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The McKinsey-ization of Wall Street

Management consultants are now running top Wall Street firms.

Wall Street old-timers will tell you that the beginning of the end of the freewheeling business they loved came in 1979, when consulting firm McKinsey advised Merrill Lynch to become a marketing-driven firm as opposed to a markets-driven one. The era of seat-of-the-pants management by close-knit partnerships of traders and investment bankers was ending.

Twenty years later, Wall Street is composed of giant, publicly held companies with long-range strategies, grand marketing schemes and professional management. In the process, consulting firms have become to Wall Street what the Dominican Republic is to major league baseball, a breeding ground for stars.

In this league, Morgan Stanley Chief Executive Officer Phil Purcell is the Sammy Sosa. He left McKinsey in 1978 to join Sears Roebuck, which acquired Dean Witter — where Purcell is credited with creating an efficient mutual fund sales machine. He quickly emerged as the dominant partner after Dean Witter merged with Morgan Stanley.

Over at Merrill, McKinsey alum James Gorman reigns over 14,000 brokers in the private client group. McKinsey man John Cecil helped Lehman Brothers cut costs, then became its chief financial officer in 1998 before getting pushed out in 2000. Jay Mandelbaum, CEO of Salomon Smith Barney Global Private Client Group, is another McKinsey grad.

Wall Street has become a major source of income not just for McKinsey, but also for rivals Boston Consulting Group, Bain and Booz-Allen. Merrill called on McKinsey last year to help cast its new compensation plan for brokers. Prudential tapped McKinsey to help cut costs in preparation for the mutual insurer's initial public offering. A McKinsey spokesman declined to comment for this story.

With changes, including the emergence of the Internet and the consolidation of financial firms, an outside opinion is more necessary than in the past. “Different forces are coming at you,” says Bruce Holley, a vice president in the asset management and wealth management practice at Boston Consulting Group. “All of a sudden, the competitive landscape changed dramatically.”

In fact, according to a study by Kennedy Information Research, financial services firms doled out $22.4 billion in fees to management consulting firms in 2001, more than any other industry.

The impact of all this strategic advice has reached into nearly every cubicle in every brokerage branch in America, as firms have embraced a new vision of their business. “They tell firms that they need to develop recurring revenues to survive in this business,” says one former wirehouse executive. “Twenty-five years ago, if you walked into a branch office with that idea, they'd throw you out.”

Not that the vision of where the business is headed is wrong. But it is in plotting out how to get there that the consultant view of the world often clashes with the reality of life in the brokerage trenches. Merrill is a prime example. Accurately or otherwise, Gorman was seen by competitors and in agitated corners of Merrill's branch network as the architect of its segmentation strategy, moving smaller, transaction-oriented accounts out away from brokers to call centers. “That's hard to tell a broker who's been doing that kind of business for 20 years,” says one Merrill branch manager.

Merrill, which declined to comment for this story, isn't the only firm where consultants have ruffled feathers. Across the industry, big producers who once wielded great influence have given way to consultants' big ideas. The by-product of such change can be significantly more serious than the usual ill will between salesman and management. “When a $3 million producer feels left out because he does mostly commission business, now you've got a devil inside you,” says one former Prudential Securities executive.

Some firms, in fact, take pride in avoiding management consultants. Smith Barney and UBS PaineWebber are known to shy away from the use of outside consultants, relying more on the rank and file for guidance. Jamie Dimon, the former president of Citigroup, is said to have told a gathering of new charges at BancOne that the firm was to be a meritocracy and to prove its independence it “wouldn't hire McKinsey.”

Still, consultants are likely to be more the rule than the exception. “Wall Street has always been criticized for not running good businesses, but it has been excellent at sales,” says recruiter Rick Peterson, who runs Rick Peterson & Associates in Houston. Over the past decade, Peterson points out, firms have been focused on achieving “three primary goals: capture more assets, eliminate liabilities and guarantee a revenue stream.”

That's often where consultants come in: to find ways to make brokers more productive, leverage client relationships and figure out what products make the most sense to push.

Not everyone thinks it's such a good thing. “Consultants seem very influential while they're in,” says one former New York brokerage executive, who estimates that major firms each pay out anywhere between $20 million and $40 million annually to consultants. “But, often their plans are discarded soon after they leave.”

However, the consultants themselves are not. Increasingly, they get jobs running businesses in which they've otherwise not participated. Mandelbaum, the CEO of Smith Barney's Global Private Client Group, says it's simply a coincidence that so many high-ranking brokerage executives come from consulting firms. “If you look back to the 1970s and 1980s, Wall Street really didn't use consultants. Now, financial services firms are among the bigger clients,” he says.

Short Sighted

From the start, there have been problems implementing the consultant's vision in the field. For example, Purcell pushed Dean Witter brokers toward selling proprietary mutual funds, offering a higher payout to brokers when they sold house brands. By the mid-1990s, though, those practices got both companies in hot water with the Securities and Exchange Commission, which took exception on behalf of clients who weren't aware of their brokers' conflicted interests.

Firms that rely on consultants too much, says one high-ranking Wall Street executive, “may design plans of driving behavior and focusing on P/L so much that you create unintended consequences.”

Just ask Mandelbaum. As a McKinsey consultant, Mandelbaum had never worked in retail brokerage when he began what became a two-and-a-half year assignment at the former Shearson Lehman Brothers unit of American Express. When he left McKinsey, he was scooped up by Sandy Weill and Dimon, who were cobbling together the empire now known as Citigroup.

He says that running a business requires a different view of things than he had as a consultant. “The biggest eye-opener was that, even in the best case scenario, the training in strategy is half the battle. The implementation and execution are more important,” he says. “You have to put it [strategic thinking] in perspective and be sensitive to creating the right kind of atmosphere.”

Consultants, says a veteran branch manager who has worked with firms such as McKinsey and Booz-Allen, “lack an understanding of the emotional aspect of the business. Sometimes consultants act like the tooth fairy brings the revenues.”

The tooth fairy, typically, isn't working at a local PaineWebber or Prudential office. Brokers are. And they are the ones who feel the acute pain of big ideas that often eat into their personal businesses but have great value to the larger organization.

“You have to be sensitive to the fact that to become a top producer, it is a major accomplishment, that to become an important branch manager is a major accomplishment,” Mandelbaum says. “Consultants can get a jaded view of how organizations work, which is through the CEO,” he says. “Work gets done or does not get done out in the field.”

When Merrill was considering changing its broker compensation last year, the firm brought in McKinsey to “crunch the numbers,” according to one Merrill manager. The final plan tilted compensation toward brokers who used managed money programs and penalized those who did more transactional business on smaller clients.

The complicated plan required an explanatory diskette for branch managers and was so focused on client segmentation according to account size that it left brokers with little leeway in holding on to some important, albeit smaller, relationships that were sent off to call centers and online trading.

Because brokers can leave a firm and take their cherished assets with them, it makes winning them over more important that winning over, say, line workers at the ball bearing factory. “Is it easy? No. Can it be done? Yes,” says Peterson.

Mandelbaum says the key for consultants may be “knowing what you know and knowing what you don't know, like the nitty-gritty of the sales process,” something he had to learn when joining Smith Barney.

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