Coverage: Earning an IPO

Several Wall Street firms were fined for the way they hand and recruit business for initial public offerings. While fines aren’t rare, they usually point to large, systemic problems.

Here are a few of the details from John Kell in Fortune:

Ten banks have agreed to pay $43.5 million to settle allegations that they allowed their equity research analysts to solicit investment banking business and offer favorable research coverage to Toys ‘R’ Us when the toy retailer was planning an initial public offering in 2010.

The Financial Industry Regulatory Authority’s has levied fines ranging from $2.5 million to $5 million in the case. It is deemed a conflict of interest when banks use research analysts, or the promise of offering favorable research, to win investment banking business.

“The firms’ rush to assure the issuer and its sponsors that research was in synch with the pitch being made by their investment bankers caused them to overstep the prohibitions against analyst solicitation and the promise of favorable research,” said Brad Bennett, chief of enforcement at Finra.

In the documents supporting Finra’s fines, some colorful details emerged about the internal conversations between the research analysts and the investment bankers.

One analyst at Citigroup reportedly said “I so want the bank to get this deal!” after the analyst and investment bankers discussed the bank’s planned pitch to Toys ‘R’ Us. A Barclays analyst, meanwhile, wondered if the bank lost the business to, among other things, his “fumble,” Finra said. Toys ‘R’ Us did not award Barclays a leading underwriting position, and the bank declined to participate in the IPO.

The New York Times story in Dealbook pointed out that the deal would have been historic for Toys “R” Us owners:

Toys “R” Us offered the 10 firms various roles in the offering, but in 2013 it decided to withdraw plans for the I.P.O. An offering would have allowed the company’s private equity backers to exit one of the most famous deals of the buyout boom era in the years before the financial crisis.

Toys“R”Us Inc. became privately held in July 2005, when the company was acquired by an investment group that included affiliates of Bain Capital Partners, Kohlberg Kravis Roberts and Vornado Realty Trust.

“Each of these firms used their analyst to solicit investment banking business from Toys “R” Us and offered favorable research,” Susan F. Axelrod, Finra’s executive vice president for regulatory operations, said in a statement. “This settlement affirms our commitment to policing the boundaries between research and investment banking to ensure that research is not improperly influenced.”

In settling the matter, the 10 firms neither admitted nor denied the charges.

Finra also found that six of the 10 firms — Barclays, Citigroup, Credit Suisse, Goldman Sachs, JPMorgan and Needham — had inadequate supervisory procedures related to research analyst participation in investment banking pitches.

For years, regulators have sought to keep so-called sell-side analysts – those who assess publicly held companies and often issue recommendations on whether to buy a stock – independent from the solicitation of business for the bank.

Dakin Campbell reminded Bloomberg readers that many of the behaviors described were standard practice:

The case shows how new pressures came to bear on analysts after the world’s biggest securities firms agreed to pay $1.4 billion in 2003 in what was then the largest-ever settlement for violating securities laws. In that sweep, state and federal regulators spotlighted incidents in which analysts helped their firms win investment-banking business by publicly touting stocks that they privately disparaged.

Such abuses helped fuel a boom in stock prices during the late 1990s and a subsequent bust that erased trillions of dollars of shareholder wealth. Securities firms promised to impose so-called Chinese walls between divisions so investment bankers couldn’t push analysts to recommend that investors buy their corporate clients’ shares.

Finra, the largest independent securities regulator in the U.S., said today that Toys “R” Us and its owners demanded that analysts and bankers agree on valuation. For example, the owners told Barclays that they were interviewing analysts “after having been burned” on other deals in which they learned too late about analysts’ negative sentiments, according to Finra.

In May 2010, Citigroup’s investment bankers hosted a chaperoned call with the firm’s research analyst, who then e-mailed a supervisor. “I so want the bank to get this deal!” the analyst said in the e-mail, according to Finra. Days later, bankers told the retailer that they could “count on Citi’s firm-wide support and advocacy for the Toys story and valuation.”

Other firms contacted Toys “R” Us after making their pitches, expressing enthusiasm about the firm’s prospects and providing assurances that the views of bankers and analysts were aligned, Finra said. Toys “R” Us and investors, including KKR & Co., withdrew the IPO filing last year.

Initial public offerings have long been an area of bad behavior. While the fine is substantial all together, it doesn’t amount to that much money for individual firms. Here’s hoping it’s enough to teach them all a lesson, but I’m not sure that’s actually the case.