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July 8, 2013, 5:45 p.m. ET

Merchant Banks Make a Comeback

Deals in which banks both advise clients and invest alongside them are flourishing.
By ANUPREETA DAS When designer Tory Burch and her ex-husband got in a protracted public dispute over the company they founded together, banker Byron Trott quietly stepped in to propose a solution. Mr. Trott, known in Wall Street circles as Warren Buffett's favorite banker, didn't just offer advice: His firm put in money and brought in other deep-pocketed investors. This sort of dealin which banks advise clients and may invest alongside themis flourishing of late.

At least half a dozen so-called merchant banks have cropped up since the 2008 financial crisis, touting themselves as practitioners of old-fashioned relationship banking when others on Wall Street are increasingly wary of potential conflicts. Earlier this year, European private-banking group Edmond de Rothschild won regulatory approval to launch a U.K.-focused merchant bank. Robert Diamond, the ousted Barclays PLC chief executive, is planning to start his own merchant bank targeting Africa and Europe later this year, according to people familiar with those discussions. Mr. Diamond declined to comment. Merchant banks once referred to shops run by grain merchants who used their own capital to finance foreign trade. Today's merchant bankers straddle privateequity-style investing and advisory work, using their deal expertise to find investment opportunities for themselves as well as their networks of wealthy investors.

Merchant banks are mostly matchmakers. They connect clients looking to raise private capital with those who have money to invest. Most merchant banks operate funds containing outside money as well as their own. By Wall Street standards, these banks are tiny. Most employ no more than a few dozen people, which the banks say ensures clients get personalized attention, and some stick to one line of business. But because of their size, they can only pursue so many deals. Also, because they don't offer the full range of investment-banking services performed by bulge-bracket firms, they generally operate on the fringes of the banking business. Recently, however, merchant banks have landed some high-profile deals. Mr. Trott's proposal to Ms. Burch last fall involved his firm BDT Capital Partners, investor General Atlantic LLC and others buying out most of Christopher Burch's stake for about $600 million. That created a sizable payday for Mr. Burch while enabling him to retain a small stake. The deal provided Ms. Burch with long-term financing from sources she trusted, an important consideration for the billionaire designer. "After getting to know Byron Trott and Bill Ford [of General Atlantic] over the last couple of years, it was clear they were each a great fit," Ms. Burch said. Mr. Burch declined to comment. For Mr. Trott, the deal was a way to get his investorsincluding BDT employees, families and wealthy individuals like Mr. Buffettinto a fast-rising U.S. lifestyle company, which is valued at more than $2.5 billion. "It can be helpful to endorse [a potential investment] by actually investing alongside a client," said Aryeh Bourkoff, CEO of LionTree LLC, a new boutique firm that focuses on advisory work but has pursued co-investments with wealthy investors. Banks' dual roles as advisers and investors, once seen as a selling point, are increasingly frowned upon by regulators because of the potential for banks to put their own economic interests ahead of their clients'. Merchant banks say they avoid such conflicts by focusing only on lines of business that support their clients' interests rather than offering multiple services, or by advising on deals of a different size than those they invest in. In addition to BDT, founded in 2009, other established merchant banks are Tudor Pickering Holt & Co. out of Houston; Raine Group LLC and Three Ocean Partners LLC out of New York; and Lepe Partners in London.

Since 2008, those five banks have worked on at least $242 billion of deals, according to Dealogic. Although that amount is a minute share of the roughly $14 trillion of global mergers during the same period, merchant banks have been increasing their share, the data show. Many merchant bankers, who quit careers at big banks in the wake of curbs on pay after the financial crisis, also were drawn to this model because of the potential for more lucrative fees. Bankers say returns on invested capital are usually a significant multiple of what a bank earns from advisory fees. Some merchant banks also charge management or profit fees. Rather than tapping pension funds and other large investors, merchant banks raise smaller amounts from billionaires and other wealthy families looking to diversify their holdings. Raine has an investment from SoftBank Corp. CEO Masayoshi Son, and advised the Japanese Internet company on its $20 billion takeover of Sprint Nextel Corp. Raine, which manages about $500 million, also took a stake in Vice Media Inc., known for its provocative magazines. Three Ocean doesn't have a fund, but taps into a group of 17 family offices. "It's through their network of extended contacts that we see great deal flow," says Timothy Fisher, who oversees the private-equity and hedge-fund portfolios of Hillman Co., the investment firm of Pittsburgh's Hillman family. Tudor Pickering, an energy-banking firm formed through a 2007 merger of two firms, has about $370 million in two funds, raised mostly from wealthy energyindustry families. The firm pursues advisory assignments that average $1.2 billion in size, far bigger than the deals the firm looks to invest capital in, said CEO Bobby Tudor. Other firms have abandoned their merchant-banking units. In 2009, investment bank Greenhill & Co. Inc. sold off funds that used the bank's own capital to invest, citing a bigger opportunity in advisory work, smaller capital needs and the "least potential for conflicts of interest." Write to Anupreeta Das at anupreeta.das@wsj.com!