The Exchanges

Q And you did something through that process that not many people have done. So why don't you take me through the story?

A I actually graduated Duke in 1991, and I didn't know what I wanted to do. My father was on Wall Street, and so was my brother, so I worked at Kidder Peabody. Doesn't exist anymore, but it was fun. I was lucky enough to go back to Harvard Business School, and on the way back out, because I just still didn't know what I wanted to do, I went back into banking at DLJ. And after a very short time there, I realized I was doing the same thing that I was doing back at Kidder, except I was older and more tired. And after leaving there, I decided to write a book with a friend of mine about that time. And it's called Monkey Business, Swinging Through the Wall Street Jungle.

AI assessment note: “I decided to write a book with a friend of mine about that time.”

Q So what were some of your, the earliest mistakes that you remember?

A The earliest mistakes I remember, I remember believing that when Home Depot and Lowe's were getting bigger and bigger, that a little place called Heckinger's would live, and I believed that there was something in there that they could still be a third player in a big market, and the answer was that was not right. Also, we got involved in early on, and when you're dealing with large companies, this one happened to be Harris Jazz down in New Orleans, you know, sometimes The guy with more money can wait you out. So you learn that, I feel, that when you get involved in investments, what you really want to understand is you want to either have control, or you, you have to know that you were just a rider on the investment and hope that the decision makers have, are like-minded with you.

AI assessment note: “The earliest mistakes I remember, I remember believing that when Home Depot and Lowe's”

Q Yeah. And how different do the returns look from the leader in the control situations and someone who collects a portfolio where they're partnering up with them?

A I think any one year can come out differently, but I think over time you're going to get high single, low double digit returns out of the control leader, and you're going to get 500 basis points worse out of the other guys over time, because what they'll get caught as a small guy not getting all the information, not knowing what the real decisions are, and you might be riding a nice wave, and then suddenly someone pokes a huge hole in your raft, and you're like, you're out of control. That happens continuously. If you watch funds, including funds that I've managed, you can't, it happens. You can't know everything, and you certainly can't know the same Thing that the large guy knows about how he structured the deal, what his intention is, his conversations with the company, his knowledge of the way they want to turn the business. It goes on and on in that way.

AI assessment note: “you're going to get 500 basis points worse out of the other guys over time”

Q And so with your family capital, let's just talk about that piece. How do you think about diversification?

A I want probably 30% liquid, because I always believe there is something around the corner. And I want to be the guy who buys and doesn't have to sell because I could get myself into the same problem as anyone else. And I know this is not the greatest thing to say, but being in the hedge fund business for all these years, it's interesting how few hedge funds I give money to. And it's not because I don't want to. It's that the market's gotten more efficient. There's a lot of other ways to invest, to make money without having to give your money to someone else. And I'm not begrudge anyone to buy Apple or Google or Facebook. I find that Not valuable for the fees. Then there are valuable things, things that I say, I can't do that. I'm invested in a firm, for instance, a guy who buys secondary interests of venture capital companies, like a treasurer wants to get rid of some of his shares. I can't do that. So I invest in them, and they do a great job in that niche. I let, you know, I'm invested in a real estate guy who has Mez loans into very specific types of real estate. I can't find that as much as I'd like. And by the way, I do find it, and then I call them in, and hey, they help me. So I think if you have to, you, you should invest in things that you can't do, and you have to be careful on how much liquidity you take, because you'll have a problem that's unforeseen to you, too. S…

AI assessment note: “I want probably 30% liquid, because I always believe there is something around the corner.”

Q if your peers who started in the business with you Depending on the degrees of success, we're seeing, let's just call it a demographic shift. Hedge fund business is harder. Some of it's probably in private equity, but hedge fund business is harder. People have made their money. What is it that's kept you going all the way through with the same energy you had, you know, 15 years ago?

A Markets constantly change, and there always are inefficient parts. Always. Not opaque. That doesn't mean opaque, and you can, and marked. I'm talking about inefficient, where you can make money, and I like those. I like finding them. They're not easy to find, and a lot of big players have gone into a lot of little veins and sopped them all up, but there's still more. There are always more. I mean, I'll give you an example. Venture capital, ok? Venture capital's interesting. Venture guys have lots of money, and they put in Series A at two million, or friends and family at two million, You know, a series A at five million valuation, another series B at 11, and then they still need more money, but they're not growing. And what we're finding now out in the venture capital world is they will take a million dollars, let's call it 2,000,002 million dollars, and give you one and a half times your money, three million, back in two years, paying you monthly off of revenue stream. Now, for me, that's almost a 30% IRR. It's a two to three over two years. And monthly to them, it's cheap financing because they look at it and say, you're going to be basically come in at a one and a half times your money. That's nothing. If you bought the, if this company grows its revenue, the next financing round will go from eleven million to 50. So they don't want to give away the equity that is not being …

AI assessment note: “Markets constantly change, and there always are inefficient parts... I like finding them.”

Q When was the last time you were pleasantly surprised?

A If you saw me, I'm a, I'm a, my stature is about five, eight, but I was a good basketball player. I was a long time ago, and I was a very good shooter, and my sixteen-year-old son and I play horse, and I do not lose to make him feel good. I beat him up pretty much every time, and the last time we played, he beat me, and he beat me again, and he beat me again, and he was, he was making the shots when the pressure was on, and I was pleasantly surprised that he had it in him to, you know, I now know he's better than I am. That was made me pleasantly surprised.

AI assessment note: “I was pleasantly surprised that he had it in him”

Q So if you're an allocator looking at that space, there's always talk, there's the big guys, there's talk about middle market distressed, lower middle market distressed. Somewhere there's this trade-off between size, too big, limiting the opportunity set, but then as you say, there are huge structural advantages in negotiating whatever it is in distress. How do you think about where that inflection point hits?

A This might be unfortunate for some of the listeners to listen to, and as much as I was, uh, and am a middle market distressed guy, the large guys have a big advantage right now. They really get the look at a better deals, and they get to structure them themselves. You have to go pretty far down the curve, maybe sub-twenty, sub-fifteen million dollar kind of investments where they don't care anymore, and where they don't care, the buyer Who can get into these smaller deals can structure the deal. Remember, what a big guy does well is he looks at a need and he structures around it. He doesn't look at a deal. He looks at a need. And what a small guy does is the same. The problem was everywhere in between, you're just a rider on the other person's structure where you will never know it as well as they do ever. You might think you do, but you don't. So you can play middle market, but really you're on a raft in their stream. You are not the guy who creates the stream. So I look at the big guys. They're institutionalized. They're very bright. As a large money allocator, I go there, or I go way downstream to guys who make their little, little, little, little rivers and downstream, meaning like, uh, guys doing under twenty million dollar need investments.

AI assessment note: “You have to go pretty far down the curve, maybe sub-twenty, sub-fifteen million dollar”

Q So do all these firms then ultimately have similar looking portfolios?

A Well, they certainly have a portion that are going to be similar because there's only so many large companies that they can put the money to work, feel like they have some sense of liquidity. And then, of course, there are only so many companies that fall at any one time, and so they all race in to work on them, which is exactly what they're paid to do. So the answer is they're going to be similar. And the question is, and I know I don't have the facts on this, but I know like Goldman and other guys are trying to figure out how to create ETFs that sort of match those ETFs. I wonder, you know, I don't have an answer. I wonder if they're going to be pretty good alternatives.

AI assessment note: “they certainly have a portion that are going to be similar because”

Q Yeah, I remember that one quite well. What's your biggest investment pet peeve?

A I'm a fundamental guy, which puts me in an unfortunate minority at this stage in the investment cycle. I can't stand adjusted EBITDA. It drives me out of my mind to try to look, and I don't mind some of it is real. You know, one-time costs are one-time costs, but recurring one-time costs are not one time, and pro forma for synergies and costs, with all the rules that are going around, How in the hell do they allow some of this adjusted EBITDA to hit the pages of these documents that I look at? And it drives me nuts because it's so misleading, and it bothers me. I wish they would at least put it somewhere deeper in the document where people had to actually want to see it versus making it up front as if it's real. It's not real. It's make-believe totally, and I think it fools a lot of investors. As I said in my book, if you want to read a prospectus properly, read it like a Chinese menu. Read it from the back Or read it like, you know, the Bible. Read it backwards.

AI assessment note: “I can't stand adjusted EBITDA.”

Q How do you think the distressed world, whether it's hedge fund, private equity, hybrid, plays out over time?

A Well, first of all, that world is falling on top of each other. I mean, Is Apollo and KKR and Oak Tree, what's the difference? And the answer is, there's not a lot of a difference. They're all very bright. They all are very good at what they do, and they will get into situations where they're at odds, or they're working together. So what do I really think? It's an institutional market. It is actually, it's become a normal market. The problem is, if everybody has money, and they're looking for distressed, in that part of the market, it'll never show up. Because when, when something goes to a 11, 12, 15% yield, if that becomes the thing that everyone buys, then it'll never get there. So you either have to have a monster shock to the system, which I'm not sure anyone foresees, or you're gonna find that distressed returns are muted because of the amount of money, until money starts coming out. Again, I think where the money will be made is if you gotta go downstream to smaller deals. These big firms, They'll say they'll do a smaller deal, but they'll only do it on an add-on to a larger deal. It's not worth their while, not because they don't want to, to deal with a deal that's 8,000,014 million. It just doesn't move their needle when they're fifteen billion. So they do, on average, my guess is they've got to put anywhere from a hundred to five hundred million to work on every inves…

AI assessment note: “you're gonna find that distressed returns are muted because of the amount of money”

Q And so in a typical portfolio, I would imagine there's a mix of control situations and non-control situations in the sense that the control situations take a lot of time. Everyone has a little bit capacity constrained. After you learn that, did you start spending your time differently on the non-control situations?

A Yes. I spent my time doing much more work getting in, and then I spent much more time monitoring the controller, because that's who made the decision. It's not anyone else. Everyone else can talk and yap all they want. The controller controls. So get to know them. And again, this goes back to the discussion of the larger funds. It used to be in the old days, I could call the controllers, because we all were working together, and no one could Bump anyone else out. We weren't big in 96, 97, 98. Now they'll entertain me because they know me from the past as a person, but they don't need to speak to me or give me what they are thinking in their head. And so it makes it harder for a small investor to want to go talk to the large ones because they don't have time to talk to you there. They get no value for it. So I don't, I understand why they don't want to do it. And so it changes the dynamics of the game.

AI assessment note: “Yes. I spent my time doing much more work getting in”

Q So if we take a step away from that somewhat sober situation, Market environment. Why don't you go through how you think about investing capital for your family and clients?

A Right. I mean, what we've been fortunate enough to have a family office for about 10 years, and what we always found, again, is what I mentioned before, is if we could buy from sellers in need, they're small enough where it's a non-brokered market, under fifteen million and under ten million dollar need, they have a problem somewhere else, They sell something good to fund something that they have the issue with, or they have a problem somewhere, and they want to get rid of that itself. They have family offices that have investor turnover, CIO turnover. Now, they want to jettison a lot of the things that they were once invested in. What we've been fortunate enough to get to know a lot of our clients, and we've said, if you have a need, we can fill that need. Small companies they get involved in that need money. They might need a receivable financing. They might need, they might need just to borrow money. They might need a convertible bond. They might need equity. What we found is as long as we're structuring it, and we're coming up with a solution, we can help control our outcome. It's the best you can do. I'm still going to make mistakes, but we get good returns because we feel confident in going in. Once you get into a brokered situation, it's not that it's bad, but if you don't get the last look, Effectively in my world, I think of you get no look. It's like the Ricky Bobby q…

AI assessment note: “if we could buy from sellers in need, they're small enough where it's a non-brokered market”

Q How do you make investment decisions with the team?

A You know, you got to give everybody, you got to empower everyone. You have to allow people to believe in it, want to invest in it, prove it to everybody else, and you have to allow, including, inclusive of myself, people to say, I don't think you're right, and have to listen. You can't cram everything down people's throats. I think a lot of people in, in hedge funds and in funds in general, they're two decision makers and everyone else just tries to please them. That might work, Because those two people may make all the right decisions. So it doesn't seem to say that doesn't work. But you have to empower people to say to the boss, I don't agree with you. And these are the reasons. And you know what, it could be the most junior person who says that reverting all the way back to investment banking. That's why I didn't like it. I felt like I knew stuff. And maybe I was wrong. But you know, it had to do with a deal actually in retail. My parents are in retail. And I knew it very well. And I wanted to explain that. And they didn't want to hear from me because I was young. Big mistake. Because in that one, I knew. Sometimes you think you know, and you don't, but sometimes you do know, and everyone should listen. So, if I'm in a negotiation internally about an investment, and the junior guy goes, I've done more of the work. I've spent the time. I think you're wrong. I have to say, I b…

AI assessment note: “you have to empower people to say to the boss, I don't agree with you”

Q And so if you invest in one of these large funds, should your expectation be that the vast majority of the investments are these types of primary structure and control situations?

A You know, I think you'll cut a better outcome. I don't know what they're telling people, but I want them to control their outcomes. If they control them, and they're wrong, they can own up to it, but if they control them and they're right, they've done it for their right fundamental work. If they're just getting in and out as they, thinking they're traitors, but they've got five, six billion dollars, then they're more or less now, they're morphing into what I would call macro fund. Then you may as well look at the macro guys, because you If you want to be liquid and big, it seems like the macro world is the only place you really can do it. I don't think you can do it in the distressed world.

AI assessment note: “I don't know what they're telling people, but I want them to control their outcomes.”

Q And how do you figure out when you're filtering through what comes in, which are coming to you from some type of, call it distressed seller?

A I think what you have to do, it's a simple issue, which I think everybody knows, it's the power of no. You have to be able to say, if someone's trying to hustle you, then you just say, I don't have time for that, no. Or if it's, send me your best term sheet, I don't need to send you a term sheet so you can shop it. You have to very quickly understand if there's a need, if there's a time frame on it, and how you can help. If you're just looking to rip them off, that's not good either, because your relationship sours, and even if you give them money, you're at odds. You want to work with them. You want them to be successful. You just have to have them upfront understand, hey, you don't have assets. I don't lend to no assets. You have revenue, so I'll lend to you, but I want a piece of your revenue. Merchant Cash Advance is an example. We want a piece of your revenue monthly, and I want it first, and they might say, that's too expensive for me, and I say, that's fine. Then find someone else, and that's the best way to To find these. But when you come and make a decision to do something, you got to do it. You can't just be a looky-loo and just look and look and then not do anything. You have got to get in there and be honest that you will put that money to work, and they have to feel that, and then you have to know they're going to do the deal with you. Once we smell it being shopp…

AI assessment note: “You have to very quickly understand if there's a need, if there's a time frame”

Q The other dynamic that we've seen of late is shenanigans in the CDS market. What are you seeing with these companies and what's happening and how do you think that plays out?

A Yeah, I mean, well, for CDS, as I think you know, it's on many less companies now, because it's a derivative game, and you can play games in that derivative world to make it so that the company really didn't default, or it doesn't go by the letter of the default. Remember, these aren't securities. These are all derivatives, many times derivatives of derivatives of securities. I think it's a great tool for the banks to make money, because they trade them, and I think a lot of very smart people are using them As they are designed, meaning they're not using them as their design, they're using them by what the design says. If the design says you're allowed to do it one way, then just because it's unfair, that's, you know, what's, what's unfair? If a guy wanted to take a half court shot every single time and make it, it's not like, oh, you're not allowed to shoot from behind half court. Go ahead. Until they decide to change the rule. So I know they're going through the machinations of changing that rule because large Smart players have learned how some people would say to manipulate it. I would say, I don't think it's manipulation. They're playing by the rule of the letter of the way it's written. Hey, you know, that's too bad.

AI assessment note: “they're going through the machinations of changing that rule because large Smart players have learned”