This is an abridged version of an article originally published by affiliate title PERE on the occasion of John Grayken receiving the Lifetime Achievement Award in the PERE Global Awards 2021. PERE subscribers can read the full article here.

Meet John Grayken. He is the founder and owner of Lone Star Funds, one of the biggest and most successful private equity real estate businesses in the world. He is also a self-made multi-billionaire, and many in the industry have read about him – but few have encountered him. That is because, as is well documented, he is an intensely private man. In 2009, PERE called him “shy”. In 2016, business magazine Forbes called him “shadowy”.

While he avoids publicity, his firm often cannot. Lone Star makes many headlines, and they are not always positive. It has bought assets competitors find too sensitive, and usually following widespread distressed situations. While many of Lone Star’s peers now focus on growth strategies, Grayken’s business sticks to guns originally crafted to benefit from the RTC and Savings and Loan crisis in the 1980s and 1990s.

Investors love this consistency. They have benefited from positive performances from all but one of Lone Star’s 21 funds to date. Grayken would not discuss track record, but it is understood from other sources that its flagship Lone Star Fund and Lone Star Real Estate Fund series, which account for more than $80 billion of the $85 billion Lone Star has raised since its inception in 1995, have regularly hit their 25 percent gross IRR and almost 2x equity multiple performance targets, as many a US pension fund document will verify. That is almost three decades of strong returns.

In fact, investors are so happy with his business they reconcile with some of its more sensitive plays and overlook the fact he represents possibly the highest-profile example of key person risk in the industry. “It’s a great risk,” states one ex-real estate head of a repeat Lone Star investor, who requested to remain anonymous.

“The end will come when I can’t be as effective as I need to be,” Grayken tells PERE. “That time will come.”

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“For longevity, you cannot blame your mistakes on anybody. Whatever it is, you need to own it. That’s how you improve”

But probably not soon. Grayken will not discuss fundraising, but it is understood from other sources that Lone Star is out marketing another of its flagship vehicles and will announce closings later this year.

While his career is ongoing, Grayken has done more than enough to warrant being named Lifetime Achievement Award winner in the 16th annual PERE Global Awards.

Grayken is friendly and accommodating. But there is also an unwavering conviction, deliberateness and precision in how he talks. In agreeing to PERE’s request for an interview, which customarily comes with accepting this award, he is breaking a habit of a lifetime. As such, he takes the same, serious approach he would with any business meeting.

Nothing casual

Grayken’s attire for the interview says the same. We talk after he has participated in an hour-long photoshoot – another unfamiliar experience, though it does not make him uncomfortable. A residential block owned by London landlord Quintain, one of Lone Star’s property company investments, provides the setting. While other bosses have opted for more casual looks, like open-collar shirts or sports jackets, for interviews with journalists, he wears his customary, double-breasted, dark, pin-stripe suit. It is a uniform adopted from his time at investment bank Morgan Stanley in the 1980s. “I manage money for other people,” he explains. “I have clients. There’s nothing casual about the way I view that responsibility.”

When it comes to his work, he is decidedly unsentimental. Everything about Lone Star leads to meeting “the objective”, a word he uses throughout our conversation. He has set a corporate culture predicated on simple but strict principles and centred around one outcome: “making money for my investors.”

His secret? Unsurprisingly, many more strong than weak risk assumptions when making investments. “Generally, the rule of thumb is you need to be right four out of five times,” he says. But he adds a principle perhaps not all senior private markets figures adhere to. “And learn from your mistakes by taking responsibility for them,” he says. “For longevity, you cannot blame your mistakes on anybody. Whatever it is, you need to own it. That’s how you improve.” This second philosophy explains why Grayken is equally interested in discussing Lone Star’s misses as he is its hits.

“We’ve done deals I wish we hadn’t,” he says. The firm’s 2005-vintage Lone Star Fund V, for instance, returned 0.975x because of misjudgments in Japan. At the deal level, he singles out the firm’s $1.3 billion purchase of a consumer finance business in 2014 as an example of poor underwriting. “We underestimated the regulatory risk and environment.”

Totally reactive

To minimise the misses, Grayken spends most of his working hours with the firm’s problematic transactions, where original underwriting has not materialised. He has a “tremendous amount of delegation and trust” for his investment committee – which also includes presidents William Young, Donald Quintin and André Collin, as well as the firm’s most senior investment directors – when it comes to sourcing deals for the firm’s pipeline. This enables him to dedicate his energy to any issues arising from the deals his colleagues make.

Describing his work as “totally reactive”, Grayken says: “The way I manage the business is I’m involved in all the various ideas formulating our investment policy. I’m involved in scrutinising the underwriting and the analysis for when we take risk. Then, when the risk is on the books, I don’t get involved unless it deviates negatively from the objective. I’m only dealing with problems.”

This is the main way Grayken helps Lone Star meet its objective. He is uninterested in celebrating investments that shoot through their underwriting, which many have. For example, its bank forays following the Asian financial crisis made considerably more money than forecasted. In 2003, Lone Star completed the $1.2 billion purchase of controlling interest in Korea Exchange Bank, selling it in two stages by 2012 for a total of $5.2 billion.

While certain Lone Star staffers recall instances when Grayken would personally shake their hands for a job well done, others suggest a meeting with him is not always welcome. “We used to joke about that,” recalls Thomson. “People would join [Lone Star] and want to spend time with John. We’d say, you really don’t want that. When things are working fine, he’s fine. When things aren’t working, or are at risk, like in Korea, you spend a lot of time with John as he gets hands-on.”

A double-edged deal

By “Korea”, Thomson is referring to Lone Star’s KEB investment. Seminal in stature for the firm, the deal demonstrates the lengths it will go to “meet the mandate” for its investors.

Grayken describes it as “a controversial deal but ultimately very profitable”. Lone Star initially received bids as high as $6 billion for the bank when it tried to sell, but Korean authority interventions thwarted multiple exit attempts. While a strong sale ultimately did transpire, Lone Star is still fighting for further compensation almost 20 years after the initial acquisition, after being made to accept a lower price when it sold its controlling stake to Hana Financial Group.

Life at Lone Star

For those able to stay the course at Lone Star, Grayken has constructed a simple but financially rewarding pathway. Most employees start at Hudson Advisors, an asset management operation regarded by some as a “factory” from when it was used to process thousands of loans following the Asian and global financial crises.

Until recently, Hudson had one client: Lone Star. “Here, you manage the risks we’ve already taken,” he says. “If you show a degree of aptitude, you might shift into Lone Star and start underwriting. You’ll be part of a team assessing risk.”

Employees who excel are given decision-making powers about investments. “Before you’re talking on the investment calls as an underwriter where senior people are listening, that’s a decade. It’s usually four to five years longer still before it’s your deal.”

That is when Lone Star’s senior executives earn the most. Under Grayken’s philosophy of taking responsibility, it means they only earn carried interest on their deals, unlike other firms where carry is distributed more evenly. The most prolific become very wealthy as a result. “We’ve tried to design a system where there’s very close alignment between compensation and results for the investors. If our investors don’t make money, our people don’t make money. If they do, we do. Simple as that. There’s no mark-to-market, no big pay event in December just because it’s the end of the year.”

He is asked how he keeps a global headcount hungry, alongside fund programmes that might start with a global remit but end up overweight in one region. For example, Lone Star Real Estate Fund III, which closed on $7 billion in 2013, was approximately 90 percent invested in Europe. He says his executives never need to worry about colleagues elsewhere calling all the dry powder. “If a deal meets our underwriting criteria and return target, we’ll do it.”

That said, he recognises his money is always on a timer and is not afraid to wind up a fund early if opportunities do not arise. Lone Star Real Estate Fund V held a rare ‘one and done’ single closing of $5.8 billion in 2016, only to be reduced to $2.7 billion when opportunities seen during fundraising evaporated. “If we don’t see the opportunity to meet the investment objective, we won’t invest.”

Grayken accepts that disappoints investors. “They made a commitment based on your assessment of the market opportunity. If you can’t invest the money at the target during that investment period, that, in a sense, is a failure. On the other hand, if you lose money by making bad investments for them, they’ll be a hell of a lot more unhappy.”

For the most part, investors accept this, the anonymous former backer says: “When he doesn’t think he can make money with his model, he doesn’t push it. He does something else.”

Grayken says if Lone Star continues to hit its targets, the firm will keep enjoying high levels of investor support. “If you can make money for people, you never have any problem raising it,” he says.

Wheat from chaff

This brings us on to where Grayken intends to make money following a crisis not instigated by financial factors. He sees opportunities, he says. “But these markets are dangerous. There is a fundamental shift in usage of commercial real estate. Some of it might be temporary. Some structural and long-term.” Wrong calls made on assets experiencing a structural shift “can be deadly for business”, he warns.

To complicate matters for a macro-better like Grayken, each real estate asset class can now be split further into sub-asset classes, some of which are temporarily impeded, others structurally impaired. He has views on each main property food group but expects deep analysis is needed to separate wheat from chaff: “Once you find the recovery story in a particular segment, you need to find the opportunity,” he says.

“If our investors don’t make money, our people don’t make money. If they do, we do. Simple as that”

Given Grayken’s propensity for finding value in areas of dislocation, it is unlikely you will see Lone Star majoring on so-called ‘new economy’ areas like distribution, digital or life sciences real estate, though sectors that have risen sharply certainly will feature, such as student and senior residential.

Moreover, expect to find Lone Star working through segments within traditionally popular asset types like offices and retail properties to find value. In so doing, it is possible the more controversial entity-level transactions of the firm’s past will be less prominent as accelerated themes in real estate lead to dislocation at the asset level.

As such, Hudson Advisors could play more the asset manager than special servicer in this cycle. ESG considerations might need to become more prominent than before. Asked if Lone Star has a net carbon reduction plan, for instance, he replies, “We’re looking into that now”, adding: “You don’t want to be involved in buying assets that contribute to pollution. You don’t want conflict with the communities you do business with. That’s important to avoid in business.”

Ultimately, it comes back to the mandate, which he repeats is “very commercial” and “as uncomplicated as possible”.

“The purpose of the company is to serve the interests of the investors. That’s what our primary objective is: meet the mandate delegated to us by them. It’s not very complicated. It’s a return objective consistent with playing by the rules. That’s it.”

To know that central tenet about John Grayken is to know how Grayken ticks professionally. As such, if you read this feature, you might now feel you have met him.

Grayken’s take

Lone Star’s founder says there may be opportunities afforded by the covid-19 crisis, but that it is not obvious where the best plays are.

“Certain types of retail have structural demand diminished for the future. Other elements of commercial retail are more promising, and you have to differentiate between the two.”

“Offices are really difficult to try to understand what the long-term trends are going to be. It seems unlikely to me that things are going to go back to the way they were. It seems the aggregate demand for office space is going to be impaired. But then you have demand for high-quality offices that can meet today’s standards. Other segments will become obsolete.”

“It’s easy to say hospitality will recover on one hand. But business hotels: are we going to travel as businesspeople as much as we have? Seems unlikely.”

“Logistics is a booming business and it looks like demand will be strong for the foreseeable future. On the other hand, a lot of that is reflected in the prices you have to pay and assumptions you have to make about growth which, in some cases, would be dangerous to underwrite.”