The New Titans of Wall Street

April 12, 2007 — -- The financial world and media were abuzz in February not about the latest merger or stock-market rally. Instead, for days they were focused on one man's birthday party.

Sure, Rod Stewart was singing. And yes, the governors of New York and New Jersey were guests along with Donald Trump and countless other celebrities and financial bigwigs.

But what was really special about Stephen A. Schwarzman's bash was that it offered a rare glimpse into the reclusive world of private equity.

Compared to the titans of the 1980s, who were known for their public shows of opulence and excessiveness, today's private equity kings are reclusive figures.

That's why everybody noticed when Schwarzman, the chairman, CEO and co-founder of the Blackstone Group, one of the largest private equity firms in the country, threw a lavish party for his 60th birthday.

The event, reported to cost $3 million, was a sort of coming out party for the world of private equity -- even if it was just for one night.

"Private equity has been traditionally a business that has not needed to make public securities filings, so as a result, there has been a certain tendency towards secrecy," said Josh Lerner, a professor at Harvard Business School specializing in investment banking. "This is clearly changing as the industry becomes more visible."

It seems that every few days private equity announces a new, record-breaking megadeal merger. But for the men who run these organizations -- and yes, the people at the top are all men -- that's where the news stops. They rarely speak about their deals and try to stay out of the spotlight.

Schwarzman, through a spokesman, declined to comment for this story. So did several others who watch the world of private equity.

Even though they are big, powerful and have the ability to move markets -- as their name suggests -- we know very little about private equity firms.

Yet these funds make up a significant and growing segment of the financial world.

"They've popped up on the radar screen in a very big way," said Robert Keiser, vice president of Thomson Proprietary Research.

Record-Shattering Deals Now the Norm

Evidence of private equity's economic punch is apparent in the sheer size of a number of recently announced buyouts and mergers.

For nearly two decades, private equity firm Kohlberg Kravis Roberts held the trophy for the largest of large deals with its record-breaking $25 billion acquisition of RJR Nabisco in 1988.

That deal "is now sort of a footnote in history because all the records have been shattered in the last two years," Keiser said.

In recent months the RJR Nabisco deal has been eclipsed several times, including a $39 billion deal for Equity Office Properties, a $33 billion agreement for hospital operator HCA and $27 billion for casino giant Harrah's Entertainment. Shareholders will vote June 15 to approve a $45 billion offer for Texas utility company TXU.

The private equity world made headlines again this week when rumors surfaced about a possible takeover of Dow Chemical for more than $50 billion, potentially the largest takeover deal ever.

So how much money do the masterminds behind these megadeals make?

"The safe answer is a lot," said Colin Blaydon, director of the Center for Private Equity and Entrepreneurship at Dartmouth's Tuck School of Business.

Blaydon said the heads of these firms make billions off these deals, but exactly how much is not known.

Harvard's Lerner said that the funds typically get about 20 percent of the profits and a management fee of another 1 to 2 percent. With billions of dollars in play, those fees quickly add up.

"It's nice work if you can get it," Lerner said.

Branching Out to Sports Teams, Major Brands

The biggest names in private equity include Schwarzman, Henry Kravis, founding partner of KKR, and David Bonderman, founder of Texas Pacific Group.

Last year, 28 percent of all announced U.S. mergers and acquisitions came from private equity funds, according to Keiser, who called that an "unprecedented level of participation."

But it's not just major takeovers that fall under private equity.

These firms also own sports teams like the Boston Celtics, the Albertson's supermarket chain and car-rental company Hertz.

Dartmouth's Blaydon said buyouts used to be dominated by publicly traded companies -- Cisco or Intel, for example, would take over some up-and-coming technology company in Silicon Valley.

"Now the game is almost entirely in the hands of the private equity guys," Blaydon said.

Private equity firms' success stems, in part, from their image. Takeovers got a bad name in the 1980s -- the decade of greed -- when they often were hostile.

Today's deals are a lot friendlier, Blaydon said, with the executives at the target corporation often working to make the deals happen.

Lenders are also now more willing than in the past to let the funds borrow large amounts of cash to make takeover deals.

It's All About the Cash

There has been a major influx of money into the private equity markets in the last several years.

For investors that need cash, the trade-off for the high level of risk associated with private equity investment is the potential for tremendous yield.

And private equity firms are typically in for a quick return. In the past traditional companies would take over others and hold on to the new asset for years and merge them with the existing business.

Not anymore.

"These guys are not people who buy and hold. They buy, transform and sell," Blaydon said. "They're sort of a new beast out there."

About four years ago, large pension funds "in a desperate search for yield and returns" started pumping more and more money into the private equity market, Blaydon said.

Large state retirement funds that lack enough assets to pay out future retirement payments are now investing 10 to 15 percent of their assets in private equity, Blaydon said. In the past they were hesitant to go above 5 percent.

Finally, the private equity firms started to team up on some of the larger deals, making it possible to splurge on some of these megadeals.

"These guys went from being solo lone rangers to teaming up as a syndicate," Blaydon said.