While bull markets and easy financing are critical for strong mergers and acquisitions activity, another important factor is government action. For example, the Telecommunications Reform Act of 1996 led to a surge in M&A as the government allowed competition in local and long-distance communications.

This is why President Obama's recent statement on financial reform is so important, especially to the private equity and hedge fund sectors. He declared: "No bank or financial institution that contains a bank will own, invest in or sponsor a hedge fund or a private equity fund." Symbolically, Obama gave his speech during Goldman Sachs's (GS) earnings call, at which the company reported profits of $4.79 billion. Primarily generating those profits was trading and principal investment activities (which amounted to $6.41 billion in revenues). These are the kinds of activities that Obama considers too risky for financial institutions.Obama's banking plan -- while still somewhat fuzzy -- is really the most far-reaching proposal since the Glass-Steagall Act of 1933, which also was meant to safeguard the U.S. financial system. The law essentially separated commercial banking from investment banking. And yes, the result was a spike in dealmaking. Obama's plan is likely to do the same.

How Big?

In a way, the Obama plan wants to bring the financial system back to the late 1970s. Commercial banks will essentially take deposits, offer some ordinary investment products and make conventional loans. Other financial institutions -- such as private equity funds and hedge funds -- would focus on alternative investments, such as buyouts, venture capital, short-selling, quantitative strategies and so on.

The problem: Commercial banks benefit tremendously from alternative investments. In fact, sophisticated investors -- whether institutions or wealthy individuals -- demand such products. Besides, having stakes in private equity and hedge funds can be for banks a great source of other revenue-generating activities like mergers, leveraged lending and IPOs.

Needless to say, the commercial banks will work extremely hard to defeat Obama's plan.

If Obama Gets His Way?


Before Obama can get a major reform bill through, there will have be some wrangling about definitions. What is proprietary trading? Can a bank keep existing investments? What about operations in other countries? What firms does the law apply to?

Next, there's likely to be a flurry of dealmaking. Financial institutions will need to unload their private equity, hedge fund and proprietary trading operations. According to a report from research firm Preqin, U.S. banks have raised more than 60 private equity funds and funds of funds since 2006. The total: $80 billion. Preqin also says U.S. banks account for about 9% of capital invested in private equity.

Dumping these assets would certainly be hugely disruptive to the financial system. This is why it's likely that the Obama plan would allow for three or four years for the process to take place.

To comply, U.S. banks will need to spend lots of time and expense on disposing such assets. This may include selling divisions as well as divestitures. Interestingly enough, we may see more publicly traded alternative investment firms.

Even More Trouble

Inevitably, there will also be unintended consequences. That is, if U.S. banks become hum-drum institutions, then it will likely be tough to retain top talent. And how will the banks compete against global powerhouses? Might the U.S. banking system suffer?

Ironically enough, these concerns led to the dismantling of the Glass-Steagall Act in the late 1990s. How soon we forget. But given the current maelstrom on Capitol Hill and the rise of populism across the country, it seems that Obama's plan has a fighting chance.

Tom Taulli advises on
business tax preparation and resolving tax problems. He is also the author of a variety of books, including the including The Complete M&A Handbook. His website is at Taulli.com.

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