Recommended reading: Loren Feldman, "Goldman Sachs and the $580 Million Black Hole", NYT 7/14/2012.
This story provides a shocking example of how little investment bankers often do to earn their money, and how badly they often do it; in short, how parasitic and destructive the culture of the financial industry has become.
By the end of the 1990s, there were many warning signs that the Lernout & Hauspie company was a sort of Flemish speech-and-language-technology Enron, basically in the business of kiting stock while pretending to be in the business of selling speech and language technology. I had heard strange and suspicious stories from acquaintances whose companies had been bought by L&H a few years earlier. A Dutch friend of mine with some knowledge of their activities had been referring to them for years as "the Flemish criminals". And apparently Goldman Sachs itself had previously considered investing in L&H, and decided not to do so.
Yet Goldman was happy to accept $5M to represent Dragon Systems in (what turned out to be) an all-stock $580M acquisition by L&H; for that sum, they assigned four 20-something I-bankers, who apparently did essentially nothing at all — and crucially, essentially nothing at all to verify the stability of the acquiring company.
Before the engagement letter was signed in late 1999, Goldman sent Dragon a memo indicating that its first steps would include beginning to conduct due diligence — Wall Street-speak for kicking the tires — on L.& H. The memo included specific areas of concern, including L.& H.’s sources of revenue, its major customers, its license agreements and royalty agreements, its expected growth, its partnerships and its financial statements.
But it now appear that essentially none of the promised "due diligence" was actually done.
Shortly after the Dragon acquisition was completed — and shortly before L&H collapsed in a swirl of international indictments — I remember hearing Paul Bamberg, then a Dragon vice president, explaining how the deal had changed from half stock, half cash to all stock, and thinking "uh oh".
[W]ho, if anyone, supervised these bankers — later called “the Goldman Four” in court documents — remains something of a mystery. One of the four, the most senior, testified later that their supervisor was Gene T. Sykes, a Goldman partner who at the time specialized in technology and who this year was promoted to head of M.& A. at the firm, one of the most powerful jobs on Wall Street. In a deposition, Mr. Sykes disavowed any involvement.
Most of the Goldman Four didn’t stay long at the bank. Richard Wayner, who was 32 when the Dragon deal was cut, struck out on his own in 2002 and eventually landed at the Keffi Group, an investment firm. T. Otey Smith, then 21, left Goldman in 2000 and now works for RLJ Equity Partners. Alexander Berzofsky, then 25, left Goldman at about the same time and is now a managing director at Warburg Pincus, the big private investment company. Chris Fine, then 42, was a Goldman information technology specialist who was enlisted on the deal and is still with Goldman. (None of the four agreed to be interviewed for this article.)
So it seems that the people responsible for this disaster "failed upwards", as so often happens.
Update — The reaction to this story from all political and economic persuasions seems to be consistent, and consistently disgusted with the behavior of Goldman Sachs. Thus Scott McConnell, "Class Warfare, Romney-style", The American Conservative 7/16/2012 ("");
Goldman, for its $5 million fee, did zero due diligence. The couple which had developed the speech-recognition software lost everything. A Goldman banker quoted in the story said Goldman did a “great job” and “we guided them to a completed transaction.” [...]
The tale seems so emblematic of the current age: the investment bankers reap large profits regardless of the impact of their work.
And mistermix, "Mooched and Looted", Balloon Juice 7/16/2012:
Remember this story the next time someone tries to tell you that Wall Street encourages entrepreneurs. This smart couple started a company in their kitchen, built it into an industry leader, turned to Goldman for financial advice, and Goldman sold them off to a company they knew had serious problems.
And "Deal of the Day", WSJ 7/16/2012:
The $580 million sale of Dragon Systems more than a decade ago raises question that go to the heart of how financial giants like Goldman operate and what exactly they owe their clients.
And Eapen Chacko, "Goldman walks over a client", Out of the Box 7/15/2012:
The Bakers are suing Goldman for about $1 billion. The objections by Goldman attorneys and spokespeople reported in the Times are arrogant and infuriating. The excuses are laughable.
Again, for this industry, we have FINRA, the SEC, and all manner of Federal agencies, and we can't get simple justice and fairness for entrepreneurs who were left high and dry by their bankers.
And "The Case of Dragon Systems vs. Goldman Sachs: A Lack of Diligence", Finance Train 7/16/2012:
Today I revisited Greg Smith’s open resignation letter in The New York Times. I reproduce excerpts, wherein he highlights his key concerns, particularly of a culture that puts its own profits before the clients.
“To put the problem in the simplest terms, the interests of the client continue to be sidelined in the way the firm operates and thinks about making money. Goldman Sachs is one of the world’s largest and most important investment banks and it is too integral to global finance to continue to act this way”
And "Goldman Sachs: We'll screw you however we can", CaroLINES 7/16/2012:
All in all, Goldman Sachs looks set to win this one. Just as they won with the financial crash – they helped precipitate it, profited from both ends and walked away shouting "Oh yeah, whatcha gonna do, little man?"
And Harry McCracken, "The Sad Death of a Great Company", Time Magazine 7/15/2012:
I’m not an expert on mergers and acquisitions and don’t have an opinion on the quality of Goldman’s advice. But I remember feeling uneasy about the Dragon sale at the time, and I wasn’t particularly surprised by the collapse of Lernout & Hauspie, an outfit whose specialties seemed to be generating hype and buying up other speech-technology companies.
Goldman's legal argument seems to be that their contract was not with the Bakers, but with Dragon Systems, which no longer exists, so that the Bakers have no standing to sue. That argument may very well be legally compelling — IANAL. But it's quite extraordinary that I haven't been able find a single article or blog post — left, right, or center — that substantively defends Goldman's actions in this case, or even argues that Goldman's treatment of the Bakers is atypical of the way I-bankers treat their clients in the U.S. these days.
The closest to an actual defense that I've found so far comes from "Al" in our own comments section, who accuses me of "uncritically regurgitating 'ooh, bankers are evil' newspaper stories", which implicitly argues that perhaps Goldman didn't do what the NYT article says they did, but rather did something else that would be less appalling, or perhaps even admirable, if we only knew what it was.