Sir Evelyn under pressure in the middle

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The Independent Online

Financial Editor

Sir Evelyn de Rothschild's 26 per cent stake in Smith New Court, the leading UK broker, has proved a canny investment.

Should it be sold, which looks probable given Smith's determination to offer itself to a big balance sheet organisation such as Commerzbank of Germany or Merrill Lynch of the US, the merchant bank Sir Evelyn runs and largely owns, NM Rothschild, stands to make pounds 100m - not a bad return on an initial outlay 10 years ago of just pounds 4m.

But in strategic alliance terms the shareholding never prospered. The broker and the corporate adviser have given one another little business. Despite their shared Jewishness, which was meant to underpin the relationship, the radically different cultures of establishment merchant banker and street-wise securities trader found little common ground, as the angry tensions of the past week have laid bare.

While much of the public attention is on Smith New Court's attempts to clinch a deal, the prospective end of the special relationship places renewed question marks over Rothschild's future, and its ability to survive as an independent force when so many other British houses have succumbed to competitive pressures.

Rothschild argues that losing the Smith link makes little difference precisely because it has not been decisive. But this still leaves the broader question of the viability of middle-sized merchant banks with international pretensions in the ferociously competitive investment banking environment.

A profit of pounds 100m is worthwhile, but it is peanuts in terms of capitalising a business against the big-league competition. Smith New Court could have raised pounds 100m, even pounds 300m, but decided its ambitions needed a backer with billions.

Rothschild is bang in the uncomfortable middle ground - too big to be a niche player, too small to punch with the SBC Warburgs or Goldman Sachs.

Increasing evidence that corporate advisory businesses without integrated equity distribution are losing out is exerting pressure on houses such as Rothschild.

This is especially true in international business. A financier from a small City house says: "Governments and corporates abroad increasingly expect you to look like an integrated US house. Firms unable to provide distribution will find the going increasingly tough."

Rothschild has a good name in privatisation, recently voted privatisation adviser of 1994 by Euromoney. It is currently adviser to Deutsche Telekom on its partial sell-off next year. But its reputation among UK institutions took a knock last year with the disastrous flotation of Aerostructures Hamble. The later float of Century Inns had to be pulled partly because Rothschild found it hard to get institutional support.

Rothschild vigorously rebuts the argument that integrated houses with distribution must prevail, pointing to internal conflicts between the corporate advisory side and the research-broking side with its loyalty to big institutions. It counts on continuing demand for corporate advice free of distribution concerns.

But even if true, this argument applies as much to a boutique advisory business as a Rothschild employing 2,000.

The defining characteristic of the business, however, is the family's 75 per cent stake and active participation in NM Rothschild.

Sir Evelyn has declared his determination to hand his business on to his children. For any potential buyer, that is a mighty impediment.