A Small Firm Finds Big Business on Wall Street
While Wall Street generally conjures up images of power suits, big money and country club soft sells, there are small firms that have managed to carve out niches to serve the nation's powerbrokers by weaving themselves into the fabric of the Wall Street economy.
The demand for independent researchers has grown and companies like Spartan Institutional Research have capitalized on a business model that's helped a small business make the most of big business.
Because these companies act as middlemen with no formal ties to large brokerages, they remain under the radar of many in the money arena and avoid being linked with today's headlines about nefarious insider trading and power-hungry French stock traders.
Jeff Scola, who founded Spartan in 1996, saw an opportunity to offer independent research by acting as a conduit for knowledgeable market analysts to offer their wares to brokerages and hedge fund managers, for example.
"We do everything for them including product development, invoicing and fulfillment services...just not the actual research," said Scola, the president and CEO. "If we don't execute, we don't get paid."
Some independent research firms flourished thanks in part to a late 2002 settlement announced by New York's then-Attorney General Eliot Spitzer, who is now the state's governor. The "global settlement", between government and large Wall Street brokers was designed to reform the relationship between investment bankers on securities research at brokerage firms after it was publicly unearthed that some in-house analysts at brokerages were pumping up stock that they knew to be worthless.
In addition to paying fines for their behavior, the settlement mandated that those brokerages had to cut the ties between research and investment banking and for a five-year period. Additionally, each brokerage had to contract with at least three independent research firms that would provide research to the brokerage firm's customers.
"There's always supposed to be the 'China wall' between banking and analysis, but once global settlement came down, brokers started to take separation more seriously," said Scola, who notes that his firm didn't focus on the settlement because he knew that after five years the cash flow from the deal would likely dry up.
"The lesson with the global settlement is that at the end of the day it's about relationships and not always going for the carrot that was dangled out there," he said.
He credits the real birth of the independent research market to May 1, 1975, when the brokerage industry deregulated commissions by acting on a Securities and Exchange Commission mandate. It meant that for the first time in nearly 200 years, market competition set trading fees instead of an elite club of big-name brokerages. The move also spawned the creation of the discount brokerage.
Scola's firm is very successful, but, he cautions, "it's been a very bumpy road...to navigate. We act as an intermediary for analysts who can be very fickle, very intelligent, but very fickle."
Selling information on Wall Street is both an art and a science. He says analysts can be "wacky" but they "do good research from an academic point of view. But when you're trying to provide and sell information, it's not enough to be fundamentally right; you have to be able to understand how the stock is going to react. A lot of fundamentally lousy companies have stocks that go up quite a bit before everyone begins to understand that a company is lousy."
On the receiving end, some of his clients such as hedge fund managers "have big egos and are the richest class of people in the world...with certain expectations."
His previous job had been working as a highly paid sales executive for Old Northwest Agents, one of the largest employee benefits firms in the country that has since merged with another company. He sold group health insurance and retirement plans largely to small businesses. But when President Clinton in the 1990s was pushing a universal health insurance plan, states began crafting their own to usurp any possible federal mandates coming down the pike. The industry change became hugely disruptive to the field Scola was working in. Additionally, he was lukewarm about an impending transfer to Florida.
"I had to make a decision to walk away from the high-paying job I was established in, or to stay in New York and attempt to model another company." He chose the latter, reasoning: "I was already a very successful salesman, making good money. For me to make a change at that point in my life, I wanted to start my own business. Why would I need to go work for someone else?"
A close friend worked for a successful market research firm and brought Scola to the business owner's farm in upstate New York, where "basically over the course of the weekend, he told me about his business and I thought this sounds like something that I can do."
The following Monday, Scola called an attorney, an accountant and set up a corporation.
Scola said he's always known since he was a kid - and people have always told him - that he should do something sales-related.
"I'm like the vast majority of people out there who gravitate toward something you're more of a natural at doing," said Scola, who was a hotel restaurant major in college.
Upon his career switch, he picked up the phone and used the old shoe-leather express to meet with potential clients, telling them "if you have anyone that's struggling in research products, I'll be happy to meet with them."
He got his first big break when he was introduced to a man he refers to as "his first analyst" - a retired chief market strategist with Putnam Investments. "A lot of these guys are market junkies, and they've been in the business for 35 years. They are wonderful resources of history and information and are eager to produce on an independent basis but with no connection to a particular broker."
Similarly, Scola said firms like his remain successful because some analysts connected to large Wall Street brokerages try to start independent research boutiques, but "they have a false perception of what it's like to try and run a business."
"At a big house, they've got [information technology] people backing them, human resources, etc. and then all of sudden they're out on their own thinking that people are going to start banging the door down for their research ideas, but they learn the hard lesson the first year out there that it's much, much different."
Scola's operation normally offers fewer than six products at a time and he hired one full-time sales representative per product. He also networks with other people who market independent research products because, as he explains, "some of my products enable them to broaden their product offerings."
"A lot of these other small guys who don't have infrastructure, it's a way for them to work with one vendor by picking one or two of my other products without the pressure of having to lock someone up in exclusive rep agreements."
To start the business, Scola and his partner, who he bought out in 2000, got "a little office on 80 Wall St." They each wrote a check for $1,000 to the corporate checking account and were in the black their first month. "We were never in the red because we had our first institutional client two weeks later." Scola has since moved his office to larger spaces nearby.
Location is very important for his small business. "I'm not paying New York City rent at $65 a square foot so we can blast e-mails all day long," said Scola. "The bigger thing for us is that geographically if we get an interested person on the phone we can be in their office in 15 minutes."
"My mantra has been that Wall Street is a relationship business, and people have gotten very lazy with the evolution of technology and the Internet. We've become an impersonal society. When you're selling something and getting to know somebody, it helps to look them in the eye and do 'selling off the walls' which means look around their office - what are the person's interests, how many kids do they have."
His advice to other entrepreneurs: "Don't be lazy. Don't think that you're going to create something that's so perfect that you can sit back and watch Oprah all day. It's important to network and at the end of the day you can only count on yourself and your own organic efforts to get the job done."
By Sharon McLoone |
February 1, 2008; 11:28 AM ET
Profiles in Entrepreneurship
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