the firm was restructured, they became co-chairmen. By 1996, Goldman Sachs had fully recovered, with profits restored to their
14 Goldman Sachs, Annual Report 2002, p. 48.
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1993 levels, and in 1997 profits increased again. Several factors contributed to the improvement. Corzine and Paulson recognised the need for increased diversification. They increased overseas operations and revived the fund management business. Goldman Sachs had withdrawn from fund management in 1976 but in the 1980s, Mr Whitehead formed Goldman Sachs Asset Management. A relatively small division in the mid-1990s, Corzine and Paulson encouraged its development and over four years, the number of employees had quadrupled to over 1000 in 1998. The investment banking side of the business benefited from the boom in IPOs and M&As. Finally, GS re-emerged as the market leader in block trading, due largely to the profitable disposal of $5 billion worth of British Petroleum shares on behalf of The Kuwait Investment Agency, followed by two more successful large block disposals.
Mergers in the investment banking sector continued apace in 1995 – 97. GS realised that without capital, it could fall behind. Proprietary and block share trading demanded large amounts of capital. Competitors such as Merrill Lynch and Salomon Brothers were able to put up billions to purchase other firms such as Mercury Asset Management and the bankrupt Japanese securities firm, Yamaichi Securities.
In January 1996, Corzine and Paulson, and the executive committee (except for John Thain, the youngest member of the committee and the chief financial officer), proposed that GS seek a public listing. The operating and partnership committees consisted of 40 senior partners just below the executive committee. An independent compensation specialist hired by them reported that the top 5 – 10 partners would improve their compensation if GS went public, but the next 150 partners would actually be worse off. Based on these findings, nearly 100% of these two committees rejected the idea.
Nonetheless, a fortnight later, the matter was put to all the partners, to be debated over a weekend meeting. Not only was the financial compensation unattractive to most partners, but just as in 1986, non-financial issues were raised such as moral obligations to earlier generations, and perceived problems of recruiting top staff. It was clear by Friday night that there would be a substantial no vote if one was held; as a result, the motion was withdrawn.
The meeting did give Corzine a mandate to improve the firm’s corporate governance.15 He did this by getting rid of the title of partner. Partners and long-standing senior vicepresidents (not partners) would now be called managing directors. MDs who were not partners (no capital investment) would receive all the benefits of a partner – equal salaries, offices, attendance at partners’ meetings and access to the partners’ dining room. The Annual Report would not distinguish between the two types of MDs, meaning clients and potential clients could not distinguish between the two.
This change in governance gave former senior VPs greater influence with clients because there was a distinction between them and thousands of ‘‘junior’’ VPs who had been at the firm for about 4 years and done well. It would mean GS could compete more effectively for new staff. Other investment banks in the USA and Europe had been attracting Goldman’s VPs with MD titles, stock options, etc. All Goldmans could offer a recruit from another firm was the VP title. It was hoped the reorganisation would help to keep employees who would never make partner but were productive members of the firm. Nor would the economic value of partnership be diluted. With a more equitable personnel structure, revenues should rise.
15 Corporate governance, simply defined, describes the way a firm is managed.
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In 1998, GS continued to do very well in all aspects of its business. Its strong performance, together with the rising stock market, made it likely that if GS went public, it would sell at 3.5 to 4 times its book value, compared to less than 2 times book value at the time of the 1996 disposal. Therefore, the financial arguments for an IPO were strong. Also, GS was quickly becoming the only privately owned major investment bank.
As before, there was a two-day weekend meeting of the partnership and operating committees. It was decided to put the plan for an IPO to the partners again, because GS needed capital if it was to continue its expansion. It ruled out merging with a large bank, as some of its rivals had done.
The partners’ weekend meeting took place in June 1998. Unlike the previous 1986 and 1996 meetings, the newest partners stood to gain because they had one or two record years behind them, and though they would be disadvantaged compared to the senior partners, they would do very well out of it. While the economic arguments were compelling, there was concern about whether the loss of partnership would result in loss of teamwork. But by Monday, the committees were unanimous: the best way forward was an IPO. A detailed package was put together (10 – 15% of its common equity was to be sold) and partners voted over the summer of 1998. A large majority voted in favour of going public, and an IPO was planned for November.
Even as the partners were voting, stock markets began to decline in August because of a fear that the Asian crisis might spread to the west. At the end of August, Russia defaulted on its debt, accelerating the speed of the decline. By the third week in September, it was clear that Long Term Capital Management (LTCM), a New York hedge fund, was in trouble. On 28 September, a consortium of banks, including Goldman Sachs, rescued LTCM at a cost of $3.625 billion. Bank stocks were hit particularly hard as the stock markets continued to decline because of their exposure in Russian debt and LTCM. Based on the value of shares similar to GS, its market value declined to 2.5 times book value. Citing unstable market conditions, the co-chairmen of GS withdrew the planned IPO. Corzine, a trader, was associated with the trading side of the bank. There had been trading losses of about $1 billion in the second half of 1998. He resigned his executive role in January but stayed on as cochairman to see the IPO through. It was claimed he was dropped from the executive committee because he was associated with the sort of hedging activity that caused LTCM’s collapse.
In March 1999, GS announced it would sell 10 – 15% of its common equity. The actual sale finally took place in May 1999 – it raised $3.6 billion, and the market value of GS was $33 billion. It was considered highly successful given it was a non-technology IPO.
10.2.8. Organisational Structure Post-IPO
Even after going public, GS’s corporate governance was largely determined by a privately run inner circle. The management committee (with 17 members) acts as the Executive, making it more tightly controlled than it was. In addition, at the time of the IPO:
žThere was a less powerful group of 221 partners.
ž48.3% of GS was still owned by the 221 partners. Corzine and Paulson 0.9% and 0.88%, respectively. Partners were not allowed to sell shares for 3 – 5 years. In less than a year
