The rumbling of war drums circling Morgan Stanley's Philip Purcell is deafening. Since lackluster stock performance sparked a group of dissident alumni in late March to publicly agitate for corporate change, the embattled chairman and CEO has emerged as a symbol of steely determination-or irrational defiance-depending on which side one favors. But this is no mere corporate-governance skirmish: Purcell is embroiled in the battle of his career, as he tries to stem the hemorrhaging of talent, bolster flagging morale and preserve his firm's tarnished pedigree-all while rivals trawl for his top clients.
Like the legions of CEOs before him and those still to follow, Purcell is at the epicenter of a national tremor of shareholder activism that threatens every chief executive, or at least has them pondering their options. Investors, bolstered by the accounting scandals of 2001 and 2002 and the Sarbanes-Oxley law of 2002-which makes boards directly accountable to shareholders-are silent no more. And yet Purcell remains impervious to the noise on his threshold, carrying on with undeterred confidence as he stacks the board with loyalists who walk in lockstep with him, despite a public relations nightmare that is leaving his firm vulnerable to takeover. Is this leadership or arrogance? "This is the latest in a string of untimely deaths for the imperialist CEOs, and Purcell is threatened now by the same destiny that has struck his fellow imperialists," observes Gregory P. Taxin, CEO of Glass, Lewis & Co., a proxy-advisory firm in San Francisco that advises institutional investors. "Shareholders are asserting themselves more and boards are feeling the pressure."
Purcell may be on the brink of joining a long line of CEOs who have recently exited or were forced out, many not gracefully, including Deutsche Borse's Werner Seifert, Hewlett-Packard's Carly Fiorina, Boeing's Harry Stonecipher, Riggs Bank's Robert Allbritton, Sony's Nobuyuki Idei, Eastern Kodak's Daniel Carp. and AIG's Maurice Greenberg. "Every public company now has to pay attention to shareholder constituencies, especially large institutional shareholders," says Gary Brown, chair of the Business Department at the law firm Baker, Donelson, Bearman, Caldwell and Berkowitz. A key motivation of SOX was "to drive a wedge between what was perceived as a cozy relationship between independent directors and management and to take the power out of the executive management suite and place it directly in the hands of corporate directors."
"There's a general trend in the corporate world, not just limited to banking, that the power of the consumer or the community, if organized, can play a very real and pervasive role, especially if there's an agenda," says NewAlliance Bancshares CEO Peyton Patterson, who declined to comment specifically on the Purcell case. "But for a CEO, it comes with the job description. They're under increasing pressure and heightened vigilance from shareholders. And it's a one-way door." She knows something about quelling unrest: In 2001, she presided over the largest merger-conversion in U.S. banking history. The deal fueled the kind of public rancor unknown in banking, particularly among community activists. She ultimately prevailed-to both sides' liking.
"CEOs do not have the same free rein that they once did," argues Paul Aaronson, a former Morgan Stanley executive who is now CEO of PlusFunds Group, a New York hedge-fund index asset manager. "Directors are scared of the regulatory and legal environment. Lawyers and accountants all have much more significant regulatory obligations than they once did and, therefore, wield different influence or power over CEOs and boards. The dynamic has been altered."
And as CEOs' power erodes, they are left increasingly vulnerable to internal and external threats. "It's clear that shareholders have more means of communication than ever before, given the change in the proxy rules and the Internet," observes Robert Barker, partner in the corporate law division at Atlanta-based law firm Powell Goldstein. "And every so often, you have a crisis of corporate governance that focuses directors mightily." The Corporate Library, a shareholder-governance watchdog, gives Morgan's Board of Directors a D, a grade that hasn't changed since March.
Yet the tumult at Morgan Stanley, the nation's largest securities firm by market value, goes far beyond the power struggle between Purcell loyalists and detractors. With no allegations of fraud or excessive compensation at Morgan, regulators have dismissed it as a mere domestic disturbance. "This is a face of corporatism in America that is rarely exposed," observes Robert A.G. Monks, a corporate-governance activist who founded Institutional Shareholder Services, and served as its president from 1985-1990. "And it's an ugly face."
The House of Purcell began crumbling on March 28, when the group of dissident alumni went public over concerns about what they called Purcell's mismanagement, a move sparked by his demotion of 58-year-old president Stephan Newhouse as part of a management shakeup. A flood of departures followed, including five of 14 members of Morgan Stanley's management committee and six managing directors, including Newhouse. At the core of internal hostility toward Purcell, a former Dean Witter executive, is his acrimonious relationship with former COO John Mack, a widely admired Morgan Stanley holdover. Mack left in 2001.
The board, which has thrice endorsed Purcell's leadership since March, has made minor concessions, including reducing to 50 percent the share of director votes needed to oust him, long perceived as an arcane rule anyway. The board also authorized a spinoff of Discover, which analysts say could raise $9 billion-plus and voted to give succession-planning duties to its four-member compensation committee, potentially blocking Purcell from grooming his own replacement. But the changes weren't enough to appease dissidents.
Referring to themselves as the "Grumpy Old Men," and "the Group of Eight," its members include former president Robert G. Scott, 59; former chairman S. Parker Gilbert, 71, the stepson of the firm's founder; Joseph Fogg III, 58; Anson Beard, 68; Lewis Bernard, 63; Richard Debs, 74; Frederick Whittemore, 74; and John Wilson, 70. Though their cumulative ownership is only one percent of the firm's stock, they boast 200-plus years of collective experience at Morgan-and hundreds of millions of dollars of personal wealth. In addition to courting institutional-investor support for its plan, the group has staged a media blitzkrieg of almost daily television appearances, news releases and newspaper ads calling for Purcell's ouster. The revolt has mesmerized Wall Street, which is not used to seeing the dirty laundry of its club flapping in public. "It's like witnessing a rift at a Hamptons country club," quips Taxin. "It's shocking."
The fight escalated another notch on May 12, when the group released a proposal to spin off the institutional securities business-and push Purcell aside, but not out-saying the board "faces an immediate crisis," according to the statement. "Staying the course under the present leadership is not an acceptable solution. Shareholders deserve better."
If pursued, the plan would essentially undo the 1997 merger of Morgan Stanley-Dean Witter Discover & Co., and carve three separate entities: the investment bank Morgan Stanley, valued at between $35 billion and $42 billion; the retail brokerage Dean Witter; and the credit card business, the last two together valued at between $28 billion and $32 billion. Under the plan, five former executives would return: Newhouse, John Havens, Terry Meguid, Vikram Pandit and Joseph Perella. Scott would be an interim chief executive, while Newhouse and Perella would become vice chairmen, and Havens, Meguid and Pandit would be co-presidents. Purcell would become chairman and chief executive of Dean Witter/Discover, with Mitchell Merin at the helm of the investment management group, John Schaefer at the individual investor group and David Nelms at the credit-card business. "Nothing is off the table, including a proxy fight," says Andrew Merrill, a spokesman for the G8, who says Morgan Stanley hasn't responded to the group's compromise proposal, although it had publicly termed it "disastrous for the firm."
The dissidents now have three options: continue to agitate for management change; press the board-10 of whom are Purcell loyalists-to call a special shareholder meeting so the group can raise a proxy slate against the current directors; or wait until the regularly scheduled shareholder meeting in March. The G8 is still pushing its cause with institutional shareholders, from whom it has received "numerous" letters of support, says Merrill. On March 31, TIAA-CREF sold one million Morgan Stanley shares, indicating it did so in part over concerns about high-level departures in the wake of a March 28 management shakeup. "They're approaching a cross-section of the usual suspects, and the support for what the group is trying to do is unanimous." Merrill says the G8's compromise "is a good option for all parties. "If the board is unwilling to remove [Purcell], this strategy unencumbers the securities business," the group said in a statement. The institutional group includes the investment bank, equity and debt underwriting, advisory services, prime brokerage, and fixed-income and commodities businesses.
Meanwhile, Purcell continues to dig his own grave deeper, notably by failing to show off his leadership at critical junctures. For example, the G8 and many analysts were underwhelmed with Purcell's presentation at a May 10 UBS conference, in which he vowed to maintain a combined institutional investment bank and retail brokerage but warned of slumping growth ahead. "Everybody walked away with negativity in their soul," says Richard Z. Bove, a financial-services analyst at New York investment bank Punk, Ziegel & Co. and a former Dean Witter manager. And he points out that Purcell's layout of responsibilities between newly named co-presidents Zoe Cruz and Stephen Crawford was "so cloudy, it suggests nothing but chaos."
David A. Hendler, a financial analyst at research firm CreditSights, concurs, saying: "Given the swirling dervish of events, you'd think there'd be more of a positive growth pitch, especially from the CEO and his two big lieutenants. Purcell should be taking the offense now. He's got the platform now do it. But it was all circumspect and kind of 'We're doing the best we can-ish.'" Morgan Stanley did not respond to repeated requests for an interview.
Though critics blame Purcell for the company's mediocre financial and stock performance, have they been that bad? The company's share price has slid 6.4 percent between May 12, 2005, and the same date in 2004, but has risen by 15.2 percent from the same date in 2003. Goldman Sach's performance was up 7.9 percent in 2004 and up 23.1 percent in 2005 for the same period. The American Stock Exchange Securities Broker/Dealer Index was up 10.8 percent and 37.75, respectively. Between June 2, 1997, when Morgan Stanley merged with Dean Witter Discover, and May 12, the stock has veered 70 percent, hovering between a low of $29.31 (October 9, 2002) and a high of $62.20 (March 5, 2004). It closed May 16 at $48.80.
Purcell and his lieutenants admit that Morgan Stanley's strong first-quarter numbers aren't likely for the second quarter. Global-announced mergers are down 28 percent for the quarter, equity underwriting is off 21 percent and the high-yield debt underwriting business has dropped 38 percent.
Though the G8 complain the firm's total client assets, revenues and pretax profits have all declined since 2000, the firm reported first-quarter 2005 net income of $1.46 million, up 20 percent from the first quarter of 2004, and 22 percent from the fourth quarter of 2004. Net revenues of $6.8 billion were 10 percent higher than last year's first quarter and 26 percent ahead of last year's fourth quarter. However, the group points out that the firm's brokers are far less productive than their peers: The average per-broker revenue at Morgan was $431,000 in 2004, versus $697,000 at Merrill. And though some analysts predict earnings will rise in the second quarter, boosting stock price, they warn it would be an anomaly. "You could put Mickey Mouse on top of Morgan Stanley now and its earnings are going to be extremely good, compared to last year," says Bove, who warns that dissidents wouldn't be able to use recent performance as ammunition in a proxy battle.
As the struggle evolves, what is becoming increasingly clear is that the central motivation for the group's defense springs from the deep professional pride of the firm's investment banking and equities divisions, whose bankers, according to Forbes, contribute 20 percent to 25 percent of the firm's profits. The investment bank, formed in 1935, is more uptown, while the retail brokerage that traces its roots back to the founding of Dean Witter in 1924, is decidedly downtown. When Purcell, an ex-Dean Witter executive, took over after the 1997 merger, he began his increasingly divisive struggle to meld the disparate cultures into a hybrid consumer-corporate powerhouse, a strategy bitterly opposed by the group of dissidents. True, purebreds like Goldman Sachs, Bear Stearns and Lehman Brothers do earn higher price-earnings multiples than financial supermarkets like Citigroup and JPMorgan Chase. The G8 is yearning for a return to Morgan Stanley's glory years, back to its foundation as an investment bank and back to doing what it does best: beating Goldman. Still, Purcell still presses on with his own agenda.
The Discover unit, valued at about $11 billion, has always been an odd stepchild, having joined the Morgan Stanley family through its merger with Dean Witter Discover & Co. in 1997. The division, which boasted pretax earnings in the first quarter of $380 million, a quarterly record, hasn't meshed with the investment bank, which has no consumer-banking group. Dean Witter had little luck in nudging the Discover Card business into a discount-brokerage unit, which stumbled after the acquisition. "It was presented as a merger, but it was really a takeover by Dean Witter," says Aaronson, who left the company six years ago and remains a shareholder. "The real value is provided by the Morgan Stanley side, though the Dean Witter assets brought to the table have not proved to be as valuable. It might have been different had John Mack prevailed in his dealings with Purcell."
And the dissidents blame Purcell for his failure to protect the firm's storied reputation, which has been publicly rebuked by the New York Stock Exchange, the Securities and Exchange Commission, the National Association of Securities Dealers and the Equal Employment Opportunity Commission during his tenure. It has been sued for sexual discrimination and providing clients with poor stock advice and has been fined three times over its storage and timely retrieval of e-mail. But the deepest nail in that coffin was hammered on May 16, when a Florida jury handed financier Ronald Perelman $604 million in compensatory damages for Morgan Stanley misleading him in the sale of his company, Coleman, to Sunbeam; punitive damages, which could hit $2.7 billion, have yet to be determined. "This company is continually being fined, sued, and setting up reserves for problems," wrote analyst Bove in a recent report. "This...suggests sloppy management and a weak corporate culture." Meanwhile, the squabble has caught the attention of Moody's and Standard & Poor's, which both downgraded the firm's credit outlook.
Observers are divided over whether Purcell will prevail. "You have in Purcell someone who is very intelligent about the power of incumbents," says Monks, who calls him a "competent politician. But incumbents have virtually total power. It's a question of [who has] all the king's horses and all the king's men. Essentially, the firm is not as successful in public relations as the insurgents, who have been very skillful. ...But they aren't people who can combine an appetite for struggle with a large equity stake."
The board has largely been silent, except for a threatening salvo sent April 13. "It is clear to us that your ill-considered, professionally directed attacks on Morgan Stanley and our people are damaging the firm and its shareholders," it wrote to the G8. "We ask you desist." Nevertheless, it's pretty clear the group has no attention of doing that, though some observers dismiss their prowess. "The dissidents have more bark than bite," says Keefe, Bruyette & Woods analyst Lauren Smith, who has not been recommending the stock to investors. "The board has made it clear what path it's taking. [They] should just support him and move on and fix what's not working so well. The jury is still out as to whether they can execute in an expeditious fashion. ...Besides, the firm runs deeper than one individual."
With board backing, Purcell's position is safe, agrees Taxin. "Purcell can kind of coast here, because there's very little chance he'll get removed by this cozy board, absent a demonstrable showing that investors want him gone," he says.
The current environment of frustration-both inside and outside the firm-doesn't bode well for a manager trying to safeguard his firm's reputation. "The dynamics are not good for the leadership," agrees Bove, who says Purcell has only recently "tried to be reasonable" with investors. "He's trying to show he cares, but it's too late because everyone is so upset with him. ...When you've got a group hyperfocused on getting rid of a CEO and you have something of value, the only solution is a sale. If Purcell stepped down tomorrow, would the board want to give the company to the dissidents? No. There is no leadership, which is defined from either side of this battle, as to who's going to run this company."
In the end, does it come down to share value? Fox-Pitt Kelton analyst David Trone says three possible scenarios would boost the stock price: If the firm finds a merger partner; if the board forces Purcell to step down; or if the board agrees to split the company in two. If Purcell abdicates, say analysts, the firm could be chopped up and sold in pieces-or become a takeover target by a gang of private buyout firms or hedge funds. Analysts estimate that Morgan Stanley could have a breakup value of about $67 per share.
Rumored suitors include HSBC, Bank of America, JPMorgan Chase and Citigroup. "This is a unique and powerful franchise and it's almost impossible to replicate a company like this at this time," says Bove, who is betting on BofA. "There's none with the trading capability of Morgan Stanley-Goldman Sachs being the only one-the breath of producers, the capital backing, the geographic reach. ...These are big positives, but no one's willing to give Purcell a chance anymore."
Hendler, too, sees Purcell's days as numbered. "Purcell's on his way out, at least a year from now, maybe sooner," he says, noting that the CEO's downfall began with "his poorly prepared presentation" of the Discover spinoff on April 6. "He should go. He's doing enough things to keep him in the ring. He may be relieving a little pressure above the eyes, but his legs are a little wobbly."
Purcell's conflict may appear to be unique, but it eerily parallels Michael Eisner's losing slugfest at the Walt Disney Co. over his management style, falling earnings, a shareholder uprising, and an unsolicited acquisition offer by Comcast Corp. The battle, led by ex-directors Roy E. Disney, the nephew of founder Walt, and Stanley Gold, culminated in March, when the 21-year veteran Eisner agreed he would step down in September, a year before his contract expires. Eisner's headache began in 1994, after he pushed out studio chief Jeffrey Katzenberg, who successfully sued for additional compensation, and was aggravated in 1997 after he sacked Michael Ovitz-who was paid off with $140 million. But the debacle became a certified migraine in 2003, after Eisner forced Roy Disney and Gold off the board.
A host of defections of top talent and a mediocre share price followed, and Eisner was humiliated with a 45 percent no-confidence vote at the March shareholder meeting against him. But the result didn't appease Disney and Gold, who filed suit against the company and several board members on May 9, asking the court to force another election and to prevent modification of the compensation packages of Eisner or his replacement, Robert Iger.
A host of similarities simmer between Purcell and Eisner. Both were American icons at blue-chip firms; both were comfortable with their hand-picked boards; both were criticized for their ineffective management styles. But the lesson of both cases is the same: Spurned executives rarely forgive and forget.
But there are differences, too. Morgan Stanley is "more dependent than Disney on human capital for its continued success," points out Taxin. "And if you don't keep that capital happy, you jeopardize the entire franchise." Moreover, the Disney dissidents had better timing than the G8, whose point-by-point defense is chronicled at futureofms.com. "The Disney uprising was magically timed to sustain a level of rancor and media attention right up until and through the annual meeting, so they had their vote against Eisner at the shareholders' meeting," he says. "The Morgan Stanley effort got started, depending upon how you look at it, a little late or a little early."
Though the group has been privately pressing the board for a meeting since November, it didn't approach institutional investors on making its war public until March. "This left them with no rallying cry or tangible event to get institutional investors galvanized around," Taxin says. "If you were designing this, you would begin making some motions early enough so that if you didn't get favorable response from the board, you could seek change at the annual meeting. It'll be hard to sustain this level of anger and press coverage until next March."
Whether Purcell is pushed out depends on the tenacity of the G8. "You never know when the tipping point will come and other shareholders will start speaking up," observes Paul D. Lapides, director of the Corporate Governance Center at Kennesaw State University in Kennesaw, GA. "And sometimes it takes a little more than just hitting the tipping point."
Even if Purcell weathers this storm, the larger question remains: How severely has the firm been damaged, particularly with the walkout of top talent. "The sad thing is the people they have lost," says Aaronson. "Those executives who left were high-quality people. I don't see how you're going to hire them back, as long as Purcell is there. That's a significant loss." Unless the company has more visible success, says analyst Bove, its reputation will continue to fray. "When you have this many people leaving, negative morale sets in and it will be difficult to do business," he says. "The franchise will be tarnished and [board members] have to stem the tide and convince the outside world they're in control."
The pressures on the board are so overwhelming that Purcell will have a hard time accomplishing anything if he stays, warns Charles Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware in Newark, DE. "And where there's smoke, there's fire. People don't usually make a stink for no reason. And when you've got such unrest inside and outside the organization, a change is usually warranted."
Though Brown doubts the case will be much more than a blip in corporate history, it's indicative of a changing environment in the boardroom. "CEOs should learn from this," he says. "I think I saw a headline, 'The Day of the Imperial CEO is Over.' And that's right. The best-performing CEOs need to do the job for the benefit of shareholders. CEOs who forget that risk the repercussions from the board." However, Brown predicts the case will pave the way for more well-financed minority shareholder groups "more apt to make their concerns and desires known in a very public way because people have to respond, whether they are legally forced to or not. In these days and times, you cannot ignore public media pressure."
Some say the case will set the standards for shareholder-activism battles of the future. "Shareholders are exercising and flexing their muscles and making themselves heard, and that will continue," says Aaronson. "Shareholders are quite rightly fed up with what CEOs have gotten away with for some time. Many have perceived themselves to be all-powerful." When power clouds a CEO's judgement and sullies a firm's hard-won reputation, an oversized ego may be the only thing separating him from success. At what point is the price of survival too high?
Barker sees a silver lining in both the Morgan Stanley and Disney upheavals "If this dustup leads to a better succession plan, then it will be positive," he says, noting that SOX requires firms to have clear plans. "If, in five years, we didn't have a better sense of what makes better corporate governance, this case will have a negative effect. If we focus on crossing t's and dotting i's in the 404 reports, but don't focus on things that really make a difference-compliance and succession planning-then all this with Disney and Morgan Stanley will just be another refrain in a tired song."
Meanwhile, the corporate world is putting its money where its mouth is. The on-line trading site Intrade.com, an exchange for current events that claims 45,000 members, has $32,000 riding on the Morgan Stanley outcome. As of May 9, buyers of the contract are betting there's a 15.7 percent likelihood that Purcell will resign before June 30, a figure that hit 23.8 on May 11, after the UBS conference. Whether Purcell stays or goes, the smart money is on whether he does the right thing for the firm-not himself.
1997
June 2 Merger of Morgan Stanley and Dean Witter Discover & Co. is completed. Dean Witter executive Philip Purcell becomes
chairman and CEO; Morgan Stanley
executive John Mack becomes president and COO.
1998
March 24 Shareholders approve name change to Morgan Stanley Dean Witter, or MSDW.
1999
March 25 First-quarter net revenues increase to $ 5.4 billion-33 percent higher than a year earlier.
2000
September 25 Stephan Newhouse, Vikram Pandit named co-presidents of the Institutional Securities Business. Joseph Perella becomes chairman of the group. Zoe Cruz is named worldwide head of Fixed-Income, Commodities and Foreign Exchange Group.
2001
January 24 Mack resigns and is succeeded by Robert Scott. Stephen Crawford named CFO.
October 9 Court dismisses all eight claims against MS and research analyst Mary Meeker, who was accused of turning out biased research.
2002
June 18 MSDW name is legally changed to Morgan Stanley.
2003
October 13 Newhouse is named president of MS,
effective Dec. 1, replacing Scott.
2004
July 12 MS settles sexual discrimination suit with former female employees for $54 million
