Lehman Brothers' national public finance effort, James B.G. Hearty, 43, has experience in the private sector and in government. Before joining Lehman in 1992, he spent 12 years rising through the ranks at the Bank of Boston, followed by a two-year stint as director of finance under Massachusetts Gov. William Weld. In that capacity, Hearty was instrumental in the effort to reestablish the state's triple-A rating.
Hearty is an admitted "regional" who, in order to take on his expanded role, is trying to gain perspective on how to best position his department and offset the difficulties plaguing the municipal bond industry. However, where others are pessimistic about the current slump in the industry, Hearty is more positive and believes that slow times can present a firm with unforeseen opportunities.
Hearty, who replaced now-retired Richard Bain Jr., serves under D. Lee Hayes, who has ultimate responsibility for Lehman's municipal operation. Hearty will take charge of the firm's investment banking division, which includes all specialty groups. He will also act as adviser to issuers and governmental bodies. Hearty recently spoke to The Bond Buyer.
Q: Your recent move to New York from Lehman's Massachusetts office means your duties have expanded greatly. What challenges do you think you face?
A: Currently the firm is ranked anywhere between first and third position in most underwriting categories. I was a regional banker, so right now I have the luxury of being able to step back and take a look at the big picture to see how the industry's doing and how Lehman fits into that industry, and whether adjustments need to be made between focusing on a region or specialty group. For the most part the regions are the front line and the specialty bankers are the experts.
Let's say you have a limited number of resources with 100 bankers and you have to divide those resources up between regions and specialty groups. The interesting exercise becomes, should we have 12 people in the transportation area and six in health care sector, or vice versa? The exercise is being able to look back three years from now and justify those decisions. I think the three-year picture is hard.
Q: What characterizes a Lehman deal now ?
A: In looking at the rankings for the first five months, our average- size deal is larger than anybody's in the industry. We're focusing on larger deals around the country on fewer and more sophisticated issuers who make use not only of our structuring and technical expertise but are interested in the derivative financings as well. There haven't been a lot of swaps done recently because the market conditions haven't been advantageous to do a swap.
The taxable and the tax-exempt markets have to be in the right phases for swaps to be a trend, and they haven't been, which is almost a blessing given all the trouble that's existed in the general derivatives market in the last six months. However, we're very good on the investment side. In the one-stop shopping aspect of our business, we help issuers on debt service investments, reserve fund investments, and on temporary investments.
Q: How many issuers are you working with, and since you're talking about larger, more sophisticated financings, will this limit the number of issuers you can work with?
A: A couple of hundred, I imagine. It's such a diverse group. How many issuers are there in the tax-exempt market? It's a ridiculous number. Major governments have major agencies. For instance, most states have a housing finance agency, which is a business we're very interested in.
Also hospitals. How many hospitals are there in the United States? Are there a couple of hundred we're interested in doing business with? Absolutely.
Q: You are credited with helping Massachusetts shed its "distressed" condition. Do you plan to focus on troubled financings?
A: There's more business to be had when someone's made a mess of something. The industry as a whole certainly has more opportunity in this area.
Q: Are the margins also better on distressed projects?
A: I don't think they are actually. A bond deal is a bond deal. But generally our advice is: balance your budget and pay for capital out of current spending.
But then why is there a public finance industry? Because people borrow money. In pricing your services you have to be competitive relative to the value of the market, as the market determines the pricing of bonds. Certainly the pieces can end up being more than the whole. Nobody knows going into a transaction how it's going to turn out in terms of profit and loss.
We can take some principal risk on underwriting securities and we can get killed because of a bad trading decision. That doesn't mean that underwriting that security represented a bad decision. By the same token, we can do a situation where we hit a home run on a sales situation. Large issuers like New York City or California are so expert in dealing with the public finance industry that they have set rules and standards. You're not recreating the wheel each time.
Q: What will the business look like in five years? Will there be fewer bankers in the municipal market?
A: I think the industry will have less bankers. The business is very different than it was five years ago - and is different from 10 years ago. It's an unstable business and always has been. I don't know what it will look like in five years, but it's going to look a lot different.
Q: So specifically, what changes do you see occurring in the industry?
A: You've got less issuance this year than last year. I hear more stories about firms letting people go - all over the place, at regional firms, Wall Street firms. That's always a problem in this business.
But I think you can make your mark in capital markets when the market is down. It's in crummy markets that you can pull everything together and make sure you have the best people, make sure you're spending the right amount of time with the right customers. And you've got everybody doing what they're supposed to be doing.
Q: Is the firm about to roll out any new products?
A: Option products are being worked on by the industry more than before. We're finding ways to solve problems with issuers who cannot advance refund outstanding debt because they're restricted from doing so.
Last June we developed a proprietary product referred to as a call- hedging option program allowing issuers to lock in lower rates and get around certain refunding restrictions.
Derivative products include over-the-counter options, warrants, swaps, and equity-linked notes. I feel to compete effectively the firm does need a full array of products both on the debt side and the investment side, and should not merely focus on traditional tax-exempt bonds. You have to be able to execute a swap when it's right and structure an efficient investment, be it an escrow or a debt service deposit or a reserve fund to increase the efficiency of the financing.
There's always a flurry of activity going on around new products. I would expect continuing developments in the new products area to be more focused on derivatives.
Q: How committed to the municipal bond industry is Lehman?
A: I wouldn't have taken this job if I wasn't sure we weren't dedicated to continuing to serve our clients, and that is what we're going to do. If we go through three months of nonexistent municipal bond issuance, does that mean Lehman will pull out of the municipal market? No, it's our business.
