Left-wing conspiracists know the Carlyle Group as a secretive global cabal that leverages the political connections of partners and high-profile advisers such as George H.W. Bush, Frank Carlucci and James Baker to create untold riches for the Mellon and bin Laden families.
In reality, in less than 20 years, Washington-based Carlyle has become one of the largest and most successful private equity firms in the world, with 550 employees, 24 offices in 14 countries and more than $25 billion under management, much of it from public pension funds. The companies it currently owns have $30 billion in annual revenue, with 131,000 employees. And so secretive is Carlyle that you can look on the Web to find biographies of all its key players, its major investors and investments and the financial performance of its approximately two dozen separate funds.
This week, Carlyle broke the world indoor record in announcing it had raised $10 billion for two new buyout funds, which in the mine-is-bigger-than-yours world of Wall Street is sure to be broken soon by Blackstone, KKR or Warburg Pincus. According to insiders, the number might have been $2 billion higher if Bill Conway, the Carlyle partner whose knack for finding and nurturing good investments has always been Carlyle's secret weapon, hadn't persuaded co-founder David Rubenstein to turn off his formidable money-raising machine, out of fear he wouldn't find enough worthy deals.
In one sense, the new fundraising record attests to the bubble character of the investment world these days, with a veritable flood of savings searching for something better than single-digit returns. So much of it has now gone into funds like Carlyle's that private equity accounted for 14 percent of global mergers and acquisitions last year, up from 3 percent in 2000. And that has driven up the price of companies while driving down the expected returns -- from levels of 30 to 35 percent a decade ago to 20 to 25 percent today.
But the arrival of the mega-fund also symbolizes the changing strategies in the industry. With the size of the funds increasing and credit cheap and plentiful, the deals have become bigger, the leverage higher, with several rival firms joining together in so-called "club deals." And rather than wait four or five years to grow a company and finally cash in on an investment, firms now try to use IPOs and other recapitalization schemes to get their original investment back within the first year, while retaining a smaller but still controlling interest in the hope of further appreciation.
While bigger funds mean lower returns and higher risk for investors, for Carlyle and the other firms, the math is compelling. Even if it never earns a dime for outside investors, a $10 billion fund generates $150 million a year in management fees for Carlyle, probably enough to pay most of the operating expenses of the entire firm. And if things turn out as expected, Carlyle's 20 percent cut from a $10 billion fund with a 20 percent rate of return is significantly higher than the same share of a $5 billion fund with a 30 percent rate of return.
Carlyle's strategy has not only been to aim for bigger funds, but to build on its original success with buyouts by offering a variety of other funds. Its biggest successes have been with its real estate and energy funds, both of which are overseen by the third founding partner, Dan D'Aniello. Carlyle's venture funds have yet to turn a profit, however, while returns from its European and Asian buyout funds have been disappointing.
And now that giant hedge funds have begun to elbow their way into private equity investing, Rubenstein is talking about launching a Carlyle hedge fund. I'm sure he'll have no trouble raising the money, but it strikes me as the classic mistake of following the herd and trying to play the other guy's game.
However it turns out, Carlyle has turned an important corner. Bush, Baker and Carlucci are severing their ties. And Rubenstein, Conway and D'Aniello can take satisfaction in knowing they have not only become fabulously wealthy, but also have established a powerful brand and a thriving institution that will live on even after they have retired.
Steven Pearlstein can be reached at pearlsteins@washpost.com.
