Partners and rivals

David Rubenstein of The Carlyle Group and Blackstone's Stephen Schwarzman are pioneers of the multi-strategy private equity investment model. When the two met in New York to compare notes on how to run a global alternative investment business, David Snow looked over their shoulders.

Of the many things that The Blackstone Group and The Carlyle Group have in common, the most superficial is, of course, their names. Both firms decided early on to shun the Wall Street convention of lining up founder surnames on the proverbial shingle. Instead, both firms adopted names that they hoped would be conducive to building a strong brand – that holy grail of marketing whereby a company creates, in the minds of its customers, an association between the company's products and a positive perception or emotion.

A strong brand is most valuable to companies intent on rolling out new products and finding new customers. Which brings us to a more substantive similarity between Blackstone and Carlyle: a fierce ambition to grow.

Both firms have no shortage of products on which to slap their respective brand names. Blackstone, having raised over $25 billion for alternative asset investing, has a Blackstone mezzanine debt fund, four Blackstone real estate funds, a Blackstone collateralised loan obligation fund, a Blackstone fund of hedge funds, and five private equity funds, including the largest third-party private equity fund ever raised – the $6.45bn Blackstone Capital Partners IV.

Washington, DC, powerhouse Carlyle, which closed its first fund in 1990, is smaller in terms of total assets, with $16.4bn currently under management, but it trumps Blackstone in the diversity department. Carlyle now manages 23 buyout, energy, venture, real estate, high-yield debt and turnaround funds targeting Asia, North America and Europe. More strategies are on their way: the firm recently announced plans for a mezzanine fund, while ambitions in the hedge funds area were placed on hold. The most recent Carlyle buyout fund, Carlyle Partners III, raised $3.9bn in 2000.

Of the two firms, Carlyle is also the more “global,” in the sense that it has placed greater emphasis on looking for investments outside of the United States. Besides its Washington headquarters, Carlyle maintains offices in

To be sitting in a room with the chairman of GE talking about what we did, and on such a large scale, is actually astonishing

Bangalore, Barcelona, Frankfurt, Hong Kong, London, Luxembourg, Milan, Munich, Paris, Seoul, Singapore and Tokyo, as well as six additional US locations.

Blackstone had, until recently, two offices: New York and London. The firm just announced the opening of an office in Hamburg.

Each firm employs roughly 500 people – not large by financial-conglomerate standards, but enormous in the alternative investment world.

Finally, both firms are led, appropriately, by men who have a zeal for organisation as much as they do for deals. They both understand that great institutions do not simply emerge – they must be painstakingly built. Carlyle co-founder David Rubenstein, the son of a Baltimore postman, is frequently cited as the mastermind behind the Carlyle network. His devotion to the firm is total. Other private equity professionals may pursue golf as a passion, he has told friends, but his hobby is Carlyle.

Blackstone co-founder, president and CEO Steve Schwarzman rose from a similarly modest background – his father owned a dry goods store in Philadelphia. Like Rubenstein, Schwarzman has a talent for doing many different things at once, and he has scrupulously overseen each new Blackstone expansion with what friend Jimmy Lee, vice chairman of JP Morgan Chase, has described as one of the best gut instincts in the business world.

A brief chat
Private Equity International wanted to see what would happen when Rubenstein and Schwarzman were placed in a room together. The two agreed to meet at Carlyle's New York office on a sunny Friday in September. Rubenstein was busy preparing for his firm's annual shareholder meeting in Washington, while Schwarzman arrived at the meeting still consumed with details of his firm's $4.2bn acquisition, in partnership with Apollo Management and Goldman Sachs, of the water treatment and process chemical provider Ondeco Nalco from French-Belgian energy conglomerate Suez.

The tenor of the discussion (“Clash of the Titans” was one suggested headline for this feature) is what one might expect between the heads of two firms that prowl the same deal and investor markets – amicable and respectful, but with a competitive undertone.

One of the major hallmarks of the current private equity industry is that large private equity firms now invest together as often as bid against each other. Immediately upon greeting Schwarzman, Rubenstein begins quizzing him on the details of the Suez transaction. How did Goldman Sachs and Apollo get into the deal after

Blackstone had won the auction? Blackstone had invited the two firms to join in as co-investors, Schwarzman explains. His firm had not wanted to provide all the equity for the $4.2bn price tag. “Diversification is a good thing,” the famously risk-conscious Schwarzman says. “You can have a huge winner” on a concentrated investment, “but if it goes wrong on you, you really destroy the ongoing nature of your business. It's imprudent for us to put out too much capital in one transaction, given the size of our fund.”

Schwarzman adds that while private equity firms make fast friends on large deals, most continue to compete fiercely for limited partner capital, adding with amusement that he frequently runs into Rubenstein – a compulsive business traveler – wherever investors were to be found. “We meet in random locations when we're marketing funds,” Schwarzman says. “David is always there, no matter where ‘there’ is. He's indefatigable.”

As such, Schwarzman and Rubenstein see each other both as partners and friendly rivals. “I don't see the animus between large private equity firms that you might see in the industrial world,” Rubenstein said. “Everybody realises that we're going to live to play another day and it's best to stay on good terms with people. The way this industry has evolved, you can be sitting in a conference room with somebody from Blackstone and talking about working on a deal together, and then on another part of the same floor, somebody can be talking about how to beat Blackstone in another deal.”

Industrial complexes
As the private equity market has increased in size, the stature of its top firms has risen within the mainstream corporate world. Not only are private equity firms working together with greater frequency, but some of the world's biggest companies are pondering ways to cooperate better with the private equity industry.

Schwarzman notes that he and Rubenstein had seen each other just two nights earlier at a dinner for select buyout professionals organised by General Electric chairman and CEO, Jeff Immelt. “We all had a meeting at GE with the CEO, the chief financial officer and the head of acquisitions, along with the people from their credit corporation, to see areas of commonality where we could do business with GE,” Schwarzman recounts, adding that the dinner, to him, was strong evidence of the arrival of private equity as a major force in the business world. “The underlying perception was that we aren't just financial institutions, but relatively giant industrial complexes. The evolution of the private equity business over the past 20 years has been enormous. To be sitting in a room with the chairman of General Electric Company talking about what we did, and on such a large scale, is actually sort of astonishing.”

Rubenstein says that, during his work in Jimmy Carter's White House, he got to know Reginald Jones, then the head of GE. He also is an acquaintance of Jack Welsh's, who ran the company until last year. “I doubt that either Jack Welsh or Reg Jones ever called the heads of private equity firms together, because they were too small a potential source of revenue for GE,” Rubenstein says. “Now, I think Jeff Immelt's advisors are saying, ‘Hey, we're doing an enormous amount of business with private equity firms and we need to do more because they can be very profitable for us, and not just in financing acquisitions but in helping the companies that they own.’”

Rubenstein noted that the revenues of all portfolio companies owned by The Carlyle Group last year amounted to roughly $25bn. That makes Carlyle, on a revenue basis, a larger company than DuPont. Blackstone and Carlyle together control companies with combined revenues of roughly $74bn, greater than most of the 30 companies that make up the Dow Jones Industrial Average, including AT&T, Boeing and Proctor & Gamble. “You cannot escape the concept that we are custodians and fiduciaries of extremely large operating companies,” Schwarzman added.

It is easy to marvel at the scale to which private equity firms like Blackstone and Carlyle have grown. But Schwarzman and Rubenstein must now deal with the logistics of operating such large fund management firms. Tellingly, each quizzed the other on a rather mundane but complex aspect of running a fund management firm: the annual investor meeting. Carlyle has grown to such a size that its annual meeting, held most recently at the Ritz-Carlton in Washington, has become an enormously expensive and time-consuming two-day series of presentations and events with more than 700 investors, partners and friends of the firm in attendance.

One investor who attended the recent Carlyle meeting described it as “just like college, where you rush from class to class, looking at your schedule. It goes from early in the morning until late at night and you don't have much time to speak.”

Rubenstein explains that the conference is structured just how he likes things: efficiently. “It's very tight schedule, needless to say,” he says. “There are no outside activities -no golf or anything like that. It's intense, and clearly you can't attend every presentation. You'd have to be really dedicated to do that.” Though, needless to say, Rubenstein himself attends every meeting.

Schwarzman expresses surprise that Carlyle holds the annual meetings for all of its funds in the same time and place. Blackstone organises separate meetings for its various partnerships, although Schwarzman admits that even these discrete events have become rather large.

The annual meetings are yet another opportunity to impart to investors the desired perception for the respective Carlyle and Blackstone brands. On the subject of branding in private equity, few have given more thought than Rubenstein. “Historically, branding in the financial services has not been as successful as it has in non-financial services,” he says. “Private equity is embryonic in establishing brands. But for us, it means roughly the same thing that it would mean for other organisations as a way of building a business. You can get new funds started more readily; you can recruit people more readily; and you can probably get better terms on your funds than others do.”

Rubenstein believes that brands work especially well where investors may not have the resources or desire “to find the next great new fund manager.” Many investors, he says, like the comfort of investing with a firm with which they have already had success. Carlyle's sprawling assortment of funds also offers a diversity of strategies to investors through a single relationship. “I do think there is a trend among some investors to reduce the number of funds in which they invest and to have larger relationships with a more limited number of fund organisations,” Rubenstein says.

Schwarzman is confident and direct in his assessment of the Blackstone brand. Should investors expect consistent results across disparate Blackstone-branded funds?

Absolutely, he said. “I think investors should expect to have an extremely good result in any of our funds. We have a centralised decision-making process, so there is a consistency of approach as well as a consistency in the style of preparation for decisions. We only do things where we think we can be really successful.”

The Blackstone Group
1985: Blackstone founded by Peter Peterson and Stephen Schwarzman as an M&A advisory firm.

1987: Blackstone closes its first private equity fund on $800m.

1993: Second private equity fund raises $1.3bn.

1997: Blackstone closes its third private equity fund on $4bn.

1998: AIG acquires a 7 per cent interest and invests $1.35bn in Blackstone.

1999: Blackstone closes first mezzanine fund on $1.14bn.

2000: Blackstone opens London office and closes $2bn communications fund.

2002: Blackstone closes fourth buyout fund on $6.45bn, Hamilton (Tony) James joins the firm as vice chairman.

2003: Blackstone opens Hamburg office.

To date: Blackstone has $25bn in assets under management, including real estate, corporate debt and a hedge fund of funds.

Command central
Rubenstein says the most important aspect of a private equity brand was that it be substantive – in other words, that one strategy be held to the same standards as all the others. “We avoid the franchise model, which is to give money to people and say, ‘Go do the best you can. If it works out, fine. If it doesn't, well, not our fault,’” he says. “Both of our firms have centralised investment committees, so whatever experience, mistakes or vision you might have centrally is imparted to every single fund.”

The area in which Schwarzman's and Rubenstein's respective management styles differ most starkly is revealed in a discussion of a fundamental difference between their two firms: international operations.

By his own account, the chief factor preventing Blackstone from opening many non-US offices to date has been Schwarzman's insistence that every partner personally interact with the senior decision makers in New York. Schwarzman's need to look people in the eye, for that matter, has kept Blackstone from opening many non-New York offices. “I didn't think it was a good idea to have operations outside of New York five years ago,” he said. “I didn't like the idea of not being able to see people who were working at the firm and not see their expressions when they were talking about what they were doing.”

Blackstone's recent decision to open an office in Hamburg? Schwarzman claims it had as much to do with advancements in video conferencing technology as it did with developments in the German market. “I know that sounds silly,” he says, “but it was extremely important to us. The technology is so good now that you can tighten up on somebody to where he looks just like [US television news anchor] Tom Brokaw.”

Schwarzman recalls a recent European transaction led by Blackstone where video conferencing technology played a decisive role. “We didn't have a chance to meet the CEO personally,” he says. “We just put him up on the video conferencing screen and talked to him for about three hours until we got comfortable with him.” Did he “zoom in” on the CEO? “Oh yes. It's extremely important.”

Schwarzman also says that he has an aversion to doing deals in Asia, in part because he doesn't like the “night-day cycle” of the work required. “You have people making decisions who aren't sleeping very much,” he said.

Rubenstein, on the other hand, is less concerned with the sleep cycles of Carlyle professionals. He himself gets very little rest as he jets from time zone to time zone managing the firm's affairs. He is also content to digest information without seeing the whites of the conveyors' eyes.

Rubenstein, however, is an intense listener. People who interact with him note that he often formulates a succinct answer before the person with whom he is speaking has halfway finished delivering the question.

As Schwarzman discusses his many reservations about overseas investing – currency risk, cultural differences, time zone difficulties, insufficient legal frameworks – Rubenstein stares intently at the top of the conference table and nods to each of Schwarzman's arguments. When the head of Blackstone is finished speaking, Rubenstein adjusts his posture and says: “Three points…”

First, he says, the history of investing outside one's own country is “replete with failures. Second, if you are going to overcome that inherent problem, you need to be on the ground with local people who are well plugged in to the deal flow network and the local financing markets.”

Rubenstein notes that Carlyle's scale of global private investing has never before been attempted, and that therefore “the jury is still out on whether American groups investing in Europe, Asia, Japan, Latin America, Russia and India are going to make large sums of money.” The Carlyle Group, he adds, believes when the proverbial verdict on cross-border private investing comes in, it will vindicate his firm's model. “We think that there is a lot of money that will be made,” he says.

Rubenstein's final point further highlights the difference between him and Schwarzman on the matter. Rubenstein says that he, too, has discovered a tool that makes it far easier to run a global firm, albeit one that does not communicate facial expressions very effectively: e-mail. “If you are e-mail illiterate, as I was until not too long ago, it would be difficult to see how you can sit at your desk and talk to people in Hong Kong in a way that doesn't take a lot of time and waste a lot of money.”

The Carlyle Group
1987: Carlyle founded by William Conway, Daniel D'Aniello and David Rubenstein.

1990: Carlyle closes its first fund, a $100m US buyout fund.

1996: Carlyle closes its second fund US buyout fund on $1.3bn and has $2bn under management.

1997: Carlyle raises $210m for its debut US venture fund.

1998: Carlyle closes its first European buyout fund on €1bn.

1999: Carlyle opens a Japan office and closes Asian buyout fund on $750m.

2000: Carlyle closes third US buyout fund on $3.9bn and first Asian venture fund on $159m.

2001: CalPERS takes a 5.5 per cent stake in Carlyle for $175m. Lou Gerstner joins the firm as chairman.

2002: Carlyle closes $590m turnaround fund through Carlyle Management Group Partners.

To date: Carlyle has $16.4bn under management and 500 staff members worldwide.

The next generation
When the much-discussed, seldom-resolved issue of succession comes up, both men dutifully address it, and both seem wistful at contemplating themselves without their firms and their firms without them. “I've noticed increasingly that my colleagues always raise this issue, so I must be getting older,” Rubenstein says wryly. “In order to keep younger partners happy and fully engaged, you have to give them a bigger piece of the pie and, at some point, more leadership responsibility. You have to plan for that. Our industry has not yet had a complete second generation that has worked, because the industry is so new. In our case, I think we still have some years to go before that issue has to be faced.”

“Oh geez,” says Schwarzman, when asked about the value of Blackstone without him. “If something were to happen to me, while it certainly would be terrible for me, the firm would do very well.” He notes the recent addition of Hamilton James, a former chairman of Global Investment Banking and Private Equity at Credit Suisse First Boston, as Blackstone's vice-chairman. This, he says, is further evidence of the firm's diversity of managerial talent. “I have no concerns whatsoever that we can make it to the next generation. People who have been making decisions together for 15 years will do fine if one person is removed from the mix. Any good leader will have imparted a type of thinking and discipline which does not go away. The importance of founders decreases significantly as the firm institutionalises.”

Schwarzman may be half right. Today, few private equity firms are more institutionalised than Blackstone and Carlyle. But it would be equally hard to find two founders of greater importance to their respective organisations.