The last tycoons: the secret history of Lazard Frères & Co (86 page)

The loss of Felix, Ira Harris, Ken Wilson, and Jerry Rosenfeld in a twelve-month period was a major blow to Lazard's M&A business, from both a prestige and an economic standpoint. Even though these departures could have been anticipated, the actual loss of these highly productive bankers, from a firm where partners rarely, if ever, left voluntarily, was a major challenge for Rattner and Michel to confront. Steve spent several weeks after Rosenfeld left in one-on-one meetings with top partners reassigning his duties. "The beginning of a period of generational change is always a very difficult period," Michel said. "But change in itself is always pretty good." Instead of replacing Rosenfeld with one person, Michel and Steve decided to appoint a new committee to oversee banking at the firm. Along with Steve, who was its head, the new committee consisted of Bill Loomis--marking the start of yet another of his resurrections--and the newcomers Ken Jacobs, a young partner who had been recruited by Agostinelli from Goldman in 1988, and, even though he didn't get along with Loomis, Bob Lovejoy, a former M&A partner at Davis Polk, the Wall Street law firm.

The firm also announced it was ratcheting up its principal investing activities, both as a nod to its legacy under Andre Meyer and, more important, as a way to increase partner compensation at a time when other firms offered their senior bankers not only private equity but also stock options and restricted stock. Since it was not a public company, Lazard could not offer stock or options to its bankers and so had to figure out another way to increase compensation to prevent them from being lured by other firms and to attract new partners. In addition to Jupiter Partners, which Edouard had started, there was now LF Capital Partners, $130 million of capital for minority stakes in smaller companies; a $500 million Singapore-based Asia fund; the $100 million Lazard Technology Partners fund; and a second $1.5 billion real estate fund, following the success of the first $810 million fund. Steve had arranged for the hiring of David Tanner, the son of a longtime friend, the investment banker Harold Tanner, to lead a new--still-to-be-raised--$750 million private-equity fund that would focus on bigger deals. Tanner was to work with Thomas Lynch, who came to Lazard from the Blackstone Group. As for selling the firm or taking it public, which would have been another way for the Lazard partners to get increased compensation, Michel told the
New York Times,
"I will never do it."

Not all the news on the personnel front after the 1997 bonus season was bad. The firm, at Michel's insistence, was able to make the very important hire, in February 1998, of Gerardo Braggiotti, the former second in command at Mediobanca, the influential and secretive Italian investment bank that Lazard had been close to since the 1950s, to head up the firm's investment banking business in Europe, outside of England and France. He also became one of the very few men to hold a partnership stake in each of the Paris, London, and New York firms. Along with Steve and David Verey, Braggiotti was named a vice chairman of Lazard Partners, the holding company with financial and ownership interests in the three firms. Braggiotti moved into Stern's old office at Lazard in Paris, next to Michel's. Even the furniture was the same. As he did with many Paris partners, Michel asked Braggiotti to sign an undated letter of resignation, so that it would be easier to fire him in the future. Understandably offended, Braggiotti signed the letter with that day's date on it, suggesting he was willing to resign before even starting at Lazard. He hand-delivered the letter to Michel. That was the last he ever heard from Michel on that topic. "I am starting to see the outlines of the next generation of the Lazard group," Michel said of Rattner, Verey, and Braggiotti, who were all in their forties.

HIGH-PROFILE HIRES
and departures--and those still rumored--aside, Steve now had the responsibility of a lifetime running the New York partnership, which still accounted for nearly half of the profits of the Lazard entities worldwide. By all accounts, he could not have been less interested in whether he was Michel's anointed successor. There was simply too much to do to worry about that. He took as his immediate mandate the task of dragging the firm into the late twentieth century after decades of Kremlinesque ossification. Like Gorbachev in the Soviet Union, Steve was determined to initiate a period of glasnost. "His job right now is to lead an organization," his friend Arthur Sulzberger Jr. explained, "and you don't do that by putting yourself up front. The story is Lazard, not Steve Rattner."

There were many challenges at first, not least of which was dealing with another piece of the still-unfolding scandal in the firm's municipal department. On November 21, 1997, the SEC charged the former Lazard partner Richard Poirier with fraud in connection with secret payments, totaling $83,872, made by Lazard--at Poirier's direction--to a consultant, Nat Cole, who then gave half the payment to a banker from Stephens Inc. who was, theoretically, an independent adviser to Fulton County, Georgia. The Stephens banker, in turn, made sure that Lazard won mandates to underwrite both a 1992 bond offering for Fulton County and a 1993 bond offering for the Fulton-DeKalb Hospital Authority. The SEC also alleged that Poirier was reimbursed by Lazard for political contributions, totaling $62,500, that he made to the campaigns of two governors at the same time he was seeking underwriting business from their states. The government also charged that Poirier had been conducting business similarly in Florida. The SEC's charges were reminiscent of the malfeasance that Ferber committed. The SEC also charged James Eaton, a former vice president at Lazard, with having a role in the scam. Eaton settled with the government by paying a $15,000 fine and agreeing to never again work in the securities industry. A week later, the U.S. attorney in Atlanta indicted Poirier for wire fraud and conspiracy, among other crimes. That same day Lazard reached a settlement with both the SEC and the U.S. attorney's office in Atlanta with regard to the actions of Poirier and Eaton. Mel Heineman, Lazard's general counsel, explained that the settlement specifically recognized that the misbehavior was "limited to" Poirier and Eaton and "was hidden from the Firm." Heineman continued, "The settlements also make clear the Government's view that Messrs. Poirier and Eaton caused numerous false and misleading invoices to be submitted to us, thereby misappropriating the Firm's funds to further their improper activities." Notwithstanding the firm's apparent absolution, Lazard agreed to pay $11 million to the government plus "restitutionary payments of the profits earned on the transactions at issue."

With only the yield-burning piece of the municipal scandal left to be resolved, Rattner dispatched Steve Golub, the new CFO, to clarify, if possible, the firm's famously opaque accounting system. No one ever really knew, perhaps not even Michel, whether individual business lines made money or not. For some reason, the firm's accounting was done on a cash basis--recognizing revenue and expenses as actual cash either came in or went out--throughout the year, and then changed to an accrual basis--recognizing revenue and expenses when contracts were signed but before the cash associated with them had been received--at the end of the year. This worked to Michel's advantage for years since, under the cash basis, he paid partners based only on the cash received by year end, not on the engagement letters signed for deals not yet closed. Rattner and Golub sought to change the old accounting methods. "None of it made any sense," Rattner said. "It was beyond all description." Worse, the capital markets people thought they were carrying the firm. The bankers thought capital markets was a total wasteland. Asset management was said to be providing half the firm's profits. But no one really knew. With Michel deciding how much or how little his partners were paid each year, knowing where Lazard's profits came from was not all that important, but if you had in mind actually
managing
the firm, then having some idea which departments made money and how much was close to essential.

Steve asked Golub to figure out the accounting and to see if it was even remotely possible to get the firm to report based on generally accepted accounting principles, or GAAP, as required by the SEC for public companies. "The stuff that was going on was breathtaking," Rattner recalled. "Not crookedness, but stupidity." One "tiny" example Golub found of the "stupidity" was that Lazard's joint venture in Singapore with the two other houses was set up as a corporation, rather than a partnership, so that the annual million-dollar losses were trapped there and did not flow back to the United States to offset taxable gains. "We got no tax losses, and it was just $1 million or $2 million a year being pissed away for nothing," he said.

A far more egregious offense, according to Steve, was taking place in Lazard's storied real estate department. Since the days of Andre Meyer, real estate principal investing and real estate M&A advisory had always been important businesses for Lazard. Lazard and Andre also nurtured one of the smartest--and least known--real estate minds on Wall Street, Disque Deane, who under the careful watch of Andre set up in the 1960s Peerage Properties, Lazard's real estate company, and then founded Corporate Property Investors, or CPI, one of the nation's first real estate investment trusts. Over time many of Lazard's real estate investments were funneled into CPI, including Peerage, before it was established as its own entity, making Deane a very wealthy man. He also was, according to Felix, Felix's "blood enemy." He had once, in the 1970s, been considered as Andre's successor to run all of Lazard. "You may ask," Deane said in the late 1970s, "why I wasn't more interested in Lazard. Why I didn't bow down to Andre Meyer and do his bidding and run the firm. The answer is
money.
When I came to Lazard in 1964 I had a cash net worth of $2 million. What do you think my net worth is today? Take a guess.
It's $70 million.
Felix's, I'd say, is $5 million." These days, Deane's net worth--he is still happy to convey--is closer to $1 billion, after having given away more than $150 million. He owns 80,000 hectares of land in Bolivia, some of which is mined for oil and some of which is agricultural. He also owns the six-thousand-unit Starrett City complex in Brooklyn, which was recently put up for sale at around $1 billion. Deane is also the man who ran into David Supino walking on Madison Avenue in the early 1990s, stopped, grabbed his former partner's lapels, inquired, "David, do you understand the power of compound interest?" and, without waiting for an answer, walked briskly down the sidewalk. In August 2004, though he is not an economist, Deane wrote a letter nominating himself for a Nobel Prize in Economics. He also still believes that Michel reneged on an ownership stake in Lazard he had promised to him.

After CPI was spun out of Lazard, Michel decided the firm needed to return to the real estate business. So he lured back to One Rock two of Deane's partners at CPI, Paul Taylor and Harvey Schulweis, a bearded former accountant who learned about real estate by auditing development companies. Taylor and Schulweis shared the responsibilities of running Lazard's real estate efforts, until the business was split, with Taylor taking charge of LF Property Investment Co., which invested in existing commercial properties, and with Schulweis running Lazard Realty, a riskier and more adventurous enterprise designed to develop empty lots or find downtrodden buildings and fix them up. The two men were not close, and that led to some spectacular real estate blunders.

In 1981, Schulweis masterminded the purchase of three old adjacent factory buildings in Long Island City, just over the Fifty-ninth Street Bridge from Manhattan's East Side. The original idea was to renovate the buildings and lease the space as offices. But with demand for office space sluggish, Schulweis came up with a new plan: the creation of the International Design Center, a massive redevelopment project, the idea being that interior designers and other businesses involved with home decorating would relocate from Manhattan to this new complex in nearby Queens. The cost to purchase and renovate the buildings was estimated at $150 million, with Lazard putting up $30 million. Schulweis's rival Taylor said of the IDC from the outset: "We should have put the key to the place in a desk." The project was a total disaster. Lazard fired Schulweis and lost a bundle on the IDC.

Art Solomon, who came to Lazard from Drexel in 1989, oversaw both the real estate advisory business and the billions of dollars in private-equity funds devoted exclusively to real estate. He had reported directly to Michel. Now, following Steve's appointment as deputy CEO, Solomon, a former CFO of Fannie Mae with a Ph.D. in economics from Harvard, reported to Steve. And he was in no mood to be brought into Rattner's fold. Solomon's first real estate fund, started in 1996 with $810 million, did well, earning annualized returns in excess of 25 percent. This led to the successful raising of the second fund, at $1.5 billion. Taking a page from Deane's book, Solomon attempted to engineer a spin-off of the Lazard real estate business in early 1999. He also wanted to recut his deal with the firm to get a bigger slice of the pie. Steve, not taking kindly to these moves, retaliated by telling Solomon he wouldn't consider it until he understood better how the real estate business at the firm had been operated.