Boutique Chic Refugees from big investment banks start their own shops

Red Herring – October 22, 2002

By Julie Landry

Across the country, and particularly in Silicon Valley, the heavy wooden doors of investment banks are slamming shut. Bear Stearns, Credit Suisse First Boston, and Merrill Lynch all have shoved hundreds of investment bankers out the door, many from West Coast offices. CIBC World Markets closed its West Coast mergers-and-acquisitions group earlier this year. And Robertson Stephens was shut down entirely by its parent, FleetBoston Financial.

If you look carefully, you can see the throngs of disenfranchised bankers on the streets. Though they’re not necessarily known for entrepreneurialism, investment bankers are loath to see money-making opportunities pass them by. So during the last two years, some refugees from the business have started their own boutique banks to pick up the slack left by the bulge-bracket exodus, targeting budding startups that need fund-raising and M&A help.

Like their retailing counterparts, these new boutiques–including Catapult Advisors, Revolution Partners, Rutberg & Company, and the Seven Hills Group–pitch themselves as avant-garde specialists, willing to deal in smaller quantities and take chances on new trends that aren’t yet fashionable. “These guys are pounding the pavement in a way I’ve never seen before in 15 years as a VC,” says Chad Waite, a general partner at OVP Venture Partners in Seattle, who says several boutiques have called on his firm, looking for deals and asking about tech trends.

As Peter Keating writes, although large deals are few and far between, there’s at least a modicum of activity around emerging companies, and midmarket banks like Needham & Company and Morgan Keegan also are angling for M&A business from startups that larger firms have abandoned. Though M&A activity has slowed to a trickle, deals are still being put together, particularly in industries like enterprise software, where there are more venture-backed startups than the market can ultimately support.

Midmarket banks pose some serious competition, but VCs suggest there’s plenty of work to go around for boutiques, which can afford to take on transactions of $10 million to $50 million. Cabot Brown, a managing partner at the Seven Hills Group who spent eight years at Volpe, Welty & Company, agrees. He says that while large banks own the market for megamergers, “nobody has a market share of greater than 3 percent in deals of $500 million and below.” Mr. Brown says his year-old firm is working on 20 deals right now, mostly M&A transactions.

Boutique banks say their focus on private companies (none plan to expand into public-equity sales and trading at the moment) makes them different, enables them to keep fees affordable, and allows senior managers to stay involved with deals. “We were never comfortable with the bait-and-switch model, where the 40-year-old wins the business, the 30-year-old runs the second meeting, and the 22-year-old spends the most time working on the deal,” says David Lavallee, cofounder and managing director of Boston-based Revolution Partners. Founded in 2000, Revolution has handled transactions like the sale of the price-comparison site Smartshop to CNet Networks earlier this year and the $14 million first round of financing for 170 Systems, a software startup.

By keeping overhead low, the small banks can spend all their time on a handful of deals and still turn a profit. Catapult Advisors, which opened its doors in February, has just six employees and sticks to security software, storage, and enterprise applications. Managing director Ron Lissak expects the firm to close about ten deals this year. Catapult has no administrative support staff. “We do everything ourselves,” says Mr. Lissak.

It’s possible that when the market for IPOs picks up, larger banks will swarm over startups again, eager for a first look at the next hot public offering. Ditto for the M&A market: when buyers return in full force, deal values will rise, putting many transactions out of reach for small shops. “These firms can be great in picking up our missteps and helping us find a buyer for companies. But as attention shifts to larger deals, they will have a hard time keeping a seat at the table,” says Charles Beeler, a general partner at El Dorado Ventures.

To stay competitive, boutiques will need to focus on the areas in which they can differentiate themselves from the bigger banks–namely, deep knowledge of specific industries and the active involvement of top-level bankers–and resist the urge to move upmarket, toward more lucrative public deals. Otherwise, they’re likely to find doors slammed shut in their faces yet again.