Jump to content

Drexel Burnham Lambert

From Alfawiki
Drexel Burnham Lambert Inc.
Company typePublic
IndustryInvestment banking, Financial services
Founded1935
FounderI. W. "Tubby" Burnham
Defunct1990
FateFiled for Chapter 11 bankruptcy protection
Headquarters
New York City
,
United States
Key people
Michael Milken (head of junk bond division), Fred Joseph (CEO), Robert Linton (former president and CEO), I. W. "Tubby" Burnham (founder)
ProductsInvestment banking, High-yield debt instruments, Corporate finance, Brokerage services
Number of employees
5,000 (positions eliminated in 1989)

Drexel Burnham Lambert Inc. was a leading American multinational investment bank, headquartered at 60 Broad Street in New York City. Established in 1935 by I. W. "Tubby" Burnham, the firm expanded to become the fifth-largest investment bank in the United States and a significant force within the financial services sector. In its most successful year, 1986, Drexel posted revenues of $4.8 billion and net earnings of $545.5 million, setting a record for profitability on Wall Street at that time.

The company’s core strategy revolved around high-yield debt instruments, spearheaded by Michael Milken as head of the junk bond division. Milken’s pioneering methods in the high-yield bond market greatly increased Drexel’s revenue and market influence, resulting in a groundbreaking compensation package of $295 million in 1986, which rose to $550 million the following year.

Throughout the 1980s, Drexel was instrumental in facilitating numerous large-scale corporate takeovers by utilizing its expertise in high-yield bonds to fund leveraged buyouts and acquisitions. However, the firm’s rapid expansion and aggressive risk posture fostered a culture where unethical practices became widespread. Milken and his associates often regarded securities regulations as impediments to market efficiency, which led to involvement in illegal activities such as insider trading.

By 1990, intensified regulatory pressure forced Drexel to file for Chapter 11 bankruptcy protection to prevent SEC seizure, marking the first significant Wall Street bankruptcy since the Great Depression. The downfall highlighted the difficulties of managing swift business growth while adhering to regulatory standards and ethical conduct in investment banking.

Early history

I.W. "Tubby" Burnham, who graduated from the Wharton School of the University of Pennsylvania in 1931, founded Burnham and Company in 1935 as a modest retail brokerage based in New York City. He launched the enterprise with $100,000 in capital, primarily borrowed from his grandfather Isaac Wolfe Bernheim, founder of a Kentucky distillery.

Burnham successfully expanded the firm into one of the nation’s prominent brokerages, eventually amassing $1 billion in capital. Although it ventured into investment banking, industry norms constrained its further growth. As a "sub-major" firm, Burnham required collaboration with a "major" or "special" firm to continue expanding.

Such a partnership was formed with Drexel Firestone, an investment bank based in Philadelphia tracing its origins back to 1838 when Francis Martin Drexel founded Drexel & Company. The firm maintained longstanding connections with leading securities issuers and had allied with J.P. Morgan to create Drexel, Morgan & Co. Following restructuring mandated by the Glass–Steagall Act, Drexel's growth slowed and it faced capital shortages during the 1960s. To address this, it merged with Harriman, Ripley and Company in 1965 to form Drexel Harriman Ripley and later sold a 25% interest to Firestone Tire and Rubber Company, becoming Drexel Firestone.

Despite maintaining a solid client base through the 1970s, Drexel was weakened by the market downturn of 1973-1974. Acknowledging its vulnerabilities, Drexel agreed to merge with Burnham’s firm. Although Burnham was the larger partner post-merger, industry expectations mandated that Drexel’s name lead for credibility purposes. Consequently, Drexel Burnham and Company was created in 1973 with $44 million in capital and claimed its founding year as 1935.

In 1976, after merging with William D. Witter (Lambert Brussels Witter), part of Belgium’s Groupe Bruxelles Lambert, the company was renamed Drexel Burnham Lambert. Transitioning from a limited partnership after four decades, Lambert acquired a 26% ownership stake along with six board seats while employees retained most remaining shares. Burnham continued as chairman and appointed Robert Linton—who had joined Burnham and Company in 1945—as president and CEO. Linton succeeded Burnham as chairman in 1982.

Business

Drexel's reputation as a trusted advisor to startups and fallen angels set a standard within the financial sector. Michael Milken, a prominent figure from Drexel's original leadership, is widely recognized for developing the junk bond market. Another influential leader was Fred Joseph, who Burnham appointed as co-head of corporate finance following the acquisition of Drexel. Joseph, the son of a Boston taxicab driver, pledged to elevate Drexel Burnham to rival the stature of Goldman Sachs within ten years.

Joseph's ambition came to fruition as the firm ascended to challenge leading Wall Street Bulge Bracket institutions. While Milken spearheaded the firm’s high-yield securities division, Joseph assumed the presidency in 1984 and advanced to CEO in 1985, steering strategic direction and fostering business expansion.

Drexel set itself apart through assertive business tactics, particularly by supporting hostile takeovers—a practice shunned by many established competitors. The firm became known for issuing "highly confident letters," which assured financing for aggressive bids. Although these letters were not legally enforceable, Drexel’s strong reputation made them highly persuasive among corporate raiders during the 1980s. Among the major transactions financed were T. Boone Pickens’ attempts at Gulf Oil and Unocal, Carl Icahn’s bid for Phillips 66, Ted Turner’s acquisition of MGM/UA, and Kohlberg Kravis Roberts’ successful takeover of RJR Nabisco.

From an organizational standpoint, Drexel operated under a strict merit-based system where bonuses were awarded according to individual division performance rather than overall firm results. This approach sometimes fostered internal rivalry, with divisions functioning almost as autonomous entities. Several employees formed limited partnerships to co-invest alongside Milken, occasionally earning more than the firm by holding a larger share of warrants in certain deals.

The company reached its financial zenith in 1986, generating $545.5 million in net profits—the highest ever recorded by a Wall Street firm at that time, equivalent to roughly $2 billion today. In 1987, Milken’s compensation soared to $550 million, underscoring his pivotal role in Drexel’s business strategy and market dominance.

1986–1989

Dan Stone, a former executive at Drexel, observed that the firm's intense culture often encouraged unethical and illegal behavior. Milken regarded securities regulations as impediments to free-market activities and had been under SEC investigation since 1979 due to questionable practices at Drexel’s Beverly Hills office. He occasionally sought advice from Joseph, who maintained strict compliance with regulations on ethical issues.

The company encountered significant upheaval on May 12, 1986, when managing director Dennis Levine was charged with insider trading. Levine had secretly engaged in illicit trading for years and pleaded guilty to four felony counts, implicating super-arbitrageur Ivan Boesky in the process. Following Boesky’s promise of information about Milken, the SEC commenced an investigation in November 1986, quickly followed by Rudy Giuliani’s inquiry two days later. Milken declined direct cooperation, communicating solely through legal counsel. In 1987, Martin Siegel, co-head of M&A, admitted guilt for passing insider information to Boesky.

For two years, Drexel denied any misconduct, attributing investigations solely to Boesky’s testimony as a convicted felon seeking leniency. Nonetheless, in September 1988 the SEC filed suit against Drexel for insider trading, stock manipulation, client fraud, and stock parking—all connected to Milken’s division. Notably, Boesky paid Drexel $5.3 million in 1986 as Milken’s portion of profits derived from illegal trades. Giuliani contemplated indicting Drexel under the RICO Act, which would hold the firm accountable for employee criminal acts.

A RICO indictment posed a severe threat requiring Drexel to post a performance bond potentially reaching $1 billion to prevent asset freezes—a critical risk given the firm’s substantial leverage (96% debt-financed). Financial institutions would likely withdraw credit lines if such charges proceeded, endangering Drexel’s viability. Executives including Joseph concluded that negotiating a settlement was imperative. The collapse of Princeton Newport Partners under RICO charges further highlighted this danger. Although Milken and Drexel signed an agreement for joint counsel, his legal team warned that cooperation was inevitable.

Negotiations fell apart on December 19 when Giuliani demanded waivers of attorney–client privilege and other terms considered too onerous by Drexel’s board; they unanimously rejected these conditions. Two days later, Drexel uncovered MacPherson Partners—a limited partnership tied to Milken’s department involving equity warrants and money fund managers including Milken’s children—raising concerns about conflicts of interest and regulatory violations. This revelation undermined Milken's standing within the firm.

With indictment imminent (the grand jury reportedly voting), Drexel entered an Alford plea on six felony counts—three each for stock parking and manipulation—and agreed to pay a $650 million fine, then the largest penalty under securities law. Some prior government demands were dropped but it was insisted that Milken resign if indicted; he stepped down following his March 1989 indictment.

The Alford plea allowed Drexel to assert innocence while acknowledging it could not refute government allegations; however, it resulted in a felony conviction. In April 1989, Drexel reached an agreement with the SEC imposing enhanced oversight and eliminated 5,000 positions by shuttering three departments—including its retail brokerage—effectively divesting much of the original Burnham & Company business. Retail client accounts were subsequently transferred to Smith Barney.

1989–1990

The year 1989 posed significant difficulties for Drexel amid a series of unsuccessful transactions and the collapse of the junk bond market, despite resolving legal issues with criminal authorities and the SEC. A substantial $86 million loss in the final quarter triggered a downgrade of its commercial paper rating, severely limiting its capacity to refinance existing debt. Lacking a corporate parent to inject capital, Drexel encountered critical liquidity shortages. Groupe Bruxelles Lambert refused to invest equity until the company returned to profitability. Consequently, Drexel recorded a $40 million deficit in 1989, marking its first operating loss in over five decades.

In 1990, Drexel attempted to move capital from its regulated broker/dealer arm to the holding entity, Drexel Burnham Lambert Group; however, the SEC intervened and stopped this transfer due to concerns about solvency. The SEC, NYSE, and Federal Reserve’s skepticism about restructuring prospects led CEO Joseph to recognize that maintaining independence was no longer viable. Attempts to identify a purchaser were unsuccessful because of potential civil liability risks.

By February 12, Drexel faced another downgrade of its commercial paper rating, and its holding company defaulted on $100 million in loans. A Citibank-led loan proposal fell through. Efforts for a government bailout were blocked by Treasury Secretary Nicholas F. Brady, who held grudges stemming from Drexel's prior hostile takeover activities.

On February 13, New York Federal Reserve President E. Gerald Corrigan and SEC Chairman Richard Breeden informed Joseph that regulators deemed Drexel’s future untenable and would take control unless bankruptcy protection was sought. The board swiftly authorized filing for Chapter 11 bankruptcy—the first Wall Street firm since the Great Depression compelled to do so. This filing applied solely to the parent company; its broker/dealer subsidiary remained operational but significantly weakened.

Prior to bankruptcy proceedings, Tubby Burnham separated the funds management division into Burnham Financial Group, which continues today as a diversified investment enterprise. After emerging from bankruptcy in 1992, Drexel rebranded as New Street Capital, operating as a modest investment bank with approximately 20 employees—down from over 10,000 at its height—and limited business activities. In 1994, New Street merged with Green Capital, a merchant bank owned by Atlanta financier Holcombe Green.

Richard A. Brenner reflected in his memoir that other Wall Street firms refrained from assisting Drexel during its crisis, instead viewing the situation as an opportunity to expand their own market shares.

Criticism

By the late 1980s, public trust in leveraged buyouts and their fundamental financial tool—the junk bond—had significantly eroded. Often labeled "turbo debt," junk bonds were contentious and emblematic of the 1980s "Decade of Greed," despite their involvement in fewer than one-quarter of acquisitions and hostile takeovers during that period. By 1990, default rates on high-yield bonds rose sharply from 4% to 10%, further damaging investor confidence. With the withdrawal of key proponents such as Milken, liquidity in the junk bond market dried up. Drexel was forced to retain bonds from failing companies on its books, draining capital reserves and precipitating bankruptcy.

Survivors

In the aftermath of Drexel's downfall, several entities and individuals emerged or expanded their influence:

  • The 1838 Group—named after Drexel’s founding year—was launched by former investment managers but ultimately ceased operations due to poor performance.
  • Drexel Burnham Lambert Real Estate Associates II continues functioning as a real estate management firm.
  • Apollo Global Management, a leading private equity firm, was established by former Drexel executives Leon Black, Josh Harris, and Marc Rowan following Drexel’s collapse.
  • Richard Handler joined Jefferies Group after bankruptcy alongside partners and played a key role in developing it into a major independent global investment bank.
  • Fred Joseph collaborated with John Adams Morgan to create Morgan Joseph, a middle-market investment bank catering to clients similar to those of Drexel. In 2011, it merged with Tri-Artisan Partners forming Morgan Joseph TriArtisan. Although Joseph served as co-head of corporate finance until his passing in 2009, he was permanently barred by the SEC from holding president or CEO roles at securities firms due to inadequate oversight of Milken’s activities. John Sorte, Joseph’s successor at Drexel, currently leads Morgan Joseph TriArtisan. Despite bearing Joseph’s name, his leadership drew criticism; he was named among the worst CEOs in American business history in 2011 for poor crisis management.

These organizations and leaders exemplify the enduring business impact and legacy stemming from Drexel’s former executives and strategic initiatives.

Former personnel

References

Retrieved from "https://www.alfawiki.org/index.php?title=Drexel_Burnham_Lambert&oldid=8472"