Blue Blood and Mutiny
The inside story of the power struggle that rocked Wall Street's most prestigious financial institution
What began with a shot over the bow ended in a shocking coup d'etat. In less than four months a group of eight retired executives orchestrated a stunning revolt within Morgan Stanley, the venerable and—until recently—most successful financial services firm on Wall Street. Now acclaimed journalist and historian Patricia Beard brings together the entire behind-the-scenes story in Blue Blood and Mutiny, a real-life business thriller exposing the tale that shook high finance.
In March 2005 the business world woke up to an unprecedented full-page ad in the Wall Street Journal calling for the removal of Morgan Stanley's CEO. It was paid for by a cohort of eight former Morgan Stanley executives, including an ex-chairman and an ex-president, who soon would be dubbed the "Eight Grumpy Old Men." Their target was CEO Philip Purcell, a midwesterner who had come to power following Morgan Stanley's 1997 merger with Dean Witter Discover, where Purcell had been chief executive. In his eight years as CEO, Purcell had presided over a 50 percent decline in stock price since its peak in 2000 and a series of high-profile government and civil lawsuits that had tarnished the company's once-sterling reputation. Just a few months after the Journal ad, Purcell would retire under pressure, and former president John Mack, who had been pushed out by Purcell, was appointed CEO. The "Eight Grumpy Old Men" won the battle.
The revolt of the Eight is about more than the stock price, or any bottom-line metrics: it signals a clash of cultures and a battle for the soul of American business. Since its founding, Morgan Stanley has been an elite enterprise guided by J. P. Morgan Jr.'s motto "A First Class Business in a First Class Way." The House of Morgan stood for something larger than success with honor; its ethos was unique—some would say sacred—and the eight retired executives believed this ideal had been undermined during Purcell's reign.
Opening the long-closed doors of a bastion of Wall Street that has maintained the strictest privacy until now, Blue Blood and Mutiny weaves the history of Morgan Stanley with the inside story of the fight for dominance between two competing business cultures—one, the collegial meritocracy handed down from the days of J. P. Morgan, and the other, a cold, contemporary corporate model. Here is the season's must-read book for anyone who wants to understand the future of American business.
448 pages; ISBN 9780061899140
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Title: Blue Blood and Mutiny
Author: Patricia Beard
New York, January 2005
On Sunday, January 16, 2005, seven men met at S. Parker Gilbert's Fifth Avenue apartment. They strode past the doormen, across the black-and-white-marble floor, glanced at a portrait of someone's eighteenth-century ancestor, and ascended quietly in the wood-paneled elevator.
Parker Gilbert, tall, reserved, and patrician, was the former chairman of Morgan Stanley, the most prestigious institutional securities firm in the history of American finance. That afternoon, as he walked down the hall to open the door, his gait was stiff: he was seventy-one years old and he had spent many mornings in damp duck blinds. His hips were due to be replaced, but that might have to wait until this business was sorted out. As the apartment filled, the Gilberts' clumber spaniel, Molly, stirred on her pillow under the front hall table, picked up a toy in her mouth, and padded off toward the bedrooms. Molly wasn't unfriendly, but she warmed up slowly. Like master, like dog.
Gilbert and the other two Morgan Stanley Advisory Directors who were there that afternoon were the initial members of the cadre of mutineers who would later be known as the Group of Eight, and also, sometimes derisively and sometimes with affection, as the "Grumpy Old Men." Robert C. Scott, fifty-nine, with his Edwardian beard and starched pastel shirts, had been president of the firm until 2003; Lewis W. Bernard, sixty-three, bald-domed, blue-eyed, pixie-faced, and brilliant, the youngest person outside of the Morgan family ever to be made partner, was Morgan Stanley's former Chief Administrative and Financial Officer.
Gilbert had asked four current leaders of the Institutional Securities division to come over for a chat. The firm's "old guard" took an active interest in the state of the business and in maintaining the culture of the firm and met with Morgan Stanley managing directors from time to time on an informal basis. They would stop by Morgan Stanley for lunch in the partners' dining room, or call people they knew with ideas or input on clients. An invitation to the Gilberts' for a late-afternoon visit wasn't a signal that anything was afoot—and at that point, nothing was.
Gilbert, Scott, and Bernard were looking for insight into what was going on at the firm. There were signs that something was seriously wrong. The stock was trading around $50, down from a high of $110 at the peak of the tech bubble, and while other firms had recovered, Morgan Stanley's stock price was stuck. That was one of the reasons that 2004 ended with a zinger from one of the most quoted analysts on Wall Street, Richard Bove of Punk Ziegel & Company. Bove wrote, "Management and the Board have failed to generate stockholder [value] for five years. This is rapidly emerging as the lost decade for Morgan Stanley." Just a week before, the Wall Street Journal had reported on a letter that hedge fund manager Scott Sipprelle, a large stockholder and a former Morgan Stanley managing director, had written to the board. Sipprelle proposed a drastic restructuring of the firm, and he sounded as though he was prepared to take action if changes weren't made.
On a more subtle, cultural level, a few days earlier, all of the men at Gilbert's that Sunday had attended the memorial service for their deeply admired and beloved former chairman, Richard B. Fisher. Although 1,500 people turned out to mourn his loss, not a single member of the board of directors was there. A couple of days later, at the next management committee meeting, an outraged John P. Havens, the Head of Equities, angrily asked why the directors hadn't been there. Whatever the reason, their absence was an unacceptable breach of etiquette and respect. As one senior Morgan Stanley executive remarked, "That kind of disrespect is unheard-of on Wall Street; it tells you how little the board understood our business, and our culture."
Gilbert's guests that afternoon were the intellectual Indian-born Vikram Pandit, Head of Institutional Securities, the Morgan Stanley division that accounted for between two-thirds and three-quarters of the firm's profits; Joseph R. Perella, the iconic Mergers and Acquisitions star who was Morgan Stanley's most famous face to the outside world; John Havens, a natural leader who patrolled the trading floor bellowing out his favorite refrain: "I wear Morgan Stanley blue underwear"; and Tarek F. Abdel-Meguid, Head of Investment Banking, a handsome, preppy banker of distinguished Egyptian descent, who combined social ease with an organized business style.
Every man there was a master of the calculated, intelligent risk, leaders of that class of men and women who make businesses great. Gilbert and his generation had built the firm. Most of the former executives who would soon make up the Group of Eight had joined Morgan Stanley before 1971, when it was still a private partnership, with 200 employees and $7.5 million in capital. It was now a $60 billion public company with 54,000 employees worldwide. Gilbert had been chairman when the firm went public in 1986, making himself and others far richer than they had ever expected to be. Now they were enjoying quasi-retirement, eased by wealth and invigorated by prodigious charitable endeavors and entrepreneurial enterprises—as well as by golf, fishing, shooting, skiing, and sailing, and in a couple of cases, new wives.
Except for Bob Scott, none of the Eight had been employed at Morgan Stanley in the twenty-first century. The title "Advisory Director" was granted to certain senior executives when they retired, earning them the eminence and pathos innate in such words as emeritus. Even the offices the firm provided for them in an innocuous Midtown building a few blocks from Morgan Stanley headquarters were known as "Jurassic Park," but they weren't finished yet.
The Eight were the epitome of the Morgan Stanley image: Ivy League or "little Ivy"-educated, socially conservative, nice-looking Eastern Establishment moneymen. Yet while Morgan Stanley was known as a "blue blood firm," Parker Gilbert correctly insisted that "Morgan Stanley blue" was not inherited through privilege, but earned by merit, and passed along from one generation of leaders to the next. Gilbert found the terms "blue blood" and "white shoe," which were so often used to describe Morgan Stanley executives, distasteful, but even so, he carried the DNA of the firm. His father, S. Parker Gilbert Sr., was a J. P. Morgan partner and was one of the six men present at the 1935 meeting when Morgan Stanley was founded. His godfather, Henry Morgan, the son of J. P. Morgan Jr. and grandson of J. Pierpont Morgan, was one of the named partners. After Parker Gilbert Sr. died at the age of forty-five when Parker was four years old, his mother married a widower, Harold Stanley, who was the other named partner. By Gilbert's legacy and his actions, he embodied the philosophy that J. P. Morgan Jr. read into the record at a 1933 U.S. Senate hearing: "At all times, the idea of doing only first class business, and that in a first class way, has been before our minds."
Some believed that the foundation of Morgan Stanley's culture was the conservation of the old, but in fact, the firm flourished because it fostered the willingness and courage to adapt and change—in a first class way. Beyond the history and the Morgan name, the business was built on the understanding that the most effective approach to solving difficult problems was to sit down together, look at the whole picture, and act in the best interests of the firm.
That Sunday afternoon in January, Parker Gilbert had invited the seven men to his apartment to learn more about what was now in the firm's best interest. They settled in his moss green library, among shelves filled with art books, a mysterious painting of a peasant woman holding a doll, by one of the nineteenth-century masters, that hung over the couch, and a little Russian Constructivist canvas that brightened the wall between windows overlooking Central Park. Arranging themselves around a burnished mahogany pedestal table with a silver tankard in the center, they started to talk.
"We weren't planning to do anything yet," Gilbert recalls. "It was before that—but we wanted to know what was going on. We were very clear at that meeting that we didn't know what, if anything, we were going to do, but we needed to get some intelligence.
"We wanted to make sure that should we do something—and we said we weren't going to tell them,"referring to Pandit, Perella, Havens, and Meguid,"for obvious reasons what, or when we might do anything, if at all—but we were prepared to stake our reputations. We needed to know if this was something that should be addressed, and whether the issues were real."
At the root of the "issues" was Philip J. Purcell, who became Morgan Stanley's chairman and CEO in 1997 by insisting that his midmarket brokerage, Dean Witter, would only merge with Morgan Stanley if he got the top position. A dedicated midwesterner—Chicago out of Salt Lake City—Purcell was six foot five, and loose limbed, with an understated all-American style. He had been a sort of boy genius—he was the youngest person ever to be made partner at the management consultant firm McKinsey & Company. Sears hired away and created the position of vice president for planning for him. When the new plans included acquiring a financial services firm, Sears bought Dean Witter and sent Purcell to New York to be its president, even though he had no financial services experience. He invented the Discover card, made it a success, and then spun off Dean Witter Discover in 1993, with Dean Witter as the lead underwriter, and Morgan Stanley as a co-manager of the IPO. That was when Purcell got to know Morgan Stanley's then-chairman, Dick Fisher, and the firm's president John J. Mack, who was described as "charismatic" so regularly that it could have been part of his name. In 1997 Fisher and Mack had enough faith in Purcell, and believed their merger would create so much shareholder value, that they agreed to his terms. For the first time someone who hadn't grown up at Morgan Stanley or on Wall Street was put in charge.
The day the deal was completed in 1997, Joe Perella, who had been at the table at hundreds of mergers and acquisitions, told his friends and colleagues at the firm, "John Mack has never dealt with a guy like this. Morgan Stanley people say Phil will be gone in six months, but you don't go from McKinsey to Sears, start Discover card, then get on a life raft called Dean Witter, and steer it down the river and negotiate to become CEO of Morgan Stanley, unless you know a lot about maneuvering. This guy plays a different game."
At sixty-three, Perella was lanky, elegant, and passionate, with long expressive hands and a Prince Albert beard that he stroked from time to time when he was listening intently. In 2004 alone he had more than four hundred face-to-face meetings with CEOs and senior executives of client companies. Too many clients and colleagues had been asking him what was going on with Purcell, and why the stock was in the doldrums. It wasn't just the outside shareholders who were affected; stock was 50 percent of most of the bankers' compensation. The executives in the Equity Division, which ranked number one in the league tables, had to wonder what more they could do, when their counterparts at lesser firms were holding stock worth considerably more.
As Head of Investment Banking, Terry Meguid was Perella's closest colleague, and they shared a gutsy, outspoken style. While Purcell did meet with clients, he did not do so nearly as often as prior leaders of Morgan Stanley or his successor, John Mack. So Perella and Meguid had to compensate for Purcell's absence when a CEO would have been expected to lend his presence and expertise to close a deal. When Purcell did agree to meet with clients, he was well prepared and personable, but he didn't do it nearly often enough, and he wasn't around like the CEOs of other major New York-based financial institutions, who were leaders in the city's civic or philanthropic life. Instead, he lived in a suburb of Chicago and traveled between his home and New York on a Gulfstream V the firm bought after he took over. The perception at the firm was that he arrived on Monday mornings and often left at the end of the week to return to Chicago. He was graceless enough to tell the New York State Comptroller, who managed $100 billion in state funds—of which $1 billion was invested with Morgan Stanley—that he couldn't wait to get back to the Midwest on the weekends. Purcell was viewed by many as a "commuting CEO," perhaps in part because he kept his visibility at the firm low.
Meguid and John Havens reported to Vikram Pandit, who had been considered to be Purcell's most likely successor. Purcell had asked Havens and Pandit to work on the current iteration of a strategy to integrate the old Dean Witter Retail and Asset Management Divisions with Morgan Stanley's Institutional Securities. The businesses were still on different platforms, had different standards, and their leaders remained antagonists eight years after the merger. The bankers had recently presented a nearly completed integration plan at a management committee meeting, but Purcell put them off.
The two of them were partners the way Perella and Meguid were. Another Morgan Stanley investment banker explains, "When Vikram endorsed an underwriting, he did it with John's explicit understanding that his sales force could sell it." Havens's office was a glass box on the trading floor, where he could survey the room, keep the traders' spirits up, and answer questions: trading is a high-tension job involving split-second decisions, with millions of dollars at risk on a single trade. When Dick Fisher was chairman he walked the floor too, even though navigating wasn't easy; he'd had polio as a child and used two canes. John Mack recalls a time "during a terrible market, Fisher goes down to the trading floor and lightens the mood by telling a joke. I saw how when people are stressed he could take the pressure off." Purcell, by contrast, was almost never seen on the floor. One of the questions that repeatedly emerged in 2005 was why Fisher, Mack, and Purcell all seem to have overlooked the innate differences in the relationship between a CEO and his executives in an institutional securities firm, by comparison to a retail business. Dean Witter and Morgan Stanley were both Wall Street firms, but in certain ways, leading Dean Witter had more in common with heading Sears, where policy decisions came down from the top, and no one expected the CEO to be readily available to salespeople, or participate in their sales efforts. Furthermore, it was no secret that, on Wall Street, the retail end of the securities business was generally regarded as lower in the pecking order than investment banking and M&A, both of which had a star system. The CEO was expected to be the brightest star, but while Purcell looked the part, he didn't play it the way his predecessors had.
Maybe these were "soft issues," as one of the directors later claimed—the commuting, the aloofness, the closed-door style—but the performance numbers told their own story. Purcell was presiding over a gradual diminution of Morgan Stanley's stature. The share price had failed to recover from the Internet collapse at the same rate as the competition, and the stock was trading at a discount, multiples behind chief rival Goldman Sachs. In 2004, Morgan Stanley's stock was down 8.2 percent for the year, and 20 percent since March. Some of the firm's rankings had been downgraded and the Retail and Asset Management divisions, which were Dean Witter's dowry and the chief reasons for the merger from Morgan Stanley's perspective, were seriously underperforming. The firm's 2004 revenue was $10 billion more than Goldman Sachs's, but profits were almost identical: $4.55 billion for Goldman and $4.15 billion for Morgan Stanley.
Yet the Morgan Stanley board gave Purcell a 46 percent raise at the end of 2004, bringing his compensation from $14 million in 2003 to $22 million. That year he also exercised an additional $18 million in stock options granted in prior years.
Performance wasn't the only problem; Morgan Stanley's reputation was sullied by run-ins with regulatory bodies and high-profile lawsuits. Securities and Exchange Commission chairman William H. Donaldson publicly castigated Purcell for failing to take a recent settlement seriously enough. In the summer of 2004, only hours before a jury trial was to commence, the firm settled an Equal Opportunities Commission case brought by former convertibles trader Allison Schieffelin for $54 million, the second-largest sex discrimination settlement ever. And billionaire investor Ronald Perelman was currently suing Morgan Stanley for fraud, demanding billions in compensatory and punitive damages.
Purcell was now pursuing another merger, this time with a bigger but less prestigious bank, which could signal the end of the firm. Two of the names on the table were Wachovia and Bank of America. Whatever he proposed, he wasn't likely to get a lot of resistance from the Morgan Stanley board, which he had filled with retired CEOs of industrial companies, none of whom had financial services experience. Most of them lived near him in the Midwest; they played golf together and generally saw things his way. They favored a top-down hierarchical model that might work in a company that manufactured a product, but that kind of structure can be soul destroying at a firm whose assets are personal talent and reputation.
Former president Bob Scott confirmed that senior executives were calling to tell him they were spending a third of their time trying to talk their colleagues into staying.
Wall Street was whispering the kind of clichés that replace golf metaphors when the situation is dire: "The rats are deserting the ship," "The sharks are circling," and "The fish is rotting from the head"—that last, a reference to Purcell.
A Fortune magazine article had just appeared that ended by quoting Purcell: "Morgan Stanley doesn't have to do anything." Purcell was almost certainly answering a question about a possible merger or acquisition but the remark produced reactions of incredulity on Wall Street.
Parker Gilbert still hesitated to interfere. "The firm's performance results weren't all bad," he said, but he wanted to know "what was happening with the people?"
The three Advisory Directors, Gilbert, Scott, and Bernard, asked questions and listened to the executives for a couple of hours. It was getting dark outside when Gilbert thanked the men for coming and told them, "This is very helpful. I think we'll do something, but I don't know what it might be, and whatever it is, we're not going to tell you because we don't want to jeopardize your careers."
The four left without any sense of what, if anything, might happen.
When they were gone, Gilbert summed up the situation as he understood it: "There was no dialogue, no support, technical platforms needed to be fixed." He later said that it looked to him as though "the firm was not going forward, but was struggling like crazy to try and stand still, and in fact, was losing ground."
No one remembers who spoke up first, but one of the three Advisory Directors said to the others, "Phil has got to go." They nodded: Phil had to go.
And so it began.
The story of the eight renegade Morgan Stanley alumni, most of whom were old enough to collect Social Security, engaged the media and through them, the public, for months between the end of March 2005 and early July that year. When the Eight charged out of the shadows, they disrupted their lives, jeopardized their reputations, and spent millions of dollars of their own money—the final bill came to about $7.5 million over three months—and all for what? Because Phil Purcell didn't value the human harmonics that made Morgan Stanley great?
The fight raised fundamental questions about the character of investment banking, leadership, and Morgan Stanley itself. Purcell wasn't a crook, he didn't cook the books, bribe politicians, perjure himself under oath, or charge splashy parties to the company. The people in the Morgan Stanley saga seemed tame by comparison with the greed freaks and white-collar criminals in the news—"Stocks and Blondes: Booze, Babes and a Dwarf!" the Daily News wrote, in a story about a bachelor party that Tyco's chief executive Denis Koszlowski gave for his future son-in-law shortly before Koszlowski was sentenced to twenty-five years in jail on twenty-two counts, including grand larceny and securities fraud. Bernard Ebbers, founder of WorldCom, was on trial for the largest accounting scandal in U.S. history, which caused the collapse of his company, $180 billion in losses to investors, and the extinction of 20,000 jobs. In 2000, when Ebbers was named number 16 in Time magazine's "digital 50," the magazine had labeled him "King of the WorldCom" and quoted him as claiming that God had a plan for him. Citing people who had "trusted this company with their money," he told Time, "And I have an awesome responsibility to those people . . ." (Ebbers was sentenced to twenty-five years in a Louisiana jail in March 2005.) Yet even with stories like those providing lubricious dramas, the "fight for the soul of Morgan Stanley" dominated the headlines.
In the era of centi-millionaires executing multibillion-dollar deals, the juxtaposition of soul with money attracted attention and some skepticism; cynics claimed the idea strained credibility. Some believed that the Eight were motivated by the stock price—cumulatively, they owned eleven million shares of Morgan Stanley stock, which meant they had lost half a billion dollars on paper in less than five years, since the stock traded at its high. Others agreed with Purcell, who painted the Eight as out-of-touch old men who didn't have enough to do and were indulging their nostalgia for a world that was long gone. Midwestern defensiveness versus Eastern Establishment "condescension" ran through the veins of the Morgan Stanley struggle. Suddenly Purcell's friend Orrin G. Hatch, the Republican senator from Utah, popped up, and declared, "It is time for the Skull-and-Bones Society types to stop controlling Wall Street," and called the Group of Eight "limp-wristed Ivy Leaguers." Hatch's comment also reflected the power of myth: Harold Stanley, Yale 1908, was the only senior partner, president, chairman, or member of the management committee of Morgan Stanley who had been a member of Skull and Bones at Yale.
When the betting opened, as it does when there is any kind of contest that interests Wall Street, the odds were terrible: the Eight heard that their peers gave them no more than a 5 percent chance of winning. Nevertheless as the fight rolled out many people came forward who believed that Morgan Stanley was more than just a reservoir of capital and a name that had once meant something; and they rallied to fight for a culture that had been the gold standard on Wall Street for three-quarters of a century.
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