Slowed, but not stopped

NEW YORK — More than two years after Deutsche Asset Management acquired Scudder Investments, the combined firm still faces a clash of cultures that has led to a continuing exodus of Scudder executives and staffers.

The resulting turmoil has hurt performance, and led to client defections and net outflows.

"There is still a lot of dissension between the cultures, and people who came from Scudder are still leaving," said Robert Warren, chief executive officer at Warren International, a New York-based executive search firm. "Scudder was in the retail, institutional and high-net-worth business, and there is still a good chance that people from all three areas will leave because the cultures are so dissimilar."

Another headhunter who requested anonymity explained that many at the firm were pushed out after William Shiebler was hired in March 2002 as chief executive officer for DeAM-Americas to integrate Scudder. Mr. Shiebler, who had been president and CEO at Putnam Mutual Funds, a unit of Putnam Investments, Boston, brought in his own team of people to help restructure the business.

But others left because of the firm's switch to a more regional, rather than global, strategy or because they believed there was no longer an opportunity for advancement.

"The pace (of departures) has slowed, but the number of departures after the merger has been far larger than usual, and some people still want to get out," the headhunter noted. "I've never seen such a mass exodus. They lost a lot of star managers and many talented marketers and client service people to other firms."

Among the stars who left in the last year alone:

c William Holzer, who headed a highly regarded Scudder global equity team that departed with him to Lazard Asset Management, New York, along with an estimated $2 billion in assets. Mr. Warren said that Deutsche had split up the Holzer team — Nicholas Bratt, Andrew Norris and Irene Chang — who were reunited at Lazard. Mr. Holzer did not return calls seeking comments.

• Richard M. Goldman, head of Deutsche's Americas institutional business, who became president and chief executive officer at Forstmann-Leff Associates LLC, New York.

• David Baldt, a star DeAM fixed-income manager who went to Schroder Investment Management, New York, where he manages the municipal bond team. Mr. Baldt, who is said to have taken close to $6 billion in assets over to Schroder, did not return calls.

• Joshua Feuerman, former Deutsche head of quantitative equities, who left to start a hedge fund, BTN Partners, Greenwich, Conn. He did not return calls.

• Jeffrey Ulness, co-head of DeAM's financial institutions group, who was recruited by Mr. Goldman to join Forstmann-Leff as director of business development.

• Larry Abele, managing director of quantitative strategies, who left to form his own hedge fund company.

Former senior Deutsche executives who asked not to be identified said the departures are continuing and that they hear regularly from people who are still at the firm but would leave in a heartbeat for the right job.

But Mr. Shiebler said many who left did not depart of their own accord. "We've been upgrading the staff, putting muscle behind the best people to get rid of duplication," he said.

Mr. Shiebler, 62, insisted the departures had ended and vigorously denied rumors that he himself will retire in a year, emphasizing: "Absolutely not. I have no plans to leave. I love it here and I'm not looking to retire."

Mr. Warren of Warren International said the cultural differences between staffs at DeAM and Scudder are formidable. "Scudder was a partnership, which hired down-home nice Midwestern types who were somewhat conservative and very different than the hard-charging aggressive type of person that's normal in a big shop. The Scudder people prefer a smaller environment. They like the day-to-day camaraderie, which you don't get in a big organization," Mr. Warren said.

In addition to culture differences, the rapid turnover of CEOs at DeAM-Americas with three in three years, resulted in ever-changing strategic directions that bothered many Deutsche and former Scudder executives. "All that chaos led a number of people to head for the doors," noted one former executive.

"At one point, they were trumpeting Dean Barr as global CIO, which was to be a positive in the deal, and then they changed tactics and decided to go regional, which ultimately inspired him and a whole group to exit," the former exec noted. (Mr. Barr was hired as the global CIO for Deutsche Asset Management before the merger. He left after the merger and started Thunder Bay Capital Management, a New York-based hedge fund that opened in February 2003. Mr. Barr took 12 investment professionals from Deutsche to his new firm, including Ken Yip, who was global head of research at DeAM and is now a partner at Thunder Bay.)

"That doesn't help client confidence. People went there to be part of a global team. Once they changed it to a regional focus, there was in-fighting between the teams; now they're developing competing products," the former Deutsche executive said.

Also, Deutsche Asset has not required its remaining portfolio managers to sign contracts, which has led to recruiters picking off the best portfolio managers, said one observer with knowledge of the situation. "The Shiebler people said that PMs shouldn't stay if they don't want to be here," said this observer.

There was no logic for the acquisition of Scudder beyond cost-cutting, another former executive recalled. "Clients were upset by our inability to explain why we'd acquired Scudder and why there was so much turnover. They couldn't count on us to be a reliable provider of services. There were a lot of client terminations for performance, turnover and compliance issues. It was chaos, because we were rudderless."

Deutsche Asset's cash management, hedge fund and real estate businesses are the most profitable, largely because they've been left alone, observed the former executive. "The fixed-income team based in Philadelphia is also doing all right, but it won't keep them alive," he said.

Mr. Shiebler said that there has been great growth in several strategies in the last year, notably the active currency overlay business, whose assets increased to $5.3 billion as of Dec. 31, from $3.3 billion a year earlier, and in the Integrated Global Alpha Platform, which grew to $15 billion from $2 billion during the same period.

Another winner has been the International Select equity strategy, which has grown to $2.5 billion from $5 million since inception in 1998.

According to Pensions & Investments' latest rankings of U.S. institutional money managers, published May 31, Deutsche ranked 28th in U.S. institutional internally managed tax-exempt assets as of Dec. 31, down from eighth a year earlier. Missy DeAngelis, Deutsche spokeswoman, said the decline was largely due to Deutsche's 2003 sale of its $65 billion in U.S. indexed assets to Northern Trust Global Investments, Chicago.

Greg Carlson, mutual fund analyst at Morningstar Associates, Chicago, observed that there is a lot of duplication in DeAm's sprawling lineup of mutual funds, especially in domestic and international equity.

"They said they would re-evaluate for duplication but they haven't done it yet," Mr. Carlson said.

Although the mutual fund industry as a whole has taken in billions in net new assets this year, Deutsche has suffered $1.8 billion in net outflows, Mr. Carlson said. He attributed that to Deutsche's disclosure earlier this year that Scudder had market-timing arrangements involving some funds in the past. Deutsche Asset's investigation by state and local authorities about allegations that it permitted an outside firm to rapidly trade in certain funds. "As a result, Morningstar has advised investors not to send the firm any new money," Mr. Carlson said.

The funds also suffered net outflows of $2.1 billion in 2003, according to Financial Research Corp., Boston. Mr. Shiebler explained: "The outflows in the Scudder business were experienced in our direct channels, which are areas we have de-emphasized. We have changed our business model to focus on the adviser-based channel where we have consistently increased our flow share."

Overall performance lags the competition, according to Morningstar's rankings. For the period after the merger until the present — May 1, 2002 through May 31, 2004, the total complex of 308 Scudder funds was up an annualized 4.95%, compared with the total complex of Fidelity Investments' 387 funds, which was up an annualized 5.89% in the same period and Vanguard Group's 159 funds, up an annualized 6.24% in the period.

Mr. Carlson praised the fixed-income funds, saying they have been doing well and that new large-cap manager Julie Van Cleave has been doing a good job.

"In a couple of instances Deutsche toned down an aggressive style, just before the big rally in 2003, so they didn't do well at all," Mr. Carlson noted.

That happened with the International Equity Funds run by Alexander Tedder. It also happened with small-cap growth funds, which became more conservative after Deutsche took, so that they missed the benefit of the rally, he said.

The International Equity Fund trailed 80% of its competitors, posting a -3.1% annualized return for the three-year period ended May 31. And the 21st Century Growth Fund (the small-cap growth fund) lagged 95% of competitors in the period, posting an annualized -13.4% in the three-year period, according to Morningstar's Mr. Carlson.

Mr. Shiebler, however, said Deutsche's institutional business has turned the corner. DeAM now has several important mandates and clients in the pipeline and this year has taken in a lot of new business, including a hedge fund mandate of more than $300 million and a $500 million mandate from an offshore client in fixed income in the last few weeks. He declined to name them.

Mr. Warren of Warren International also sees progress. "They're trying really hard, and I believe it will mesh eventually. They will develop a style and culture. They might boutique some of the shops, not make everything one culture. But they still have a ways to go to get it all together."

The firm has lost clients including the $6.9 billion Public Employee Retirement System of Idaho, Boise, which terminated a $200 million global account; the $3.9 billion New Hampshire Retirement System, Concord, which terminated an $84 million large-cap account; and the £1 billion ($1.87 billion) Aberdeen (Scotland) City Council, which terminated a £300 million balanced account.

And, at least two consultants said they are proceeding cautiously before recommending the firm to clients.

Jeff Nipp, director of research Watson Wyatt Investment Consulting, Atlanta, observed: "When you see so much change, it's going to make you cautious. The situation seems to have stabilized somewhat." But he is still scrutinizing the firm "product by product" before making recommendations to clients. "They need to demonstrate stability. They can't keep undergoing changes all the time. It makes people uncomfortable."

Michael Rosen, principal at Angeles Investment Advisers LLC, Santa Monica, Calif., is also looking for "signs of stability and focus before making recommendations. None of our clients use them, by design, because we have been concerned about the organization's lack of stability of personnel and focus."