KKR in 2003
Ravi Madapati
Faculty Member
Icfai Knowledge Center
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KKR at Crossroads
During their heydays, KKR’s partners could choose the companies they wanted to
buy, from the auction block or bid for them in a hostile manner. But deal flows
started drying up in the late 1990s as the investors’ interest shifted from
old, maturing business to technology stocks. KKR found few opportunities coming
its way. The company preferred businesses with predictable cash flows, strong
brands and mature industries. It was not comfortable with the idea of investing
in relatively new and unproven technology businesses.
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KKR had traditionally invested in cash-rich firms that
showed signs of “undermanagement.” KKR played an active role in governance
and remained an investor for five to seven years (while paying down debt),
and then sold the shares for a capital gain. Often the company issued
“Junk Bonds”, which paid high-interest but were rated low by the rating
agencies. Later on the financing technique led to many problems. For
instance, after the collapse of Drexel Burnham and the junk bond market,
KKR lost $ 1.7 bn for refinancing RJR Nabisco [RJR] bonds. Before the
much-publicized RJR buyout, KKR had made successful acquisitions including
hotel chain Motel 6, broadcaster Storer Communications and food
distributor Beatrice. |
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By the end of 2001, KKR had lost a combined $987 mn on movie chain Regal
Cinemas, telephone service provider Birch Telecom, network equipment maker
Zhone Technologies and Internet service provider, Ardent communications. Its
own internal valuation reports showed that 32 out of 66 investments made since
1986 had lost money or were just breaking even through the end of 2002.
Competition had also intensified for KKR. During KKR’s first decade of
operations there had been only one other buyout firm, Forstmann Little & Co. By
the turn of the century, KKR faced 850 competitors. One of KKR’s bigger rivals,
Thomas H Lee (manager of the second biggest LBO fund), Blackstone Group,
(manager of the biggest LBO fund) had the best annualized returns in the LBO
business at over 40%. With 20% returns, KKR was at the bottom of the top-tier
funds. In 1995, KKR had been 10 times bigger than the rest of its competitors
but by 2002 it no longer had a gigantic lead. In the summer of 2002, KKR lost
out on the biggest buyout since its takeover of RJR, when Carlyle Group and
Welsh, Carlson, Anderson & Stowe won the $ 7.1 bn Quest Communication’s yellow
pages business.
KKR decided to change tracks in the new competitive environment. Rather than
squaring off against better-heeled rivals like the Blackstone Group, which
raised a record $ 6.5 bn in 2002, KKR joined hands with them as buying
partners. During the Qwest auction, it formed a bidding group with Thomas H Lee
Partners and five other buyout firms. KKR had also discussed with the OIC and
WSPF about selling a direct stake in KKR and a cut of its profits and fees.
The Road
Ahead
© Icfai Press. Global CEO •
December 2003, All Rights
Reserved.
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