Back in 1969, I arrived for my first interview on Wall Street an hour early, because I didn’t want to be late. I sat in a Chock Full o’Nuts coffee shop nursing a cup of coffee, the one cup I could afford, checking my watch every couple of minutes. When 9:00 a.m. arrived, I went into the headquarters of Donaldson Lufkin Jenrette at 140 Broadway, up to the thirty-sixth floor. I took a seat in reception and watched as sophisticated young women with black headbands and fancy shoes and young men in ties and shirtsleeves, only slightly older than me, ran around the office alert and purposeful. The energy of the place was electric.
After half an hour, an assistant ushered me in to see Bill Donaldson, the D in DLJ. It was surprising to see a man so young sitting in a rocking chair, but this was fashionable post-JFK. Our meeting had been arranged by Larry Noble, Bill’s Yale classmate, who was now working in the Yale admissions office. I had met Larry when I had seen him with his young family at a Yale fifteenth reunion and felt compelled to buy a copy of Babar the Elephant for his son. I had no idea who Larry was, but my random act of generosity led to a friendship and now this interview.
“Tell me,” said Bill, “why do you want to work at DLJ?”
“Frankly, I don’t know much about what DLJ does,” I said. “But it seems you’ve got all these amazing young people working here. So I want to do whatever they’re doing.”
Bill smiled and said, “That’s as good a reason as any.”
After we talked a bit, he said, “Why don’t you go around and see some of my partners?” I did, but when I got back to Bill’s office at the end of the day, I told him they seemed uninterested in me. “Listen,” he said laughing, “I’ll give you a call in two or three days.” He came through with an offer of a job. The starting salary was $10,000 a year.
“That is absolutely terrific,” I said. “But there’s only one problem.”
“I need $10,500.”
“I’m sorry,” he said. “What do you mean?”
“I need $10,500 because I heard there’s another person graduating from Yale who’s making $10,000, and I want to be the highest-paid person in my class.”
“I don’t care,” said Bill. “I shouldn’t be paying you anything at all. It’s $10,000!”
“Then I won’t take the job.”
“You won’t take the job?”
“No. I need $10,500. It’s not a big deal to you, but it’s a really big deal to me.”
Donaldson started laughing. “You’ve got to be kidding.”
“No,” I said, “I’m not kidding.”
“Let me think about it.” Two days later he called back. “Okay. $10,500.” And with that I entered the securities business.
At DLJ, I was never trained properly. I would cower in my office hoping no one noticed me, scared I would be found out as ignorant or incompetent. I must have been the biggest buyer of antiperspirant on the East Side of Manhattan. A decade later, at Lehman Brothers, I had to learn from my own mistakes. Learning in that environment was a slow, uncertain undertaking that led to a high rate of burnout and attrition. So today at Blackstone, we have invested in a thorough training program to make sure our recruits knew what to do before we put them to work. We expect them to be active and useful as soon as possible, flawless on the basics of finance and deal making, alert to our culture, not hiding to conceal their ignorance. The cost of an efficient, effective training program is minimal compared to the benefits of having our newest people, our greatest resource, feeling informed, confident, valued, and ready to work.
“I had to force myself not to cry. I said I understood, and we would do better in the future. As I found my way to the parking lot, I vowed to myself, This is never, ever going to happen to me again.”
So we formulated a clear set of expectations, which I laid out in a welcome speech to our new analysts. It boiled down to two words: excellence and integrity. If we delivered excellent performance for our investors and maintained a pristine reputation, we would have the opportunity to grow and pursue ever more interesting and rewarding work. If we invested poorly or compromised our integrity, we would fail.
As Blackstone was expanding, we hired a young banker from the corporate finance division at Drexel Burnham Lambert. He was smart and ambitious and soon after he arrived in 1989, he had a deal for us. Edgcomb, based in Philadelphia, bought raw steel and milled it into products for car, truck, and airplane manufacturers. This young partner had worked on a couple of Edgcomb deals at Drexel, so he knew the company, and its executives knew him. Now it was up for sale, and we got an exclusive first look at buying it.
An exclusive always warrants attention, and the deal looked promising. Edgcomb was making a lot of money. Its customer base was growing, and the company looked as if it could expand. They were asking around $330 million, which, based on our analysis, seemed like a decent price. I was ready to offer. Before I did, though, another of our new partners, David Stockman, came into my office spouting doom. David was a hybrid of Washington, D.C., and Wall Street and had been director of the Office of Management and Budget under President Reagan. He had been with us less than a year, and had a fierce intellect, analyzed deals closely, and expressed his opinions without reservation.
“This Edgcomb thing is a disaster,” he said. “We absolutely cannot do it.”
“The other guy thinks it’s great,” I said.
“It’s not great,” David said. “It’s awful. The company is worthless and poorly managed. All of its profits are coming from the increase in steel prices. They’re one-time profits, and the basic business just has the illusion of profitability. It’s going to end up going bankrupt. If we leverage it the way we’re going to, we’re going to go bust ourselves. It’s a disaster in the making.”
I called Edgcomb’s champion and chief critic into my office to debate the investment, so I could hear them argue it out face-to-face and then make a decision. I sat there and listened to their pitches as if I were King Solomon. I thought the younger man got the better of it. He had worked with Edgcomb for years. He had an insider’s knowledge and could answer all the questions. Stockman was analyzing the deal as an outsider. He had a strong argument but didn’t have the same level of information. We thought we understood steel after our success with Transtar, the transportation business we had bought from USX. And somehow we thought we could now predict the commodity cycle, so I decided to go ahead. We made the offer, gathered money from investors, and closed the deal.
And right on cue, a few months after we closed, steel prices began to nosedive. Edgcomb’s inventory was now worth less than they had paid for it and dropping in value every day. The profits we anticipated, which were to pay our borrowing costs, never materialized. We couldn’t make our debt payments. Edgcomb was imploding, just as David Stockman predicted it would.
I got a phone call from the chief investment officer of Presidential Life, which had invested in our fund. He wanted to see me. I took a cab to his office in Nyack, on the Hudson above New York. He asked me to sit down and started screaming at me. Was I a complete incompetent or just stupid? What kind of imbecile would squander his money on something so worthless? How could he have given a dime to someone as inept as I was? As I sat there absorbing the punishment, I knew that he was right. We were losing their money because our analysis was flawed. I was the person who had made the decision. I don’t think I have been as ashamed as that in my life before or ever since. I wasn’t capable. I wasn’t competent. I was a disgrace.
I also wasn’t used to being yelled at. My mother and father never raised their voices. If we did something wrong, they let us know about it, but they never screamed or shouted. I felt tears welling up and my face turning red and hot. I had to force myself not to cry. I said I understood, and we would do better in the future. As I found my way to the parking lot, I vowed to myself, This is never, ever going to happen to me again.
Back in the office, I worked like a demon to make sure that even if Blackstone and our investors lost money on Edgcomb, our creditors—the banks we had borrowed from to fund part of the deal—didn’t lose a nickel. Edgcomb was just one deal in one fund. We would make other deals with the money from that fund and ensure that, overall, our investors did well. But our creditors lent us money deal by deal. If we failed to repay them even once, I feared, it would damage our reputation. Banks would lend us less money on stricter terms, making business harder.
We then examined our decision making. For all our entrepreneurial strengths, our drive, our ambition, our skills, and our work ethic, we still weren’t building Blackstone into a great organization. Failures are often the best teachers in any organization. You must not bury your failures but talk about them openly and analyze what went wrong so you can learn new rules for decision making. Failures can be enormous gifts, catalysts that change the course of any organization and make it successful in the future. Edgcomb’s failure showed that the change had to start with me and my approach to investing and evaluating potential investments.
I had fallen into a trap common to many organizations. In my enthusiasm to give a new partner a shot with the Edgcomb deal, I had made myself and the firm vulnerable. I had succumbed to a good sales pitch. I learned later that one of the analysts on this new partner’s team had opposed the deal. He couldn’t see it ever working. But the partner had told him to keep his doubts to himself.
I should have been more wary of my emotions and more scrupulous with the facts. Deals aren’t all math. But there are a lot of objective criteria to consider, and I needed to do that at length, in peace, not with two people pushing their views, and me sitting there deciding between them.
I had always been maniacal about not losing money, and the trauma of Edgcomb pushed me further. I began to think of investing as like playing basketball without a shot clock. As long as you had the ball, all you had to do to win was just keep passing, waiting until you were sure of making the shot. Other teams might lose patience and take those off-balance, low-percentage shots from behind the three-point line, the way we had done with Edgcomb. At Blackstone, I decided we would keep moving and passing until we could get the ball into the hands of our seven-foot center standing right underneath the basket. We would obsess about the downside of every potential deal until we were certain we could not miss.
“Psychology would be one of my strengths as an investor. I didn’t need to remember each number in an analysis. I could watch and hear the people who knew the specifics and tell how they felt from their posture or tone of voice.”
We decided to involve all of our senior partners in our discussions of investments. We would never again allow one person single-handedly to green-light a deal. During my career, I had gotten things more right than wrong, but Edgcomb had shown that I was far from infallible. My colleagues had decades of experience. By working together, arguing and applying our collective wisdom to evaluate an investment’s risks, we hoped we could examine our deals more objectively.
Next, we insisted that anyone with a proposal would have to write a thorough memorandum and circulate it at least two days before any meeting so it could be carefully and logically evaluated. The two-day requirement would give readers time to mark up the memo, spot any holes, and refine their questions. The senior partners would sit on one side of the table and the internal team presenting a deal on the other. Around us would be the junior members of our teams, who were expected to watch, learn, and contribute.
These discussions had two fundamental rules. The first was that everyone had to speak, so that every investment decision was made collectively. The second was that our focus should be on the potential investment’s weaknesses. Everyone had to find problems that hadn’t been addressed. This process of constructive confrontation could be challenging for the presenter, but we designed it never to be personal. The “only criticism” rule liberated us to critique each other’s proposals without worrying that we might be hurting someone’s feelings. The upside of the potential investment should be included as well, but that was not the focus of our early investment committee discussions.
Once this group dissection process concluded, whoever was running the deal now had a list of problems to address and questions to answer. The presenter’s team would go back and find answers to our questions, and in doing so, they could implement fixes or figure out how to manage the downside, or they might uncover new risks, new probabilities of loss that they might never have seen before. And back they would come for another round of discussion. By the third round, we hoped, there would no longer be any nasty surprises lurking in the deal.
I also resolved that I would never talk to just the lead partner on any potential investment. If I had detailed questions, I would call the most junior person, the one working the spreadsheets and closest to the numbers. If I had done that on Edgcomb, I might have heard from the analyst who hated the deal. Breaking through the hierarchy would allow me to get to know the junior people at the firm and get a different read. The risk may not be obvious on paper, but it came through in the analysts’ tone of voice when I asked them, “Just walk me through this deal from your perspective.” You could hear if they liked it or felt anxious. Psychology would be one of my strengths as an investor. I didn’t need to remember each number in an analysis. I could watch and hear the people who knew the specifics and tell how they felt from their posture or tone of voice.
The final change we made to depersonalize and derisk our investment process was to encourage a greater sense of collective responsibility. Every partner on our investment committee needed to participate in assessing the risk factor of a proposed investment. In this way, the internal team presenting could not target the senior person at the table or lobby him or her for a positive decision. Everyone in attendance would share responsibility for whatever decision was made. And we made every decision in the same predictable manner.
As we have added new businesses to Blackstone and ventured into new markets, we apply this same process to all our investment decisions. Everyone contributes to the discussion. Risk is systematically broken down and understood. Debate is full and robust. The same small groups of people, who know each other well, go over each investment applying the same rigorous standards. This unified approach to investing has become the backbone of the Blackstone way.