Human Resource Selection 9th Edition by Marianne Jennings

Exercise 13

Goldman Sachs: The Gold (?)Standard of Wall Street
Goldman Sachs was founded in 1869 as an originator and a clearinghouse for commercial paper. Marcus Goldman, a German immigrant, founded the company along with his son-in-law, Samuel Sachs. But the stodgy negotiable instruments market proved insufficient as the firm drifted from its founders' influence and its basic roots in tangible one-on-one business loans to more complex and sophisticated financial instruments.
In 1999, the same year Goldman itself went public, Goldman underwrote 47 companies. The 1990s investors did not know that the standard underwriting practice of requiring that a company show three years of profitability before being taken public was no longer enforced. That profitability standard had been slowly eased back to one year and then to one quarter. In fact, some Internet IPOs that Goldman underwrote had not yet seen any profits and their business plans indicated that profits were not on the immediate horizon.
In addition, Goldman engaged in laddering in the 1990s. Goldman and its best clients arranged for the allocation of a certain portion of an IPO at a preestablished price. However, those clients also had to agree to purchase a certain number of shares later during the IPO rollout at $10-$15 higher. Laddering is a trick, a sort of insider scam by the underwriter and its favored clients. The underwriter locks precommitted buyers into a price above the initial price and the shares of the IPO are guaranteed to rise. Goldman knows the fixed hand, but those in the market who are evaluating the IPO do not know that the increase in price is not due to legitimate demand for the company's shares.
For example, in 2000, Goldman was the underwriter for eToys, whose stock was priced for the IPO at $20. Goldman had laddered the shares and the price climbed to $75 per share by the end of the first day. By March 2001, eToys was in bankruptcy. Then-Goldman Chairman Hank Paulson condemned the practice when the firm received its SEC Wells notice for laddering, but denied any charges of securities fraud. Goldman settled the SEC charges of laddering by agreeing to pay a $40 million fine. 13
In the 2000s, Goldman was a big player in mortgage-backed securities such as collateralized debt obligations (CDOs). Goldman made recommendations to clients to purchase CDOs as it was pushing to have the instruments rated high even as it was positioning itself short on the instruments. Positioning short means that Goldman stood to make money when the value of the CDOs declined. Internal e-mails at Goldman found the investment banker referring to CDO securities as "junk," "s_____," or "crappy." 14 When Goldman executives were asked at a congressional hearing about their internal negative characterizations of securities the firm was touting and selling to its clients, Goldman executive David Viniar responded, "I think that's very unfortunate to have on e-mail." When his response elicited laughter in the hearing room, Mr. Viniar changed his answer to, "It's very unfortunate to have said that in any form." 15
When the real estate market declined rapidly, the value of the CDOs plummeted to junk levels. Goldman received $10 billion from the U.S. government as a bailout. In addition, the government had to bail out AIG, the insurer Goldman had used for its hedges against the CDO market.
Goldman's 2009 annual revenues topped $13 billion, with first-quarter earnings for 2010 of $3.2 billion showing it on track for a repeat. The company has 32,000 employees worldwide and takes no new clients unless they have a minimum of $10 million to invest. The company has several management mantras. One is "long-term greedy," which Goldman executives translate to mean "don't kill the marketplace," 16 and the other is "filthy rich by 40," a motivator for young people.
The SEC filed a civil action against Goldman for its conduct in ABACUS, a CDO deal. According to the complaint, 31-year-old Goldman employee Fabrice Tourre put together a deal of CDOs with the mortgage pool handpicked by John Paulson, a financial wizard who planned to position himself short on the securities Goldman would sell to its clients. The SEC complaint shows that Paulson chose mortgage pools that were dogs, i.e., "crappy." Those mortgages were chosen because these securities "tanking" was important to Goldman and Paulson due to their positions on the mortgage instrument markets.
Goldman's position is that the clients who purchased the instruments were "qualified" or "sophisticated" investors and had a sufficient level of knowledge of markets to understand and process the risk and realize that all investment bankers are positioned in the market according to their theories on risk.
Goldman's activities have been described as "Heads Goldman wins, tails you lose." 17 And "Every game has a sucker, and in this case, the sucker was not so much AIG as it was the U.S. government and the taxpayer." 18 Goldman CEO Lloyd Blankfein defended his firm's conduct in November 2009 in an interview with the London Times by stating that he was just a banker "doing God's work." 19
What are the results when companies create a business model based on loopholes and interpretations of the law?