Originally published in Nikkei Asia's “Henry Kravis: My Personal History"
Chapter 27
KKR could have been a mistake
It's not the most elegant phrase, but we like to say, "Throw enough stuff at the wall, and something will stick." George and I had no idea what we were doing in the beginning. We followed a passion for a certain type of investing, and we took a risk.
We thought private equity investment was a great idea, but no one was doing it, and success was not guaranteed.
We also had to be willing to make mistakes. Any entrepreneur will tell you that.
KKR certainly was a risk. We were prepared to fail and often thought we might.
An investor who claims to have never made a mistake has had a memory lapse, hasn't been investing very long or has lost the truth.
One of our greatest innovations and, frankly, most transformative things we did at KKR, was also at the same time almost an abject failure. In 2005, we made one of our first attempts to create permanent capital and expand access to private equity investments. We are believers in what we do and thought more individuals should be able to benefit from that too.
So we tried to do this through the stock market and created a method that diverged from the traditional approach of forming funds and collecting from a limited number of institutional investors.
"How much could we raise in the market?" When I consulted CEOs of investment banks, they said, "I don't know because I've never done it before." Neither had we and that's why we needed their help! They said, "Maybe a billion dollars if you work hard at it. Maybe you could find a billion."
We actually raised $5 billion in two weeks, and in 2006, we created KKR Private Equity Investors (KPE), a limited partnership listed on the Euronext Amsterdam exchange to provide public market investors access to KKR-sponsored private equity investments.
That was all fantastic until the financial crisis. The pool of assets traded down steeply. We knew the assets were worth more, but we had to mark our assets to market, which meant putting a value on them as if we were selling the companies then and what the bid might be for them. Of course that is not how private equity works. We are not forced sellers and we choose when that sale may occur. But we had to assign a valuation to the investments that relied in large part on whatever their public peers were trading at -- and on that basis, it didn't look like a very valuable portfolio.
Fortunately, we knew the companies well and we were able to turn what looked like lemons into lemonade.
We had been thinking about taking KKR public. That is an important step if you want to institutionalize a company and have a currency for talent and make sure the institution lasts beyond its founders.
In the depth of the crisis, we made this happen by combining KKR and KPE. We exchanged shares of the whole of KKR for KPE. For a year or so we were listed in Amsterdam and then we transferred the listing to the New York Stock Exchange in 2010. After that, KPE went away and the assets became KKR's balance sheet.
As we sold down those assets over time, we had more capital to build our business. We started our real estate business on the balance sheet. We started putting more of our own capital into our investment funds so we could be more "aligned" with our clients who entrusted us with their capital.
If we hadn't tried, KKR wouldn't be what it is today.
Making mistakes is important and sometimes a game-changer! What you learn from making your own mistakes is also important.
"When you make a mistake, acknowledge it. Tell people about it. Tell them what you learned." This is what George (Roberts, co-founder) says when he advises people within the company to accept mistakes.
A culture that does not admit failure is precarious. Just before Japan was hit by the banking crisis in the late 1990s, the chief executive of a major Japanese bank came to me and said, "We've got a real problem."
"What do you mean you have a real problem?" I asked.
"We've got a lot of bad loans in our banks," he replied. I was shocked.
Shortly after that, everything started coming out, and then it just all unraveled. The banking crisis, caused by a pyramid of bad loans in the sector, is now history.
The sooner you face up to issues and difficulties, the easier it is to fix them. If you keep sweeping everything under the rug, the rug piles up, with garbage underneath it, and it's harder to clean out.
If failure is not tolerated, essential innovations for corporate growth will not occur.
George has encouraged employees to come up with new ideas, saying, "The only thing worse than a bad idea is no idea."
I strongly believe in letting young people make mistakes, giving them the opportunity to make those mistakes. Eventually, they'll make one but hopefully they'll make more good decisions than mistakes.
A culture that allows talking about mistakes creates an environment that comfortably embraces new challenges. George and I have always taken the attitude that we make decisions together, and if something works, we give everybody the credit. If something doesn't work, it's only the two of us who take responsibility. From now on, that's the job of the two who have taken over as co-CEOs.