"Today Things Are Getting Badly Out of Hand"

By John Greenwald.

In the world of high finance, where an elite group of Wall Street dealmakers commands million-dollar fees for putting together megadollar agreements, Felix Rohatyn is the first among equals. As a senior partner at Lazard Freres, a New York investment-banking firm, he has presided over hundreds of mergers and acquisitions. In October, General Electric Chairman John Welch and RCA Chairman Thornton Bradshaw started talking about a merger over drinks at Rohatyn's Manhattan apartment.

Though he can claim credit for inventing many of the tools of modern corporate mergers, Rohatyn (pronounced Row-ah-tin) these days is like the sorcerer whose apprentices have run amuck. Last week, speaking before a group of TIME editors, he criticized the new excesses of takeover madness and warned that these practices are endangering the health of the American financial system. Said he: "Today things are getting badly out of hand."

Rohatyn has put together some of the biggest deals in history. His first supermerger was in 1968, when he helped ITT acquire Hartford Insurance for $2 billion. Throughout the 1960s Rohatyn worked with ITT Chief Executive Harold Geneen, who built the company into one of the first powerful conglomerates and the ninth-largest industrial firm in the U.S. at the time. The ITT-Rohatyn deals included Continental Baking, maker of Hostess cakes, and Avis. In recent years Rohatyn's handiwork could be found in the Allied-Signal merger and the acquisition of Electronic Data Systems by General Motors. "Felix the Fixer" they called him on Wall Street.

Born in Vienna in 1928, the only son of a brewer, Rohatyn fled the Nazis across Europe, North Africa and South America before landing in the U.S. in 1942. He began working at Lazard Freres in 1949 and twelve years later was named a general partner. In 1975 Rohatyn was one of the chief architects of the financial plan that saved New York City from bankruptcy.

Today Rohatyn is trying to protect U.S. financial institutions from the dangers of what he considers to be poorly financed mergers and takeovers. The U.S. business system, he argues, is threatened by "excessive risk taking," speculation and the huge load of debt that most mergers create. "The climate of confidence required of our financial institutions is being eroded," he says.

The $1.4 trillion corporate debt load is crippling, Rohatyn notes. Too much of the debt has been created by firms to finance takeovers with borrowed money. The result, he argues, is that many companies are particularly vulnerable to an economic downturn. In a recession, these corporations might be unable to make interest payments on their debt, and the result could be enormous loan defaults. Firms may already be unable to make needed investments in their basic business. Says Rohatyn: "At a time when we are trying to strengthen our important industries to make them more competitive, this weakens them by stripping away their equity and replacing it with high-cost debt." Ultimately the entire U.S. economy suffers.

No form of corporate debt is more worrisome to Rohatyn than junk bonds, high-yielding IOUs with low credit ratings that are frequently used to finance acquisitions. Rohatyn does not oppose the use of junk bonds in moderation, but he finds that in today's takeovers that is often not the case. Says he: "This phenomenon is particularly hazardous." One reason is that many of these IOUs are so risky that they may never be repaid. If companies are strapped for cash to pay interest to their bondholders, a default could ensue.

Rampant insider trading is also devastating securities markets, Rohatyn contends. A basic tenet of U.S. corporate law has been that all shareholders must be treated equally and share all information that could affect a company's stock performance. Yet major abuses are arising because professional traders act on information that is unavailable to the public about a pending takeover deal. Explains Rohatyn: "Traders with inside information, in collaboration with raiders armed with junk bonds, deliberately drive companies to merge."

Following the raiders are short-term speculators who frantically buy the target's stock in hopes that a merger will be approved. The real danger, says Rohatyn, is that "at a time when we are trying to encourage long-term investment, this activity encourages speculation and short-term trading."

Rohatyn has been calling on Washington to save American business from itself. Last June he testified before a Senate subcommittee about the dangers of some mergers. Last week Rohatyn said, "The integrity of our securities markets and the soundness of our financial system are vital national assets that are being eroded today. Actions are required to protect them." While Rohatyn has come out in support of a recent New York State law that will curtail certain kinds of hostile takeovers, he believes that "regulation as opposed to legislation can handle most of the problems."

He outlines several steps that should be taken. The proliferation of junk bonds, he feels, should be curtailed by restriction of their use in mergers and acquisitions. Rohatyn also recommends sharply limiting the ability of federal- and stateinsured banks and pension funds to purchase these IOUs. Says Rohatyn: "Financial institutions that are supposed to safeguard the savings of people are becoming casinos that buy junk paper." When confronted with insider-trading abuses, Rohatyn states, the "SEC has ample power to punish offenders."

If those steps to avoid takeover abuse are put into practice, Rohatyn in turn favors prohibiting certain financial maneuvers commonly used by firms to defend themselves against raiders. One example is the so-called poison pill, in which a company makes an acquisition so expensive that the predator usually responds by abandoning his quest. Rohatyn would also act to eliminate some "shark repellents," whereby companies take measures, such as changing their bylaws, to ward off potential acquirers.

Finally, Rohatyn believes that a takeover should not be proposed unless a firm is able to pay for the entire deal. If the company plans to borrow money from a bank in order to make the acquisition, for example, a solid loan commitment should be in hand. This would minimize takeover attempts designed only to drive up a target firm's stock price.

Rohatyn fears that it may take a crisis to end dangerous excesses of the merger fever. Says he: "The way we are going will destroy all of us in this business. Someday there is going to be a major recession, major scandals. All of us may be sitting in front of congressional committees trying to explain what we were doing."

With reporting by Frederick Ungeheuer/New York