John Howard: Taking Bear Stearns Merchant Banking Deeper Into Financial Services

John Howard, founder and CEO of Bear Stearns Merchant Banking, has decided his group needs to steer much more directly into the financial services industry. It marks a shift for Howard’s team, and one that comes after a decade of successful deals in the retail and consumer products markets.

But to those who’ve watched the career of the independent-minded dealmaker, a keen adjustment in strategy should come as no surprise. The former aspiring poet and board game aficionado found a love of deal making early, and never looked back.

Bear Stearns Merchant Banking devoted only one fifth of its previous $1.5 billion fund to financial services deals. But now that pricing in its favorite industry, retail and consumer goods, is through the roof, the group plans to commit the lion’s share of its Merchant Banking Partners III fund to the sector. Financial services deals tend to be relatively complex affairs. They therefore attract less competition—an important factor if not overpaying is high on your priority list, Howard recently told Buyouts.

“Purchase-price multiples of retailing companies are crazy—extremely high,” said Howard, 54, whose portfolio includes high-end jean maker Seven For All Mankind and women’s shoe designer Stuart Weitzman. “For the moment we think we can generate higher returns more safely by looking at financial service deals.”

The first three transactions out of Merchant Banking Partners III have all been in financial services. Those deals represent a combined $450 million in equity taken from the fund, which closed last summer on $2.7 billion. The deals include Alter Moneta, an asset-based equipment finance company; Caribbean Financial Group, a regional consumer finance business; and Ironshore Inc., a global provider of property and casualty insurance.

Overall, the firm has six investments in the financial services arena. None, to date, have been fully realized. There have been two partial exits, including the recapitalization of Cavalry Investments LLC—an acquirer and collector of non-performing consumer debt. The firm recouped its equity investment in the company.

Financial services is not a new beat for Bear Stearns Merchant Banking. But the mid-market firm has been far better known for retail and consumer goods deals, particularly in apparel. One of the firm’s biggest success stories was a 1998 investment in mall-based retailer Aéropostale, which saw a $6 million equity investment become $476.6 million. The return multiple was just a shade under 80x.

Since it was founded 10 years ago, the group has unearthed more than $1 billion in profits. Fund II, the firm’s first vehicle with broad institution backing, remains steward to eight consumer-products and retail investments. After a full harvest, the firm expects a return of between 3x and 3.5x for the fund, Howard said.

While the New York firm does deals for 100 percent of a company’s equity, it’s long been a friend to entrepreneurs, sometimes taking as little as a 33 percent stake. It employs over 40 deal professionals, operating partners and senior advisors, including Senior Managing Director and Partner Bodil Arlander—Howard’s first hire—and former Vice Chairman of Toys “R” Us Inc. Richard Markee, who joined the firm as an operating partner last year.

Not surprisingly, Howard concentrated largely on retail and consumer products before joining Bear Stearns, when he worked for Wesray Capital Corp. Deals there included investments in Jones New York, a maker of fashionable women’s wear, and William Carter Co., a maker and retailer of children’s clothes. Howard has gotten so comfortable in the apparel niche that he once sourced a deal through casual conversation with his daughter.

“The first time I saw Seven [For All Mankind] jeans was when one of my daughters was telling me all about it,” Howard recalled. “I looked and said, ‘You paid $200 for those jeans?’ And she said, ‘Yeah, but look how well they fit.’ Right then and there I told myself I have to meet the guy who started this.” Bear Stearns Merchant Banking acquired 50 percent of the denim company in 2005.

Of Board Games And Buyouts

A former merchant at Macy’s, then an owner of a hair comb maker, the co-founder of a pair of buyout shops and acquirer of at least a score of retail and consumer companies, retail appears to be in Howard’s DNA. But to tell the story of how he ended up doing LBOs, you need the help of rhyme and meter, as well as a board game.

Essentially this was taking my old Acquire board-game skills and applying them on a bigger scale.

John Howard

An English major at liberal arts school Trinity College in Hartford, Conn., Howard’s aspiration after graduating was to be a writer—not of purchase agreements, but of poetry. He did make a little headway there, coming in second place in an Atlantic Monthly poetry contest. But he scrapped his writing plans about a year after leaving school.

At that point, he picked up on his other major college interest, one he discovered playing the board game Acquire. “It’s a sophisticated board game—more sophisticated than Monopoly,” Howard said. “What chess is to checkers, Acquire is to Monopoly.”

The object of the game is to buy companies, build them up, and take over competitors. The game ends when one business chain reaches a certain size, or when all the companies are too large to merge. The richest player wins. Howard eventually got a number of classmates to play the game, too. “We’d have these massive tournaments. It was fantastic,” he said.

The game sounds just a little bit like his current career—which is no mistake. “I was really good at [Acquire],” he recalled, calling the game the best business training of his college career. “I don’t know where it came from, I just was.”

Having ditched rhyming couplets, Howard joined the executive training squad at Macy’s. Beginning in 1975, he worked at the retailer as a product-line procurement merchant for three-and-a-half years before leaving for Yale School of Management.

But even after earning his MBA, Howard still defied the traditional path of the LBO pro. Instead of taking a job on Wall Street, he borrowed money from his father and spent his own savings to buy a small hair-comb company called Speert Combs—his first leveraged buyout. Through acquisitions of related businesses and product distribution rights, Howard built Speert into a “mini conglomerate,” providing brushes, combs, hair ornaments and other cosmetic accessories. After three years with the company, and close to his 30th birthday, he sold the company for a few times his investment.

From Combs To Controls

In a way, Howard’s journey across the private equity landscape has come full-circle. He sits today as a member of the first financial institution he ever worked for. In 1982, after his stint as a comb vendor, Howard took a job in the M&A group at Bear Stearns, where he eventually was allowed to make investments in companies like American Safety Razor Co. and Lifetime Cutlery.

“Essentially this was taking my old Acquire board-game skills and applying them on a bigger scale,” Howard said. His investments succeeded, but Howard was turned off by the bank’s rules prohibiting him from putting his own money into his deals. He left the firm in 1984 and joined Wesray—the financial vehicle of former Secretary of the Treasury William Simon and his partner Raymond Chambers—and helped open the firm’s New York office.

It was there, using his own and his partnership’s capital, that Howard was introduced to the modern-day LBO—1980s style. With equity checks as small as 5 percent to 10 percent of the total takeout price, Howard led deals to acquire industry giants like Avis, Simmons Bedding Co., Western Auto, William Carter Co., and Wilson Sporting Goods. Sometimes the equity components were so small that the firm was able to recoup its down payments through transaction fees alone. “We probably invested about $50 million in those deals and generated well over $1.5 billion in profits,” Howard said. “We didn’t have a fund, so those profits ran all to the partnership. Those were incredibly good days.”

In 1988, Howard helped set up an affiliated deal team at Wesray to focus on smaller deals, which is now known as Vestar Capital. Wesray held a minority stake in Vestar, which was staffed by the former management buyout group of investment bank First Boston and was led by Daniel O’Connell. In 1989 Howard jumped from the main deal team at Wesray, and took the helm as co-CEO of Vestar.

The two co-CEOs clashed over investment philosophy, and in 1996 Howard left the firm. “Frankly, I think more than anything, the town was a little bit too small for two sheriffs,” Howard said. “In a microcosm, we were going to disagree on other things and that it was better to part friends, which we did.”

Howard returned to Bear Stearns to launch the firm’s merchant banking arm in March 1997. Since then, Howard has watched many other merchant banking teams spin out as independent groups. Now that he’s moving into financial services, Howard can reap the benefits of staying with the mother ship. “We get a tremendous halo affect from the Bear Stearns name,” Howard said. “Bear Stearns being what it is, people perceive us to be smart financial service investors.”