In 2003, ten of the largest firms on Wall Street paid a total of $1.4 billion in penalties to settle allegations led by New York Attorney General Eliot Spitzer that their investment banking divisions exerting excessive influence over their research analysts at the peak of the 1999-to-2001 stock market bubble, creating conflicts of interest that led to investor losses in the market bust. Many of those same firms have now agreed pay the Financial Industry Regulatory Authority (FINRA) a total of $43.5 million to settle similar allegations of impropriety on the now failed 2010 initial public offering of Toys "R" Us.
FINRA said on Thursday it has fined 10 investment banks for using their equity research analysts to solicit investment banking business on the Toys "R" Us IPO by offering favorable coverage of the national toy retailer, which has struggled under a mountain of debt since its leveraged buyout in 2005. The industry watchdog fined
Those firms settled without admitting or denying FINRA's charges.
Six of those underwriters were included in Spitzer's so-called "Global Settlement" in 2003. Barclays, one of the firms fined for its efforts in soliciting Toys "R" Us business, wasn't actually picked as an underwriter on the now-cancelled 2010 offering.
During the heady days of the IPO bubble, research divisions at investment banks would often issue unrealistically positive assessments of a company's prospects in a quid pro quo relationship that assured further investment banking business. However, since the Spitzer settlement, investment banks says they have created strong walls between analysts who are supposed to provide unbiased research to clients and underwriters seeking to drum up new issue business.
Thursday's FINRA fine, in addition its new disclosures of email correspondence between research analysts, bankers and issuers, undermines confidence in the effectiveness of post-Spitzer changes.
In the case of Toys "R" Us, the worst alleged impropriety centers on research analysts presentations to the company, and their understanding that those reports would be a factor in whether their firms would eventually win underwriting business. Emails disclosed by FINRA show bankers seeking that their research departments be "tightly coordinated" and "consistent" with their underwriting pitches. In some instance, when the communication was not consistent bankers then worried that the "firm totally screwed up -- all is lost."
The fine also shows Toys "R" Us, owned by Bain Capital, KKR and Vornado, to be a tough negotiator with its underwriters, asking that firms send over the earnings forecasts and comparables that would govern their valuation of the company once it was public.
"FINRA's research analyst conflict of interest rules make clear that firms may not use research analysts or the promise of offering favorable research to win investment banking business. Each of these firms used their analyst to solicit investment banking business from Toys"R"Us and offered favorable research," Susan Axelrod, FINRA Executive Vice President, said in a statement.
"The firms' rush to assure the issuer and its sponsors that research was in synch with the pitch being made by their investment bankers caused them to overstep the prohibitions against analyst solicitation and the promise of favorable research," added Brad Bennett, FINRA Executive Vice President and Chief of Enforcement.
Despite FINRA's allegations of efforts by Toys "R" Us and its underwriters to push an IPO forward, the deal flopped. Toys "R" Us pulled its $800 million IPO in 2013 amid balance sheet woes and declining sales.
