The New New Hambrecht

SAN FRANCISCO (03/07/2000) - It wasn't supposed to be like this. Two years ago, W.R. Hambrecht started with dreams of creating a Net-based investment bank.

Founded by Bill Hambrecht, the legendary Silicon Valley banker who also helped create Hambrecht & Quist, the firm boasted of using online auctions to open initial public offerings to the small investor while ensuring companies a fair offering price.

After two years of hard work, though, W.R. Hambrecht is looking less like the idealistic venture it set out to be and more like a typical investment bank.

Underscoring that shift, Norton Capital Management, a Denver firm that bid on the Andover.Net IPO led by W.R. Hambrecht, filed a class-action suit against the bank. Norton says it should have received shares in Andover's hot IPO in December but didn't, making the offering as exclusive as any other IPO.

"Hambrecht's unlawful, unfair and fraudulent business acts and practices, and its unfair, deceptive, untrue and misleading promotional and marketing materials ... present a continuing threat to members of the general public," stated the complaint, which accused Hambrecht of unfair business practices, negligence and breach of contract.

The lawsuit comes as the bank's efforts to woo institutional investors have led it to compromise on its more revolutionary ideas and adopt some practices of its traditional rivals, such as big research and trading desks. W.R. Hambrecht says it's confident that Norton's lawsuit won't hold up, but declines to discuss it further. The company insists it's not abandoning its model - something that takes time to do right. "We're trying to change something against the most powerful, entrenched interests," says Ian Zwicker, W.R.

Hambrecht's president. "We're trying to start a revolution."

Not all of the company's peers agree. "At the end of the day, if it looks like a duck, swims like a duck and quacks like a duck, then it's a duck," says Douglas P. Smith, a managing director at Bill Hambrecht's old bank, now called Chase H&Q. W.R.

Hambrecht's headquarters in San Francisco certainly doesn't look like that of its rivals; it looks more like an Internet startup. Inside a warehouse closer to the railroad tracks than to the financial district, Zwicker sits at a cubicle in a room he shares with Bill Hambrecht and COO John Delafield. In the kitchen, a sign nags employees to clean up after themselves. Like many startups, W.R. Hambrecht sought to shake up an industry. It set up a skeleton crew of stock traders, believing the bulk of orders could be made through the Internet.

It also planned a minimal research department to avoid the perception that an underwriters' analysis is clouded by its interest in promoting a client. Above all, the firm set out to overhaul the IPO process, which critics say lets the underwriters' best customers buy cheap shares and make a killing if the stock surges in the public market. Many investment bankers counter that the gap between a stock's offering price and its first-day performance has more to do with the unpredictable nature of Net stocks than some grand conspiracy.

W.R. Hambrecht's answer to the debate is its open IPO process, based on the Dutch auction system that welcomes all bidders, allowing the market at large to determine a stock's value before the company goes public. The company's marketing strategy played up the uneven field on which most underwriters play.

"Most investment bankers lead a very hard life," read one of the firm's direct-mail pieces. "After they take care of each other they have to take care of their friends. And after they do that, they have to take care of the people they'd like to have as friends. You can imagine after all this hard work there aren't very many IPO shares to go around."

The bank's employees echo this populist tone, speaking as if they are bent on turning the IPO process on its ear. "To think that the rise of the Net won't change how banking is being done is naive," says Tim Savageaux, a Hambrecht analyst. Yet Savageaux is part of the changes bringing W.R. Hambrecht back into the mainstream. He joined the bank from Volpe Brown Whelan in January, along with more than 20 members of Volpe's trading desk. In contrast to its initial vision, W.R. Hambrecht now has 13 analysts and expects the number to grow.

Beefier research and trading departments go a long way with big investors.

"We've gone in for more institution-equity quality research," admits Delafield.

"The buy side may be very cynical about it. But tell them they're not going to get it and they look at you cross-eyed." Similarly, Zwicker says, investors still prefer to phone in an order to a trader rather than fill out a form online. The changes come as W.R. Hambrecht's business flourishes.

Not only has the firm led three IPOs, it also has participated in 18 other traditional IPOs and follow-on offerings. Its venture unit has invested in more than two dozen private companies, while helping to pioneer a new practice that lets wealthy investors with Hambrecht brokerage accounts coinvest in them. And it advised Andover.Net last month on its sale to VA Linux, a deal valued at $1 billion and coveted by many banks. Andover.Net was W.R. Hambrecht's most visible IPO.

It was also the most problematic. The two previous Hambrecht-led IPOs, including one for media site Salon.com, didn't surge on their first day - the expected outcome of a successful Dutch auction. Andover.Net quintupled to $90 on its first day, but many buyers who had bid above the clearing price were never sold any shares.

Under the Dutch auction system, anyone who bids above the clearing price should get all the shares they asked for. Anyone whose bid equals the clearing price gets a prorated number of shares. Anyone under the clearing price gets none.

Andover.Net was offered at $18 a share. But when its auction was finished, the clearing price was $24. The problem was, pricing the IPO at $24 would have meant going back to the SEC and notifying all bidders of another round of bidding. Bruce Twickler, CEO of Andover.Net, says he decided it wasn't worth doing another auction because the same problem would happen again. Andover's prospectus warned that the firm reserves the right to alter the way it allocates shares under "exceptional circumstances." "We had clearly outstripped Hambrecht's ability to track this thing," Twickler says. Besides, he adds, the company liked the idea of its stock popping on the first day out and making a big splash.

To some investors, something went strangely awry. Norton Capital Management had bid $24 for 7,500 shares. To its dismay, no Andover shares were sold to the firm. So it filed a lawsuit against W.R. Hambrecht. One lawyer not involved in the case, Boris Feldman, a partner at law firm Wilson Sonsini Goodrich & Rosati, is skeptical about the suit. "This doesn't sound like a legal grievance," he says. "You don't have a right to IPO shares."

Hambrecht officials say they're working to improve the open IPO. "We've picked the most emotional market in history to do this," says Delafield. "Does it do a better job of allocating securities than the traditional way? Yes. But is it perfect? No."

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