Tuesday, April 13, 2010

Dear Financial Institution Shareholder....

This is the year when investors and the public will grab the company annual report and read carefully the CEO's annual letter to shareholders. Especially those at major financial institutions.

How will they explain the crisis? How will they show how they survived it? How will they assess their firms' performance during the crisis? How did they treat employees and loyal, experienced staff?

How will they respond to the public backlash--fair or not--that large banks were bolstered by a life net offered by the U.S. Government and that large banks have returned to old habits and ways of compensating themselves excessively? What do they think of impending financial regulation and what will they support (and in what ways will they impede it)?

This will be the year when CEO's choose to escape the normal format of preparing a shareholder letter. Normally CEO's use the pages to describe performance in each business line, explain specific events that might have caused a decline in sector revenues or factors that helped spur sales, and present a general, often vague outlook on the periods to come.

This year there's much to address, and CEO's know they will be closely read and know investors and the public want to hear from them in a clear, lucid, matter-of-fact way.

Many in the public want to see an apology in some form. They want to see an expression of regret for the roles banks played in contributing to the asset bubble and extravagant risk-taking that led to the crisis and jeopardized the system.

And apologies have been offered--whether in sessions before the financial-inquiry commission in Washington or in recent letters to shareholders. Apologies alone, however, don't transform the system or provide assurance that the next crisis doesn't loom in the years ahead. A polished, logical letter to investors helps.

In good years, CEO's beat their chests and devote significant portions of their letters to people management and, if space permits, diversity. In a year after the recent turmoil, after financial institutions were fighting for their lives and after diversity took a backseat, in shareholder letters, CEO's are hinting at turning up the volume of diversity again.

Matter-of-fact might describe Goldman Sachs' recently published letter to shareholders--staid, fact-based, conciliatory in some passages. CEO Lloyd Blankstein knew the letter would be reported, analyzed, and dissected in blogs, in the financial press, and in financial circles. He and Goldman president Gary Cohn decided it was best to focus on a few topics everybody will want to hear about. They present and explain them tersely and without much editorial emotion--as if they were presenting a pristine, fact-based argument. When it could have been 15 pages, it was just eight.

Goldman's letter focused on a handful of topics: its client-based businesses, it vast liquidity pool ($170 bn), its compensation policies, and its careful descriptions of what happened in its ties with AIG.

First, it explained all its businesses--from asset management to commodities trading--in the context of accommodating clients. It wants to dispel the notion of being a glorified hedge fund or a vast private-equity organization. The letter several times reminds readers of Goldman's client-oriented heritage and its "client-based franchise." Goldman built its tradition based on a near-maniacal regard for clients and an obsession to avoid conflicts of interest with them. In its 2010 letter, it re-commits to its long-nurtured tradition.

Second, it knew it needed to address compensation: "We have not been blind to the attention on our industry and in particular Goldman Sachs with respect to compensation."

For fans of financial engineering, the letter painstakingly explains its trading ties with AIG, its management of AIG risks, and its indirect receipt of TARP funds, based on AIG-Goldman transactions (credit-default swaps, securities-lending-related, collateral calls and collateral disputes, etc.).

To its credit, Goldman's letter discusses recent promising initiatives on its support of women in business and small business in general, outlining related programs to come.

At JPMorgan Chase, CEO Jamie Dimon wrote a passionate letter in first person. His was 30-plus-page finance essay, written in the no-holds-barred, free-form style Dimon is known for.

He says banks have been subject to "demonization." The letter is a meticulously crafted rebuttal, an argument that some banks survived intact and for good reason. He writes the letter, knowing Congress and business leaders will read it word for word and will be anxious to see how the industry's shrewdest, toughest manager describes what happened and where do we go from here.

In simple, Dimon-like language, he decided it was important to explain "what we do." He wrote, "I will focus on what we as a bank actually do, which seems to be so often misunderstood." For MBA students and alumni pursuing career opportunities at JPMorgan, these passages are invaluable. He tries to show JPMorgan is more than a band of millionaire investment bankers. The "company," as he calls it, is 19,000 technology people and 80,000 operations people.

In 30-plus, easy-to-read pages, Dimon provided mini-essays on many topics: the crisis, regulation (reviewing its faults during the crisis, presenting a dozen or so broad solutions), leadership (outlining a basic list of what leaders--including himself--need to be and do), and compensation (with reasons why it's complex at a large, diversified institution such as JPMorgan Chase). Dimon blames the crisis on "bad risk management" and regulators' lack of a blueprint to resolve the collapse of institutions.

On regulation, he offers his suggestions, but with little detail. He appears to be more bothered by "the lack of regulation clarity," which is "creating problems for banks and for the entire economy." In essence, let's know what the score is, so we banks can all move on.

The letter doesn't discuss diversity overtly. Instead Dimon focused on the breadth of the organization, on opportunities globally and on identifying talent to groom it and develop it in far better ways than in the past. For new MBA's, he says the bank needs to and will develop a more in-depth leadership program.

Goldman and JPMorgan took a cue from Warren Buffett, who set the standard long ago for using the shareholder-letter platform to explain his businesses, to highlight risks, to teach and show, and to provide a realistic, simple view of the horizon. Perhaps in years to come, we'll continue to see financial institutions fashion their annual messages similarly.

Tracy Williams

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