Bloomberg Law
June 29, 2016, 12:54 PM

In Battle to Reveal McKinsey Clients, Discretion Carries the Day

Bloomberg Media

By Tiffany Kary and Tom Schoenberg, Bloomberg News

Consulting giant McKinsey & Co., which built an $8.3 billion business in part by keeping quiet about who it’s advising, has weathered a challenge that would have revealed the names of scores of its clients.

The world’s biggest consulting firm has battled for months in an unusual venue, bankruptcy court, against requests to identify many of its clients. While some names have trickled out, a ruling on Tuesday stopped, for now, what could have turned into a torrent.

The decision in Richmond, Virginia, bankruptcy court requires a McKinsey unit to share the names of more than 100 clients with a judge, but not with the public — a solution that lets the firm keep its work discreet while also guarding a lucrative bankruptcy-advising business.

The string of recent legal challenges was less about publicizing client lists than it was an effort to illuminate potential conflicts of interest: Opponents wanted McKinsey, which helps clients through the bankruptcy process, to disclose whether it also has consulting relationships with creditors who may be sitting on the opposite side of the table.

In a typical bankruptcy, the biggest creditors include hedge funds and other investors who seek to profit from their stakes in the company’s various forms of debt. The concern is that if an adviser for the distressed company also has a relationship with a creditor, competitor or potential buyer, it could place less-connected parties — such as pension funds or local governments — at a disadvantage.

“The issue is — would they be funneling money or doing anything totally improper to help another client of theirs?” said Walter Greenhalgh, a partner at DuaneMorris LLP who specializes in bankruptcy law.

‘Disingenuous’ Push

There is an added dimension to McKinsey’s potential conflicts. The company also has an internal investment arm, MIO Partners, that managed $9.5 billion in holdings for partners and former employees as of the end of last year. The unit doesn’t make its holdings public.

McKinsey says it discloses more than other bankruptcy advisers, and that when it finds a conflict, it names the party. The MIO investment arm, it has said, doesn’t pose conflicts because it is managed through a blind trust.

Furthermore, other forces are behind the push for transparency, McKinsey has said. The founder of a competing consulting firm is behind some of the legal challenges, the firm said in filings, calling the efforts “disingenuous.” McKinsey said Tuesday through a spokesman that it was pleased that the court rejected the rival’s “attempt to access McKinsey’s competitive information and the confidential information of our clients.”

“We remain committed to delivering impact for our clients, their employees and stakeholders, and will work to quickly provide the limited information the court required in camera,” the spokesman said.

Clubby World

The focus of the recent pressure is McKinsey Recovery & Transformation Services U.S. LLC, a unit of the consulting firm that helps companies restructure and may lead them through bankruptcy proceedings.

Formed in 2010, McKinsey RTS competes with law firms, banks and other bankruptcy workout firms — including Alvarez & Marsal Inc., Houlihan Lokey, Lazard Ltd., Rothschild & Co. and Blackstone Group LP. Such advisers must, by law, identify which of a given proceeding’s creditors or investors they have also represented. In this clubby world, such connections are frequent but don’t usually lead to disqualification.

For example, Rothschild & Co., the financial adviser in the bankruptcy proceedings of renewable energy company SunEdison Inc., disclosed ties to 94 parties in the case. Its 110-page report to the court includes 20 pages noting its ties to those parties -- including creditors such as Apollo Global Management LLC, Blackrock Inc. and Goldman Sachs Group.

Disclosing such connections is at odds with McKinsey’s traditional discretion about its clients. It’s an open secret that McKinsey works for many of the world’s top companies — often several of them within the same sector.

But knowing who is getting advice, and when, can help rivals determine who’s shifting strategy or encountering troubles, said JJ Sendelbach, the founder and managing director of Stamford, Conn.-based Doublejay Consulting LLC, a strategic adviser to consulting firms. While clients are aware that conflicts may arise, they trust their consultants to navigate them according to their own ethical standards, he said.

Another Detractor

McKinsey’s disclosure practices came to the fore recently in bankruptcy proceedings for SunEdison and coal company Alpha Natural Resources Inc. The U.S. Trustee, a bankruptcy watchdog for the Department of Justice, said in each case that the firm’s initial disclosures were vague and incomplete. The U.S. Trustee since resolved its concerns and withdrew its opposition in both cases.

But another detractor emerged. McKinsey RTS disclosed no conflicts at all over the course of nine bankruptcies, according to a filing by Mar-Bow Value Partners LLC, an unsecured creditor in the Alpha Natural Resources bankruptcy. Mar-Bow’s beneficial owner is Jay Alix, the founder of AlixPartners LLP, a consulting firm that competes with McKinsey.

Mar-Bow asked the judge overseeing the ANR bankruptcy to force McKinsey to divulge more client information.

“We have seen cases where a professional represents a creditor — and often that’s a secured creditor — and then the secured creditor winds up getting a better deal than they might otherwise get,” according to Steven Rhodes, a former federal bankruptcy judge who worked on a filing challenging McKinsey’s appointment to restructure ANR. The disclosure law is intended not to “allow a professional like McKinsey simply to swear its connections are not disqualifying,” he said in an interview.

McKinsey’s lack of disclosure in the ANR matter is “unprecedented in modern bankruptcy,” Rhodes testified on Tuesday. McKinsey represents 147 of 200 of the world’s largest companies, and 80 of the top 120 financial services and banking firms, he estimated.

McKinsey said the filing was the product of a disgruntled rival aiming to push it out of the restructuring business. “Alix’s purported concerns for the ‘integrity’ of the bankruptcy system are completely disingenuous,” the firm said in a filing seeking to have the objection dismissed.

“They have to go through a parade of horribles that don’t exist just to suggest there’s something wrong here,” McKinsey lawyer Martin Bienenstock told the judge in the ANR matter on Tuesday, dismissing the possibility that one of McKinsey’s clients could be on the other end of a transaction in which it represents the coal company.

AlixPartners, in a statement, said: “Jay Alix is a respected voice in the industry and has undertaken this effort on his own.”

Amended Disclosures

Amid the pressure for more disclosures in the cases, McKinsey has come forward with some client names. In a May filing in the SunEdison matter, it said it had done work for seasoned distressed debt investors such as Apollo, Oaktree Capital Management and JPMorgan Chase & Co., who have bought up some of the company’s obligations.

In the ANR matter, as of early Tuesday, McKinsey had made three amended disclosures, naming 17 of the 138 clients it found that were also involved in the case.

After a lively debate with McKinsey’s lawyers on Tuesday, the judge overseeing the ANR matter, Kevin R. Huennekens, staked out a middle ground. He required the firm to disclose the remaining 121 names — but said the information could be filed under seal. Huennekens also said that McKinsey must disclose to the court any holdings in the investment vehicle, MIO, that relate to parties of interest in the coal company’s bankruptcy.

“The purpose here is not to destroy McKinsey’s business model. It’s not to give a competitive advantage to a competitor. The court is respectful of that,” Huennekens said, while adding that the further disclosures were necessary to protect the “integrity” of the bankruptcy code’s disclosure rules.