A Look Back At 9/11: NYC-Based Buyout Business Reflects On Losses

Where were you on that fateful day 10 years ago, when the foundations of everything you depended on—your safety, your livelihood and your country—were shaken by the attack on the World Trade Center?

If you were fortunate, you and your family survived and endured, and your business carried on. For the private equity industry, the attacks were—at their core—a human tragedy that took the lives of at least three buyout professionals and contributed to the dissolution of a promising new firm.

Sept. 11th was also a complex economic event that would have lasting effects. The economy would push deeper into recession. Deal-making would get scarcer in the months following the attack. Fundraising would drop precipitously. Said one GP to Buyouts after the attacks, “If we thought it was bad before, we didn’t know what bad was.”

Yet most buyout firms survived. The Federal Reserve acted decisively to offer relief, serving up an adrenaline shot of low interest rates that led—later on in the decade—to another boom and bust, both of which were even bigger than the industry had seen before.

The buyout industry was luckier than some financial specialties in one important way: Most buyout firms in New York had offices in Midtown, a few miles from Ground Zero. There were no large buyout firms that suffered in the same way that Cantor Fitzgerald did. Cantor, the big government bond dealer which was headquartered in the World Trade Center’s North tower, lost nearly 700 workers that day. In all, more than 2,700 people lost their lives.

Nevertheless, two firms were impacted directly by the tragedy. Blue Capital lost one of its founding members, Brian Dale, who also served as the firm’s chief financial officer. Dale, who was 43 and had a wife and three kids, helped found Blue Capital, a mid-market buyout firm, in 1997. He was one of the people on board American Airlines Flight 11, which crashed into the North Tower. While the loss of Dale did not directly cause the dissolution of the firm, Blue Capital was not able to survive beyond its first fund and ultimately disbanded in the mid-2000s.

Another buyout firm directly impacted was Alta Communications, a private equity company focused on the media and communications industry. Alta Communications lost two of its investment professionals. David Retik was a general partner and a co-founder, while Christopher Mello was an associate. Both were on that same American Airlines flight with Dale.

Retik had a wife and two children and was awaiting the birth of his third child. At Alta Communications, which he helped found in 1996, Retik focused on sourcing investments in traditional media companies. He was an avid fly fisherman and was known, both inside and outside the firm, for his practical jokes. Mello joined Alta Communications as an associate in July 2000 after getting hired away from BT Alex Brown, which he joined after graduating from Princeton University. He was 25. Ultimately, Alta Communications went on to prosper despite the loss of Retik and Mello, and the firm now manages $1.5 billion in committed capital.

There were some close calls. Thor Technologies, an online identification management firm that was then a core holding of Pequot Capital Management, had offices on the 87th floor of the World Trade Center’s North Tower. Thor was lucky that just four of its 42 employees were at its offices that morning. All of them were able to reach safety, and the firm soon relocated to Midtown Manhattan. In a 2001 interview with Buyouts, Christine Gilles, a Thor employee who survived by climbing down 87 flights of stairs, said “what’s really important is going back to work and getting back into a routine and establishing a normalcy… We’re operational again, rebuilding our business.”

Many service providers had offices in the vicinity of the World Trade Center, and several were forced to find new offices. Among them were AON, which sells insurance to buyout shops, CIBC, which had a private investment unit, Deutsche Bank, which had a fund placement group, and Merrill Lynch, which also had a fund placement group.

Ripple Effects

Other important long-term consequences for the industry came in the areas of deal-making and fundraising. Buyout deal volume in the fourth quarter of 2001, which began just three weeks after the attacks, fell to just $3.5 billion (in 2001 dollars) from the more than $9 billion in the fourth quarter of 2000 and the $19 billion in the fourth quarter of 1999, an 82 percent drop in just two years.

Not only did visibility get cloudier following the attacks, but lenders suddenly became far more reluctant to extend credit. The result: fewer deals. The fourth quarter of 2001 turned out to be the weakest one for deal-making in the previous 25 quarters. Overall, for reasons that of course go beyond the terrorist attack, 2001 turned out to be, according to Buyouts, the softest year for deal-making since 1995.

As for fundraising, money raised in the fourth quarter of 2001 fell a sharp 72 percent from its level the same quarter the previous year. About $8 billion was raised in the fourth quarter of 2001, compared with $29 billion in the fourth quarter of 2000. As visibility became hazier in the aftermath of the attacks, institutional investors kept a firmer grip on their cash, no doubt passing over some opportunities that would post sharp returns in the years that followed. All told, fundraising by buyout firms dropped 44 percent in 2001 compared to levels the previous year, according to Buyouts. Total money raised in 2001 was $35 billion compared with $63 billion in 2000.

Wrote Leslie Green, editor of Buyouts, at the time: “It’s no secret that moderate fund-raising numbers for 2001 can be attributed to the fact that limited partners had less money to put into their alternative portfolios.”

There were, of course, some industries and firms that benefited in the aftermath of 9/11. Buyout firms with deep Washington and defense connections, such as the Carlyle Group, saw opportunities as dollars flowed into defense contracting and the nation geared up to fight wars in both Afghanistan and Iraq. Money spent on security—by both government and the private sector—also rose sharply. The Carlyle Partners III Fund, which raised $3.8 billion in 2000, had a strong focus on defense and security businesses.

But in general EBITDA run rates at portfolio companies suffered as consumers and businesses kept a lid on spending. Airlines, which were already on shaky ground, got emergency loans after the attacks, as vacationers and business people took far fewer trips. Other travel related businesses, such as hotels, weren’t so fortunate.

“Nine-eleven was a wake-up call to those of us who had been around a while about how fast things can change,” said Bill Barnum, a partner at Brentwood Associates, a consumer-business buyout firm. “The new world order is far less predictable than it was before the attacks. We’re still just one terrorist attack away from really bad changes happening quickly again.”

Barnum added that the attacks led to big changes in consumer confidence, changes that led his consumer-oriented firm to focus more on growth-oriented companies that would organically grow in both good times and bad. Another change: his firm decided to lower sharply the amount leverage it would use to finance deals.

As a buyout firm focusing on consumer businesses, Brentwood’s portfolio was more vulnerable than most, said Barnum. He mentioned one portfolio company that made luggage. That firm saw sales quickly deteriorate, a consequence of the national slump in travel that followed the attacks.

Steve Klinsky, a founder and managing director of New Mountain Capital, recalled that “the whole country ground to a standstill for a couple of weeks.” For Klinksy, the attacks marked a change from the near continuous growth of the previous two decades. “If you look at the 1980s and 1990s,” Klinsky said, “there was a 20 year boom. But 9/11 may have been the first step of a pretty miserable decade.”

The Next Cycle

Despite the pain, the Federal Reserve’s move to quickly lower interest rates allowed those who could get credit the ability to get it at rock bottom rates. Eventually, as the buyout world recovered, low interest rates would lead to record-size deals, such as 2007’s $45 billion deal for the giant utility company, TXU, by a group led by Kohlberg Kravis Roberts and TPG Capital, and the Blackstone Group‘s $39 billion purchase of Equity Office Properties.

Brooks Zug, a senior managing director at HarbourVest Partners, a prominent funds-of-funds firm, pointed out that even though things got pretty bad for investments following the attacks, “the private equity industry was not affected any more than other asset classes.”

The 2000 to 2002 recession, said Zug, helped lay the groundwork for a recovery in buyouts that followed later in the decade. “All the funds investing in 2003 and 2004 were investing at low valuations,” he said.

The numbers bear that out, as some funds from that period had spectacular returns. Apollo Investment Fund V, a 2001 vintage, has generated a 39 percent IRR, according to CalPERS data through year-end. Blackstone Capital Partners IV, a 2003 vintage, has generated a 40 percent IRR, according to the same report. Similarly, First Reserve Fund IX and First Reserve Fund X, which had 2001 and 2004 vintages respectively, generated IRRs of 48 percent and 41 percent, according to a report from the Oregon Investment Council through year-end.

“When the run-up in prices came, early liquidations occurred at very high valuations, which helped to feed the private equity cycle,” said Zug. “Liquidation of the early deals and the realization of high valuations did two things: It returned a lot of capital to investors, which would have to be reinvested, and it created more enthusiasm for private equity, because the returns were so good.”

Later, as the buyout recovery got rolling, as it did between 2005 and 2008, the industry saw record growth in leverage, fundraising and deals, which, said Zug, led to a new peak in the private equity cycle, one from which the industry is still recovering.

Of course, Buyouts can’t tell the full story of 9/11’s impact in a single article, any more than obituaries can tell the full stories of buyout professionals killed in the primes of their careers. But the stories continue. Chip Hughes of Blue Capital helped set up a foundation to help educate the three children of Brian Dale and his wife, Louanne Baily, while Alta Communications, along with the families of David Retik and Chris Mello, set up the Retik-Mello Foundation. Over the last decade, the foundation has donated more than $1 million to charities that support “the spiritual, physical, and intellectual growth of compassionate, courageous leaders of tomorrow.”