It’s been anything but a smooth ride for anyone wanting to sell mergers and acquisitions advice to government clients in the US.
Which is why Lazard's hiring of Jonathan Turnbull for its infrastructure team is as good a time as any to reflect on where the US infrastructure M&A business has been and where it’s going.
The revered Wall Street firm lives and dies by the advice it gives to clients. So hiring Turnbull, the former global head of infrastructure investment banking at Citi, sends as strong a signal as any to the US market that there is indeed a future for selling infrastructure M&A advice, including to public sector clients.
Which is, of course, a good thing. The state of municipal finance in the US is dire. According to one well-placed estimate, states face $250 billion in budget gaps and revenue shortfalls that will persist into 2015.
Now, more than ever, is time for good advice.
On the other hand, states and cities have less money than ever before to pay for said advice. So the – literally – multi-million dollar question: how do you go about getting paid good money for good work in this sector?
It’s not easy. For most big investment banks offering infrastructure advisory services, it’s underwriting that’s been keeping them busy. Thanks to a new type of municipal bond called a “Build America Bond”, which allows issuers to offload a part of the bond’s interest payment on the Federal government, there is ample business to go around.
Lazard used to underwrite municipal issues for a brief period in the late 80s and early 90s. But it quit the business in the mid-90s, so now its investment banking income comes purely from advisory services.
Public sector advisory mandates, though, are still rare. They open up here and there. But often the municipality simply wishes to pay the advisor on an hourly rate – in other words, not enough to make it worthwhile for the big guns. And when they do agree to pay a success fee based on a percentage of the total deal size – the big guns’ bread-and-butter – competition is fierce.
All of which means that, at least for the time being, pure-play advisory investment banks courting government clients will need something else to put food on the table. It’s not just for the managing directors: the flock of analysts, associates and other support staff required to make good advice happen isn’t cheap.
So here’s a solution to make everyone happy: pure-play advisors follow the Lazard model, government clients, follow the Puerto Rico model.
Lazard places infrastructure M&A within a larger group devoted to power, energy and infrastructure, where Turnbull has the flexibility to pitch both corporate and government clients. So if there’s nothing in the pipeline, he can help keep the lights on by inking deals in the related power and energy sectors.
It doesn’t have to be power and energy; but while governments are still searching for the right compensation structure to suit their advisory needs, it’s smart to give your bankers access to another line of related business.
Puerto Rico found a great compensation structure for its advisory needs. “Just being charged for multiple calls and multiple tasks that are not always geared toward reaching a critical milestone in the project is not the best way to have an incentive for the advisor,” explained David Alvarez, head of the Puerto Rico PPP Authority.
So rather than going hourly, Puerto Rico created a hybrid structure where the advisor receives fixed milestone payments on the way to a financial close, followed by a success fee paid off of the proceeds from the close.
Both are good models to emulate as both advisors and public sector clients continue to find their footing in the US market for infrastructure M&A.