CHARLOTTE - Many banks around the country pay lip service to the notion of competing with Wall Street to win back customers and markets. But few have put their money on the table to make it happen like First Union Corp.

In January 1994, First Union announced the formation of a new Capital Markets Group to offer Wall Street-type services to its middle-market customer base. Most of the infrastructure for the new unit was already in place, as First Union simply combined its corporate banking and funds management divisions.

But First Union also went beyond this initial restructuring to staff the group with highly paid Wall Street professionals, more than 65 of them.

First Union's section 20 subsidiary, which just got a new president last month, is part of the Capital Markets Group run by co-managing directors Louis A. "Jerry" Schmitt Jr. and Dan Mathis.

Time will tell whether First Union's ambitious effort performs as advertised. But it seems to be on track, based on evidence from the first year. Mr. Schmitt, in a recent interview, says the capital groups market met its initial targets and has a good pipeline of business for this year, despite the recent derivatives scare.

Mr. Schmitt, 54, is an executive vice president with First Union who joined the company in 1971. He was manager of international operations until 1974, when he was named manager of foreign exchange and Eurodollar activities.

Since 1980, he has been responsible for asset and liability management, which includes the company's national funding and foreign exchange activities.

Q.: First Union had previously predicted the capital markets group would make a pretax contribution to earnings of $150 million in 1994. Did you hit that?

SCHMITT: We did, by $2 million.

Q.: Do you still think you can get to $500 million by 1998?

SCHMITT: I think so. What's truly gratifying and amazing is our customers see the need for what we've done. When we hired people and started businesses in 1994, we had a pretty good indication we could sell to our customer base. But the customers have been more strongly interested in what we could show them than we imagined.

Q.: What have been your most successful products?

SCHMITT: The first two new businesses that came on stream were private placements and loan syndications. They were the two that we had happen prior to the end of 1993. In loan syndications, the person that led it, Alice Lehman, was already with our bank. So that's kind of like a running start. Both have nice backlogs of business to do right now.

And it's interesting where that business came from. The private placement business came out of our geographic franchise, which is primarily the southern states and D.C. Very bread-and-butter First Union customers. The smallest deal was $13 million, Ploof Truck Lines Inc., and we did as much as $100 million in convertible preferred stock for Merry Land and Investment Co. of Augusta, Ga.

Most of our syndicated loan business came out of the specialized industries and U.S. banking franchise, which is more national in scope and generally a larger company.

Now the businesses that started later in the year - that take time to build a pipeline - were the commercial mortgage securitization and asset securitization in general. They're getting lots of things to look at and deals to do, but they're taking time to do it.

M&A is another one that came in after the middle of the year. We had just hired the guy to run it, Raymond C. Groth, formerly with CS First Boston.

But every single business we've got going on has better prospects for 1995 than it did for 1994.

For the commercial mortgage securitization, we've booked $100 million in commercial mortgages that are in the pipeline to be sold. When we reach a certain critical mass, they'll be securitized. So we expect to do our first deal this quarter.

Q.: You've hired 65 new people in all, most from Wall Street or other large banks. How much did that cost First Union?

SCHMITT: We incurred a good deal of expense. We probably spent $12 million in 1994 on the personnel side that we hadn't contemplated. In other words, we probably spent $12 million more than we budgeted when we started the year.

What happened was we didn't know at the beginning we were going to have a commercial real estate securitization group. We had to add staff to risk management. In other words, we went down the road and saw the things we needed and went out and got them.

The way we got Capital Markets started was we took corporate banking and funds management and put them together. They had their own budgets when they came into this year.

Q.: Has the influx of highly paid Wall Street types affected the morale of your line bankers?

SCHMITT: Not that I know of. We have an organization that's always been very incentive driven. The way Capital Markets is structured, the salaries aren't that high. There's the possibility you can do well and have a nice incentive on top of that.

What we hope is that the relationship manager on the ground now has greater opportunity personally because they now have a bunch of sophisticated financial products and services they can deliver to their customers that will make them longtime, satisfied customers.

Q.: How do the relationship managers in the branch system interact with Capital Markets?

SCHMITT: We set up what we call a Capital Markets Advisory Group that is available all the time to work with the relationship managers. These advisory groups, which are based in Charlotte, are assigned to a state so they know the relationship managers on a first-name basis and they travel weekly to the state. They become part of the arsenal of things a relationship manager uses to win business. They become part of the deal.

Q.: One of your most visible products, of course, is derivatives. Have the Orange County and Bankers Trust controversies hurt that business?

SCHMITT: The effort is going well. We did 650 customer transactions last year. Any negative press about a product will cause some of the customers not to be interested in it, so that's out there. The good thing about some of the off-balance-sheet things is they are so good at doing things customers need that they still get done.

The Orange County thing, to be specific, was about securities that were structured a certain way. We don't structure any securities. We don't really sell any of those kinds of products.

The Orange County thing, as we now know, was really about leverage and interest rate bets.

If off-balance-sheet products are used to hedge risk, I think they make a lot of sense. That's the arena we're trying to operate in with our customers.

Let's say a customer comes in and says, look, I'm worried about interest rates going up in 1995. We sell him a cap so that if the prime goes over 10%, we'll pay him that difference. He has to pay us a fee, but we pay the difference. That's hedging the customer against rates going up and limits the amount of damage that can happen to his bottom line.

We have Capital Markets here to serve our customers. We can't serve our customers unless we can do it through our banking franchise and through our relationship managers. We can't do it if there's a lot of tension between the people here and the people there, and we can't do it if we're doing bad things for our customers.

We're not creating a product that we're trying to sell to corporate treasurers as a speculative investment.

Q.: You've applied for section 20 powers. How's that going?

SCHMITT: It's going O.K. The Fed is supposed to be here early in the second quarter, and if everything goes well we'll have it in the second quarter - for corporate debt, not equity.

Q.: Any chance the Fed might say no?

SCHMITT: Well, they come in and do an infrastructure review and they check a lot of things. That's part of what we've been working on so hard for the last six months. We have some people working with us who've been through it before. For us, it means a lot of policies, procedures, technology changes, that sort of thing.

Q.: How will section 20 powers enhance your current operation?

SCHMITT: What happens then is, we have another way for our customers to get the capital structure they need. If you're a customer and, for whatever reason, the standard bank loan isn't the right thing for you anymore, you can get loans syndicated, you can get assets securitized, you can get debt privately placed, and now you can get high-yield debt origination.

Section 20 powers are important, but we honestly don't think we're going to have a world of customers that need such issues in debt form. With our customer base of middle-market companies, the private market may be just as effective and efficient for them as the public markets.

Now, when we go and get the equity powers, which generally follow about a year or so later, we have a suspicion there may be more interest among our customers, for an IPO of $10 million or $20 million. Just the way our customers grow, they may need that equity before they need a publicly traded debt issue.

Q.: When your capital markets people travel around your eight states, who do you find offers the most competition?

SCHMITT: Unfortunately, I'm not going to be able to answer that question too well because it's so scattered. In certain products, it's certain people and in other products it's not.

You would think our main competition ought to be NationsBank, and that's probably relatively true. But in some cases, there doesn't seem to be a lot of competition. In other cases, we go before a committee of a board and make a presentation, and Merrill Lynch makes a presentation, and somebody else makes a presentation. It can be very diverse.

Q.: Where do you see the most competition?

SCHMITT: The syndicated loan activity has a lot of competition. With private placements, there's a modest amount. With M&A, those things have been almost exclusive once they've come up, where you have a longtime customer of the bank who wants to do something.

Q.: When you look back on 1994, can you point to one or two deals you thought were the most important?

SCHMITT: I think the most significant I'm familiar with is the Merry Land and Investment Co. deal, which was convertible preferred stock. The company was told by many people it couldn't be done. They didn't think there would be investor interest. That has done a lot for our reputation.

I do think we have a great chance to have what (CEO and chairman) Ed Crutchfield says he'd like to have - two-thirds bank and one-third securities firm - so that you can marry and meld the advantages of both for your customers.

If you asked, could Barnett do this? Could Wachovia? Or could Mellon? I can't see that they could, because I don't think they could attract the people. Their franchise of corporate customers is not large enough.

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