BLUEPRINT: It's Grayken's market

Little has been published about John Grayken, the publicity shy co-founder of Dallas-based Lone Star. Which is how he likes it. And yet his firm is positioned to be the most active and successful investor through the ongoing financial crisis. The by-product of this activity will most certainly be more attention on the man who built a firm that, more than most others, thrives amid chaos.

For clues about what makes the 52-year-old tick, you could do worse than look among his personal possessions. As one friend recalls upon visiting Grayken in his London office earlier this decade, it was the books on his shelves that stood out.

John Grayken

Catching his eye were biographies including one of British wartime leader Winston Churchill, another of the great US businessman and philanthropist Andrew Carnegie and a third on US president Abraham Lincoln. Recalling the reading selections, the friend says only half-jokingly: “This tells you how he thinks about himself perhaps.”

Grayken's interest in great men is hardly surprising to those that have watched him doggedly expand Lone Star into a global investment powerhouse.

In Lone Star Funds, the Boston-born, Harvard-educated entrepreneur has grown his business to 1,000 staff (100 at Lone Star and 900 at Lone Star's exclusive mortgage servicing affiliate and asset manager Hudson Advisors), has raised approximately $24 billion in equity and has closed on more than 900 deals totalling more than $61 billion. To many, he has already achieved greatness.

Yet John Patrick Grayken is not satisfied with what has gone before. While Ellis Short, a co-founder of Lone Star, and former head of Asia Randy Work have both retired within the last two years, Grayken has remained at the helm. His closest aides and former acquaintances say he hasn't earned his money to flaunt it. Instead his driving ambition is to continue the growth of the business known to some rivals as a “factory” and to others as a “real estate monster”. One competitor predicts: “Lone Star will be the biggest name in private equity real estate over the next three years.”

Labelled a “recluse” by some, it is more accurate to say Grayken is intensely private. To those that know him, however, he is “approachable” and “personable”. One friend and former colleague calls the former college ice hockey player “a man's man.” But he is not the kind to be seen heartily networking at corporate events, preferring to keep his social circle tight. As one private equity real estate professional puts it: “John is easily accessible to his friends but I don't think he has many of them.”

Bass alumnus

Grayken's resume provides some hint of progress to come. He cut his teeth at Morgan Stanley, where he was an associate in the real estate investment banking group. While there he caught the eye of the Fort Worth oil and gas magnate Robert Bass, who helped launch the career of other notable investors, including TPG's David Bonderman and Colony Capital's Tom Barrack.

In 1986, Grayken partnered with Bass in a real estate venture providing him the early grounding he now relies on to buy up distressed real estate assets. However, even while working with Bass during the RTC crisis of the early 1990s, Grayken saw his destiny was to run his own organisation. In 1995, he established Lone Star by forming the Brazos Fund which closed with equity commitments of $250 million. Bass was one of the cornerstone investors.

According to those that know him, Grayken has been successful to date partly because of the sheer force of his personality and powers of persuasion. Over 13 years, he has led numerous presentations for some of the most powerful limited partners, including Caisse de dép^t et placement du Québec, New York State Commons Retirement Fund and Oregon Public Employees Retirement System, all of which have made repeated investments to Lone Star Funds.

One rare occasion when he was recorded on film, his pitch to investors demonstrated a key strength. Facing a panel of members from the Oregon Investment Council in January 2008, Grayken explains the size of the opportunity to come in the US. Oregon was minded to commit $350 million to Lone Star Fund VI, but by the time the presentation was over, one Oregon member asked whether it was possible to increase the size of the state's commitment. In the end, Oregon committed $500 million.

In the video (see PrivateEquityRealEstate.com for a link to the clip), Grayken said Lone Star would take advantage of the “most significant recession in residential mortgages since the depression” and a world of “destabilised banks” where the “cream” was in being able “to get the securities in the bank at a reasonable price … and usually the bank for free as well”.

John Grayken

He summed up his investment strategy: “The race is on to play the situation and the key is to get in and seize the collateral.”

The meeting with Oregon highlights the faith investors have in Lone Star and its founder. In July 2008, Lone Star Fund VI held a final close of $7.5 billion and Lone Star Real Estate Fund closed on $2.5 billion in commitments. The original joint target for the vehicles was $6.5 billion. Lone Star is now back on the road aiming to raise a combined $20 billion in a follow-on pair of vehicles.

Roger Orf, president and chief executive officer at Citi Property Investors who worked with Lone Star from 2002 to 2005, describes Grayken's success as a result of “vertical” thinking.

Highlighting Grayken's focus on debt and distress, Orf says: “He knows what he does well and he focuses on it intensely. He keeps drilling down to get the right answer.” Grayken was, according to Orf, one of the first to exploit real estate opportunities through unorthodox methods like buying banks laden with bad loans.

“The great thing about debt is that you cut out a whole swathe of buyers who don't understand how you get to the asset,” Orf adds. “The great thing about buying a bank is they come replete with bad loans. That limits your buyer universe further.”

Orf was hired by Grayken to lead Lone Star's European platform in March 2002 following years of friendship. (Orf recalls playing golf with Grayken and Grayken even attended Orf's British citizenship party). Grayken, for his part, relinquished US citizenship in 1998 to live in London with his English wife and three children, although he carries an Irish passport. Those close to him say he intends to remain in Europe.

During a four-year tenure at Lone Star, Orf saw the firm buy up to two-thirds of around $16 billion in bad loans in Germany, including $4.8 billion from the now-troubled property lender Hypo Real Estate. Orf says of Grayken: “He is at the top of the business people I have interacted with in terms of being able to make money for himself, his partners and his LPs.”

While debt deals epitomised Lone Star's early forays in Germany, the firm's German exposure evolved in a big way last April with the €1 billion sale and leaseback of 1,300 properties from Deutsche Post World Net, a subsidiary of German postal company Deutsche Post.

The Hudson factory

One of the secrets to Lone Star and Grayken's success has been mortgage servicing and advisory business Hudson Advisors, which employs roughly 900 people. Hudson is regarded by some as a “factory”, processing and managing thousands of mortgages, with Grayken as “the factory owner”. As one former colleague says: “It was very actuarial, buying billions and billions of dollars of loans. You became a numbers man like an accountant.”

Regarded by many as Lone Star's competitive advantage, Hudson has resolved more than $31 billion of problem loans and complex real estate assets across the globe over the last decade. It is where loans are bought and sold, underwritten and rung clean for their collateral.

Deals currently under scrutiny by swarms of Hudson employees include $30.6 billion of collateralised debt obligations from Merrill Lynch, bought for $6.7 billion last year, and the loan businesses of collapsed bank Bear Stearns and San Diego-based mortgage lender Accredited Home Lenders. Led by president Robert Corcoran, Hudson is regarded as something of starting point for young hopefuls, few of which graduate to jobs at Lone Star.

Grayken protestor

One acquaintance says: “The great thing about Hudson is that it exclusively works for Lone Star so our interests are aligned. There is continuous feedback in terms of how the investments are performing.”

Factory boss

According to those that know him, Grayken is regarded as a hands-off leader who, though the factory boss, is able to delegate responsibilities to trusted “generals”. He rarely gets involved in the early details of a deal but often gets involved in transactions at the review stage and will frequently be the one who grants the final green light. In Europe, he speaks with European operations head Bruno Scherer frequently but rarely gets too involved in the details of deals. “He likes to be kept informed of everything that happens but at the same time offers flexibility and freedom in getting deals done.”

That is not to say that Grayken is aloof. He is not beyond seeking out the key man on a Lone Star deal to personally shake hands for executing a successful transaction.

By most accounts, Grayken has built a flat and fast-moving operation without hundreds of layers of decision makers. One person familiar with the operation says: “There are one or two final investment committees. The very largest deals will involve Grayken, but smaller vanilla investments are controlled by regional heads.”

Most agree Grayken's generals should also be praised for the firm's success. Although Grayken is the one with the most clout with investors, as with any organisation. “He needs his generals to keep the machine working,” another source says.