Transcript: View from the Top with Robert Pruzan of Centerview Partners

Julie MacIntosh, US mergers and acquisitions correspondent, interviewed Robert Pruzan, co-founder of Centerview Partners, in New York. They discussed the market for M&A, the strength of the American and world consumer, the new landscape of Wall Street, and financial regulation reform. This is a transcript of that interview.

PART 1: On M&A and the strength of the consumer

FT: Thank you for sitting down with me today, Mr Pruzan. I wanted to ask you first off, what is your opinion on the state of the market for mergers and acquisitions at the moment? It's been pretty dire for the last few months.

RP: Well it's been slow, obviously; we've had some recent activity this last week with a number of deals announced yesterday and another one today, but it remains a relatively uncertain time. As long as CEOs and companies feel uncertain about the future it's hard to get a lot of deals done. So I'm optimistic that with some stability coming into the market place and the economic situation, that things will begin to increase as we go forward, particular with large corporations.

FT: Do you think the environment for M&A right now is better or worse that you would have expected it to be, especially given that we're coming up on the anniversary of Lehman's collapse and the government help with AIG?

RP: Well, I think it's probably where we all expected it to be. You've got a lot of different dynamics going on; we have credit markets beginning to come back a little bit, certainly for investment grade companies; we're beginning to see the beginnings of the leveraged loan market coming back, but at the same time you've had a big run up in equities which means that valuations have come up - so there's this disconnect that hasn't, the circle that hasn't been squared yet, quite frankly.

FT: Now, your firm specialises in large cap companies, so how do the CEOs of the world's largest companies feel right now about the environment, and are they worried about things or are they feeling better these days?

RP: I think they're, probably to use the word cautiously optimistic; I think a number of the companies that we work with have seen a stabilisation in their business, at least. I'm not sure they see tremendous upside going forward, but they do see some stability; that stability is giving them some clarity in terms of what they're going to need to do to go forward, and I would say dialogues are beginning and strategies are being formed around that new vision of what the future may be.

FT: How focused are some of these CEOs still on their balance sheets and is that an area of real concern, or do you think the period where people were primarily concerned about their balance sheets is over?

RP: Well, I think it's certainly become a CEO-level issue. I think, if I look back prior to the crisis, I can't tell you the number of times in my 25 years of doing this that we spent time at a board level discussing the company's revolver or discussing its day-to-day access to cash - it became the key issue that we were speaking to CEOs about over the last year. I would say today it is not top of mine because we've gotten through the crisis, but it certainly is now a regular part of the agenda to discuss access to capital and, quite frankly, there's a big question going forward as the government subsidy programmes are pulled out and the loans from the government that are backing up a lot of the financial markets, if those are to go away will there be a maintenance of a ready market for capital?

FT: So many of the companies you advise also particularly have a consumer good focus; how do you feel about the strength of the American consumer right now?

RP: It's a big tough one for us; the consumer is obviously not as strong as they were - without the access to credit you're going to have some issues. In particular, we don't see the consumer coming back very strongly; I think what we see is a continued shift, quite frankly, in consumption patterns, which has led to different growth in different channels, different types of behaviour - the consumer is still purchasing, but different types of products.

FT: How much to do think that the stimulus plan had an affect on that? There is a bit of talk as to whether we should have another one; do you think that would be warranted?

RP: At this point, personally my view is that we don't need another stimulus plan. I'm not sure the first one has fully stayed its course - and particularly it's going to impact the more industrial, a portion of the industrial sectors. The consumer is adjusting to having less wealth, and how they adjust their plans and adjust their consumption patterns around that phenomenon is going to take some time to shake out.

Obviously with the market moving aggressively people are feeling a little bit more comfortable about their 401ks, about their pension plans, there's been some stabilisation in housing prices, so may be people aren't as afraid of what their wealth is. If they have some constant view of, here's my wealth, I think we'll see some purchasing come back.

The other question is the job market, with 10% unemployment; how long is that going to last, is that going to continue to increase, decrease? I think there's, it's still out on that one.

FT: Now, on a relative basis then, how do you compare the American consumer and the outlook here to consumers globally, and where do you think the real sources of strength and spending power in the future will be?

RP: I think as you compare the consumers around the world, obviously the US consumer had relied heavily on borrowing to fuel a lot of the growth in the US - I think that phenomenon was a little less acute elsewhere. That being said, the banking system in the US is probably stronger than it is elsewhere around the world, so you have to balance those two effects. I believe the access to credit in the US is likely to come back sooner, so I think on balance you'll probably get a US-led recovery.

FT: Do you expect US companies to become more aggressive in pursuing targets abroad now that we've been able to branch out a little bit and not focus so much on our own economic problems? And then vice versa, do you actually see perhaps foreign companies becoming more interested in US targets?

RP: I think cross border M&A will continue and be a key driver of the M&A markets going forwards. You have some issues that you're going to have to deal with; there's basically cross-currency rates, we usually see an influx or an increase in the amount of deals into the US when the dollar is weak and vice versa so you have to have a regular, a point of view as to the future of the dollar relative valuation. Secondly the question of, are we going to see governments have a stronger view about regulatory impact or national companies or nationalisation of companies given the financial crisis that's happened, are people going to be more protective than they have been about their country assets? We saw back a couple of years ago obviously the walls falling down on this issue, but it's very possible that they're increased in this type of period.

FT: Do you think - along those lines - that the Obama administration will be more strict in looking at deals for foreign acquirers in the US than the Bush administration was, and is that something that your clients are focused on?

RP: I think the Obama administration is likely to take a tougher view of antitrust. I'm not sure it's going to take a tougher view necessarily of foreign companies acquiring US companies - I think they'll look at it from a monopolistic perspective and pricing perspective.

PART 2: On the new Wall Street and compensation

FT: Now, you've been on Wall Street essentially your entire career, but a lot has changed over the last year - in particular with the landscape of Wall Street and the global financial sector; how do you feel about that and what do you think the results will essentially be over the longer term?

RP: I think clearly the question of the absolute size of financial institutions is coming under question, as is the model of the financial supermarket - providing everything to everybody - and the question of, can those institutions be managed and can the risks be managed? Certainly that's something that we've seen under certain… the models were wrong, if you will - I'm not surprised, because the experience is that every period of time the market gets ahead of itself these institutions get ahead of themselves.

But going forward I don't really expect the big banks to disappear; clearly leverage will be less, but innovation cannot stop in the financial institutions industry, it doesn't benefit anybody - so there'll be new innovation, and I think the challenge for management is to figure out a way to do it in a disciplined and safe manner.

FT: They're having more people these days that have been moving into the boutique sector; do you feel that there is an excess amount of competition at this point or is there room for everyone?

RP: Well, I've felt there's been excess capacity in this industry for quite a while. I do think that the number of people who are getting into boutiques because they think it's the right place to be is probably beyond the number that should be in boutiques, and there will inevitably be some sort of fall out from that. But that being said, I think the boutique model is here to stay and it's been around for quite a while.

FT: Now, given all the sea change essentially we've seen on Wall Street, do you think there are some repercussions of all these changes that have yet to become apparent, and does anything in particular worry you?

RP: Sure, it's not great to read in the newspaper that everything is being blamed on the bankers - clearly that's not good for our business. I'm not sure it's good for the economy, quite frankly, because there are lots of other reasons why things happened beyond bankers trying to make money.

So clearly I think there will be some ramifications, the whole G20 spending a lot of time talking about what are the right compensation models, and clearly you need to have some balance between the risk that people are taking and the rewards that they receive, and quite frankly banks have had incentive structures build around that but obviously we'll need some tweaking in terms of improvement in how that is executed. But I also expect that you won't see banks, over time, trying to be in as many businesses as, that they will be in as the cost of capital increases, as the amount of leverage that they can take on decreases they won't be able to make satisfactory returns on some of the businesses they've been in - and I suspect you'll see a more focused approach, certainly in the short term.

FT: And what do you think the best way to tweak compensation, how do you feel the best way to do that would be and do you think that having Washington involved is a good thing, or do you think that the banks should - from some kind of Darwinist, capitalist perspective - do it on their own?

RP: No, there is some level of regulation that is appropriate; clearly having some restraints on the system and having someone monitor the system is important, but just because you have a regulator doesn't mean you're going to catch things - there were regulators around during this last financial crisis.

The problem is when regulation looks backwards as opposed to forwards so the challenge is, how do you create an incentive system and a compensation structure that solves the next problem not the last problem, because I think it's, as one looks at these things the concern is that as soon as you put a system in place people will figure out how to structure around the system - so you really need a philosophy more than a set of distinct rules, in my mind.

FT: And in certain cases - or in many cases - people tied compensation to the share price of a company thinking that was the best way to align incentives, and then we saw people's whole fortunes go down the tubes; so that, in some people's minds, might be what should have happened and in others' something to avoid in the future. Do you think tying compensation very directly to something like a share price is the best way to do it, or spreading it out over longer periods of time in other ways, and would you support things like claw-backs, which is obviously one big debate at the moment?

RP: I believe you need to structure compensation to reward people for their performance. One of the components of that compensation, stock is clearly an important component but again, as you've just noted, having too much compensation associated with stock can have a perverse incentive both on the upside and the downside - we most recently experienced the downside, during the tech boom we experienced the upside. So clearly there have to be some other elements involved in assessing performance and rewarding people.

Quite frankly, in a small firm like ourselves we can reward people for things other than generating revenue.

As a public entity, the whole compensation package together has to be weighed and you have to include different elements of it both short term and long term which has been, quite frankly, in the US system for quite a while - so I'm not sure that gets at your solution.

Claw-backs in certain cases may be appropriate but quite frankly if you think, the ultimate claw-back took place - people's stock value went down dramatically and most of that stock was unvested.

PART 3: On regulation, private equity and debt

FT: How do you feel about the intersection we've seen between Wall Street and Washington; do you think that the two need each other right now to get out of their respective holes, or would it be better for there to be more separateness between the two?

RP: I think that a complete hands-off, laissez-faire attitude doesn't work, as probably shown during the Bush administration, and an overly invasive system that people fear today probably won't work either and there's got to be the appropriate balance. Politicising compensation, politicising regulation, is probably not the most effective way of dealing with it.

FT: It's widely expected that we will see new regulation, so what types of regulation would you support and are there certain types that you would caution against?

RP: I think in general over-regulation, regulation that looks too much backwards is problematic. As you think about the single regulator and what some of the proposals are currently being conceived at the SEC and at the Fed, to me the Fed needs to be independent - I don't want, personally, Congress deciding Fed policy; the system has actually worked, having independent Fed. If you think about, though, the Fed's role quite frankly in ensuring that there is a safe and sturdy banking system, that does at times conflict with their other role of ensuring consumer protection.

I think the crisis is a perfect example; to prevent there being a run on a bank there's certain information that can't be made public, but at the same time you're obviously hiding something from the consumer. So maybe it does make sense to have the separation of those two powers in the system.

FT: Do you think regulation in other types of areas that are more market-based, like dealing with short sellers for instance, is necessary, and are there certain things that you would be concerned about in that category?

RP: We don't spend as much time day-to-day in the markets; obviously having some set of rules that are known to all the players I think is helpful for efficient functioning of the market place. I think the dilemma right now is the changing of the rules on the fly, nobody knows how to position themselves or whether it's safe to go back into the markets, and if you want a fully functioning market people need to understand there are a set of rules to play by.

FT: Your firm has a small private equity arm, so how do you feel about the private equity market at the moment?

RP: The private equity market remains quite a tough market; we're actually seeing lots of very, very interesting companies that I believe need our help. We went out and marketed the fund as an operating-oriented fund that we were going to add value through improving businesses - I think our service, quite frankly, and our capability is in high demand right now.

The issue is it's very hard to find a seller who is willing to sell at a price that is attractive as a buyer - as we discussed earlier, there's very limited access to debt. That means you can't leverage up these companies like you could in the past, which is probably a good thing, but that means you can't afford to pay as high a price as many of the sellers would still like you to pay - and that's why the market has been slow to come back.

FT: How do you feel about the slight - I guess I would say - recovery we've seen so far in the debt markets? Would you quantify it as being more important than slight and do you think it'll last, or could this actually just be a flash in the pan of some sort?

RP: Well, I think in the investment-grade market what you had during the crisis was a crisis of confidence, and now that we've restored some sense of normalcy the investment grade capital markets are really getting back to a more normal level. People are willing to assume risk, buyers are willing to assume risk, and the capital market's functioning reasonably well.

The high-yield market has actually come back quite aggressively and that's good; I think absolute leverage levels will come down to more historical numbers, which is also fine.

The bank market remains difficult; as we all know the financial institutions are still constrained, they're still constrained by leverage ratios as well as portfolios of leverage as long as they're on the books, and other assets - toxic assets - that are still on the books, but we're beginning to see much more movement in the bank market in being willing to provide finance to clients both on a normal day-to-day basis as well as in an acquisition context - it's just more expensive for fees.

On a rate basis, rates are quite low on an absolute basis - which is quite good, quite frankly.

FT: Do you find that your large clients are concerned or worried at all about the fact that there are fewer large banks to provide them with the debt they need, or do they feel that there's still enough competition out there that they'll get what they need without getting fleeced?

RP: I don't think they're concerned as much in the number of banks, I think they're concerned obviously about the strength of the banks and that the consistency and ability of the banks to be there when they need them there, which was obviously what disappeared before, but I think right now that issue seems to have moved back to the backburner.

FT: Well thank you very much for your time, Mr Pruzan.

RP: Thank you, my pleasure.

LONG / SHORT

FT: Now we're going to play Long/Short; are you ready?

RP: I am.

FT: China stock market?

RP: Short.

FT: Obama's health care reform plan?

RP: Short.

FT: Goldman Sachs?

RP: Long.

FT: Ben Bernanke?

RP: Long.

FT: The hedge fund industry?

RP: Short in the short term, long in the long term.

FT: The US dollar?

RP: Long.

FT: Hank Greenberg?

RP: Long.

FT: The American consumer?

RP: In the long term, long; very long.

FT: M&A mega deals?

RP: Have to be long.

FT: Sheila Bair?

RP: Long.

FT: The State of New York?

RP: Long.

FT: Thank you.

RP: Thank you.

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