One of my favorite aphorisms states, “You should never tear down a fence until you know why it was put there in the first place.”

Fences are torn down all the time, some by accident, others through ignorance insofar as their purpose is understood and while they are still useful. In such cases, the act of tearing down the fence or wall is usually one of defiance or arrogance.

Such an event occurred two years ago when the wall separating banking and commerce was torn down. The reasons for that wall being there were well known and its placement had served the country well for 66 years. Despite alarms that were cited at the time, the wall came down when Congress enacted the Gramm-Leach-Bliley Financial Services Modernization Act.

One testament to the arrogance associated with this act was the merger of Citicorp and Travelers. Under the provisions of the law at that time, this was a merger that could not legally have existed on a permanent basis. But the merger took place anyway, and then the powerful banking lobby (along with Travelers) bullied Congress into passing legislation to make the transaction legal.

Many of the concerns expressed when GLB was under consideration centered around the concentration of economic power and how it might be used, or more importantly, misused. Assurances that tie-in sales would be kept in check helped to dampen the cries of critics, and the legislation went forward with Congress trusting that banks would use restraint in wielding their economic power and “do the right thing.”

Now, in the Nov. 30 Wall Street Journal, an article entitled “Enron’s Collapse Raises Questions about ’99 Bank Deregulation Act,” the downside risk of the act is exposed.

The article states: “J.P. Morgan Chase & Co. and Citigroup Inc. were both lenders and investment bankers in the failed Enron-Dynergy Inc. deal. Today, ‘you get the worst of both worlds,’ said Eugene Putnam, the chief financial officer of Sterling Bancshares Inc., of Houston.”

The article continues: “Some industry experts add that the 1999 law heightens the risk that banks may make a loan to win a deal and that both can sour. Banks, in fact, have made little secret that they are using their balance sheets to win investment banking business. Bank of America Corp., for one, has made it clear that if a borrower wants a loan, that company better be able to ante up when it comes to choosing an advisor on a merger.”

So much for avoiding tie-in sales.

It has always been my view that the typical banker would not know a tie-in sale if he fell over it. I say that because tie-ins are so much a part of bankers’ everyday operations. Just let a small business or an individual apply for a line of credit and the first thing the banker says is, ‘Do we have your checking account and do you have any trusts that we can handle?’ Tie-ins are second nature to bankers.

Perhaps the strangest part of the Enron mess is the lack of caution on the part of the banks. Given the scrutiny the average person goes through when applying for a loan, it seems incredible that two banks loaning hundreds of millions of dollars ($400 million of J.P. Morgan Chase’s part of the loans was unsecured) would not have detected the hanky-panky alleged in Enron’s accounting. Perhaps when you have the government providing various safety nets, you can afford to throw caution to the wind.

By contrast, I recall an incident many years ago when one of my clients sought my help in obtaining an expansion loan from New York Life. I never liked to get involved in such things, but this was my best client and I was obliged to help. The loan was applied for and shortly thereafter declined. At first the client was outraged, for he was at the time paying us more in premium per year than the amount of the loan he was seeking. After he had cooled down somewhat, quite naturally he wanted to know why the turndown.

I reported to him that the company turned him down for three reasons:

–First, his company was new and did not have a long history of earnings.

–Second, 90% of his business was coming from one customer. Lose that customer and you are out of business.

–Third, the location of his expansion project was on a site slated for expansion of our local airport.

To my client’s credit, he appreciated the research, selected a new site and hired a sales force to cover the West Coast and Texas. Within six months he lost the account giving him 90% of his business, but by then he had established himself with many new accounts.

With two major banks loaning Enron huge sums of money, one cannot help but wonder if this did not contribute to the level of investor confidence that drove Enron’s stock up to $95 per share. The real tragedy now is that today the stock is trading at 35 cents per share and one of their major shareholders is the 401(k) owned by Enron’s 20,000 employees.

Enron could have used the kind of counseling from its lenders/investment bankers that my client received and benefited from.


Reproduced from National Underwriter Life & Health/Financial Services Edition, December 10, 2001. Copyright 2001 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.


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