The Art of the Squeal

0:00Edward Starling: Hello listeners, it's Jonathan here. This episode that you're about to listen to was recorded last month in front of a live audience at the Weekend of Mistakes, a festival of financial and economic history run by our friends at the Library of Mistakes. Thanks so much to everyone who came to our event and do keep an eye out for upcoming live performances of the podcast.

0:27Edward Starling: Thanks for listening to A Long Time in Finance with Jonathan Ford and Neil Collins, in partnership with Briefcase News, the service that brings intelligent curation and analysis to your media monitoring. Hello, everyone. Welcome to what is described here as a live podcasting recording. Actually, what we decided to call it was the art of the squeal. I should start, I think, by explaining what we mean by the squeal. What we're trying to talk about in this podcast is how you get in the position where you effectively go bust, but then you end up on top and you somehow manage to make the bankers who've lent you the money eat a large proportion, some or all sometimes, of your losses, which is quite a useful skill, I think, particularly at the moment.

1:14Neil Collins: We could all have it, yeah.

1:16Edward Starling: And it's a skill, needless to say, has been attributed to Donald Trump, President of the United States, particularly in the era of his business career where he owned a chain of casinos in Atlantic City, the Plaza Hotel and an airline called the Trump Shuttle, which he described as some of the greatest assets ever seen in the world. but despite the fact he had a number of run-ins with his bankers in the early 1990s he never seemed to dent his claims about his billionaire status we're joined i'm very pleased that we're joined on this enterprise by the insolvency and debt restructuring expert uh ed starling of wed lake bell welcome ed first i think we should start by dealing with the orange elephant in the room

2:01Neil Collins: which is Donald Trump. Don't avoid it.

2:03Edward Starling: Yeah. So the question is, what exactly did happen with Mr. Trump in the 1980s? And was he indeed the sort of person who could wriggle out of his obligations? The businesses I've described, the commuter airline, the string of apartments and casino projects, were known to have made enormous losses, amounting to around a billion dollars over the decade from 1985 to 94. But Trump always argued that these were paper losses that he contrived to reduce his tax payments. And also, he said, to spoof the banks who had lent him into restructuring their loans. He said in a tweet, much was non-monetary, sometimes considered tax shelter.

2:41Edward Starling: You would get it by building or even buying. You always wanted to show losses for tax purposes. Almost all real estate developers did and often renegotiate with banks. It was sport.

2:53Neil Collins: So not much has changed there.

2:55Edward Starling: Now, it's certainly true that the tax code was reasonably favourable for developers in the 1980s. particularly you could depreciate properties in a way that would drive down your taxable income if you had any. But the real problem that Trump faced in the 80s was a total lack of cash flow, which meant that by 1990, he was so strapped, he always missed a bond payment and was only able to make it because the banks were prepared at that point to lend him another$65 million in credit. Interesting, at the same time, he published a book called Surviving at the Top, which presumably reflected to some extent his predicament.

3:33Edward Starling: But the fundamental point about Trump is all these concessions came at a very humbling cost. His bankers gave him the extra money on the basis that he handed over management control of his businesses and also his only involvement would be to sell off the assets in order that he could meet his obligations and he couldn't even do that a year later. The whole thing came tumbling down. And he basically went bust. The only reason he wasn't personally bankrupt was because his father paid off the personal guarantees he'd offered. And that put an end to his career as a developer. And he switched to putting his name on buildings.

4:10Edward Starling: So I think we can start off by just saying the man who gave you the art of the deal wasn't necessarily so good at the art of the squeal.

4:17Neil Collins: I thought we were going to call it the art of the steel.

4:20Edward Starling: Well, we'll come on to that. But the real masters of the art of the squeal, I think, the main characters we're going to talk about today are, I'm proud to say, British. The mysterious Barclay brothers, David and Frederick, built a multi-billion pound empire from the 1960s, which comprised at its peak the Ritz Hotel, Little Woods, a cool and retail empire, and the Daily Telegraph. But I think we should go back right to the beginning of the story, which is in the 1950s, 1950s when the Barclay brothers who were born in 1934 grew up in West London their first business venture was a sweet shop in Shepherd's Bush called Candy Corner but unfortunately they got a bit of a muddled with a pick and mix or something and basically it went bust because Frederick was on the board of the company the sweet shop he was went bankrupt and he was in those days you were not automatically discharged after a period of time so he remained for some years an undischarged bankrupt.

5:19Neil Collins: This is not a piece of history which is reported in the Daily Telegraph.

5:23Edward Starling: Well maybe it will be now. But that didn't really stop the Barclay brothers for very long because they basically switched their business model from sweet shops to properties, buying up unfurnished flats in houses in West London and later they realised it's even better to go into the hotel business. They did it through a kind of web of business ventures partly because Frederick couldn't go on the board of any companies. And the way that they operated these businesses was they would appoint directors. And before the director could take office, he had to sign a letter of resignation, which was undated.

5:58Edward Starling: And at some point, if he didn't do the right thing, the date would be in 30s.

6:03Neil Collins: Ed, is this standard practice nowadays?

6:06Edward Starling: Only in law firms.

6:07Jonathan Ford: No, some things do not happen in the same way as they used to. But the use of directors is very common, particularly in insolvency circumstances, often when someone's made bankrupt or disqualified, there'll be someone there to do their bidding on the board.

6:20Edward Starling: Well, they were certainly doing their bidding in those days. So there are two real events, and they bookend the careers of the Barclay brothers. The first is in the 1970s, when they move out of effectively buying houses and flats in West London into the hotel trade. And they borrow a lot of money from a secondary lender called the Crown Agents. And the Crown Agents is a totally kind of weird organization. It was literally an agent for colonial governments based in London that would procure pencils and paper and whatever else, official documents, whatever they needed. And of course, by the 1970s, its role as a colonial thing was over.

6:58Edward Starling: And so it thought, well, what should we do? We'll go into properties going up. Let's do some property lending. The Barclays were there and very keen to buy some properties. And this once again comes on to a second vulnerability, if you like, in the system, which was that the Crown agents essentially hired someone to do their property lending who was very enthusiastic and I think also very corrupt. He went to a firm of lawyers who were acting for him and he said, can you get some of your clients introduced to the, you know, we need some business here.

7:28Neil Collins: So the lawyer was thrilled by this and basically went to the Barclays, who were also on his client

7:33Edward Starling: list and said, I can introduce you to the crown entrance and they can lend you some money, but it would be helpful if you could put me on the board of your hotel company, which I think we can definitely say that doesn't happen anymore going on. And essentially, one of the key roles that this person performed for the Barclays was he drafted the mortgage charge that the bank was going to take over Barclays hotels. And when the bank subsequently came to seek to exercise it, realizing that things were not going as well as they'd hoped, what they found was it was completely ineffective and they were unable to seize the asset.

8:10Edward Starling: So they were snookered, which is, I think we can all agree, is a pretty good thing if you want to avoid paying back.

8:16Neil Collins: Yeah, I think this is one of the keys of the Barclays' success as long as it lasted. They drafted the deeds for the loans in ways which essentially gave them loopholes or at least opportunities to defer any payment. This is a very useful thing to have if you can do it. If you can persuade the bank, because the lending office is not paying attention, not to spot one of these clauses in the advance, then it buys you, at the very least, a lot of time before you have to repay. Indeed, if you're clever at it, as they clearly were, it almost never got repaid at all.

8:58Edward Starling: Yeah. So they snook at the banks, But the question is, how do they then get the banks to also eat their losses, which they do? One of the things which happens to the crown agents, the lender, is it gets nationalized effectively because it is a state-owned company. But effectively, the state suddenly wakes up to the fact that this thing has run up enormous losses for which they're on the hook and takes control. When the civil servants and their administrators or whatever they would have been called then come in, the first thing they say to the crown agents is you must shrink your balance sheet as quickly as possible, which is by that stage quite large.

9:30Edward Starling: The Crown agents essentially say to the market, does anyone want to buy some of this debt that we have? And up pops an organisation that had never been heard of before or since called Treeport, which was run by two people called the Balsams, once again heard of never before or since. And they basically say, yes, we would like to buy this£9.5 million of loans. And they buy it for about a 60 % discount. and before the deal goes ahead, because the lender is concerned that there may be some nefarious activity going on here, they basically say, well, you must swear that you have no interest in Treeport.

10:10Edward Starling: And they say, absolutely, no future present ever. And then the deal is done. And who owns Treeport now? Well, I think it will find it's the Barclay brothers. And they took it over in 1978, having paid one dividend of the Balsams, who then presumably retreated to whatever else they had on and basically celebrated the success. So that's the thing which I think we could call capturing the discount. Is that fair?

10:34Jonathan Ford: Yeah, and I'd like to think the regulatory regime would rule out the dodgy lawyers, but it does happen. But buying back assets is not uncommon and is not always as nefarious as it seems. It can be a genuine outcome. Yeah.

10:49Edward Starling: Then we come on to the bit which was closer to your home, Neil, which was a later stage Barclay Brothers tricks.

10:55Neil Collins: They bought the Daily Telegraph and they also managed to buy the Ritz and of course they had to take the city editor of the Daily Telegraph to lunch at the Ritz and that was me. It was an extraordinary affair and it included both the brothers and the sons of Frederick I think one of them. Very hard to tell apart. One of them never spoke throughout the lunch. And there was no meeting of minds. I sat there and thought, who are these ghastly people? But I'd better be nice to them, otherwise I won't have a job by the end of the week.

11:30Edward Starling: The Barclay Brothers are very complicated. The way that they operated was most of their businesses that they bought were in the UK. So they had an onshore base of assets and income. And at the same time, they had a lot of complicated offshore ventures and a trust at the very pyramid, which was in Liechtenstein, which turns out to be a jurisdiction which is very hard to get any information out of at all. What they were doing was that they would buy assets in the UK. Basically, they would buy them mainly for debt. They would restructure them, sell off anything that wasn't nailed down. And then they would pay a very large dividend.

12:05Edward Starling: And the banks, seeing all this money sloshing around, is all fine. Sometimes a dividend, sometimes a loan out to a trust offshore. And the trust would basically pay for this loan or in return for this loan, it would issue loan notes to the Barclays onshore. And so they had moved their money effectively into a relatively opaque world.

12:26Neil Collins: And if you couldn't follow that train, you know why they did it?

12:31Edward Starling: Yes. With the assets, they also basically put them through a series of complicated structures, often in the British Virgin Islands, which would borrow the money. So if you were a banker, often you found that assets were all over the place, often at the end of a very complicated chain, or in Liechtenstein, who knew what was in there? It was a sort of Schrodinger's cat situation. And basically, your security was tied up in a great long line of funny companies where you couldn't even really trace what they owned in order to basically take possession of something.

13:04Jonathan Ford: Yeah, I think that's very common now with alternate high-worth individuals because the world is much more connected than it was even in the 70s. I suspect it's probably more complicated than that and that the bank have got some pledges in security offshore and would have been happy with their decision at the time, depending on where it then went. Whether they knew everything, whether they knew what the assets were, whether the assets were genuinely realisable. But often I think that, particularly with lenders in particular, you get sold, there's a story, there's a narrative that's quite compelling and everyone wants to get on the journey and it comes back to the risk-taking of the lenders or shareholders sometimes of, do I want to buy into this, and how much do I want to buy, and how much can I make?

13:43Edward Starling: Yes. So that's the Barclay brothers. But look at another rather simpler tactic for a borrower not to pay their debts is, I suppose, the use of threat. The best example, I think, is probably Mohamed Fayed, who kind of rose to notoriety in the 1980s, where he suddenly coughed up£600 million pounds to buy Harrods. How he made his fortune was never very clear. But the one explanation I think we can safely exclude is the one presented by his bankers, Kleinwert Benson, when they acted for him in the takeover, when they described him as the expensively educated scion of one of Egypt's richest shipping families, which she was not.

14:21Edward Starling: There are lots of theories about how Mohammed Fayyad got his money. It seems as if the source was probably the Sultan of Brunei, who he had worked for and had given him money to do what were called tasks on his behalf. The thing about Fayed is he's well known for using blackmail and taking photographs of people in embarrassing situations and stowing away the pictures for later use. And the use of bugging surveillance and intimidation have all been well known in the courts recently. I think one of my former colleagues, he looks at him, came to the conclusion that he basically had preyed on the human weakness of

14:58Neil Collins: money and sex.

14:59Edward Starling: Sort of, yeah. No, not.

15:01Neil Collins: I thought they were immune to that sort of thing on the FT.

15:04Edward Starling: Well, they never got rewarded. But so it wasn't clear what the leverage was. But I think this is a very simple thing, just playing on human weakness. And that is a permanent sort of situation.

15:13Jonathan Ford: Yeah, I just think everyone plays by their own rules, depending on their own, you know, morals. And, you know, often you see situations which don't, you know, I live in a little bubble. I'm a lawyer. I live near London. I don't often get threatened by people, but it happens day to day in certain industries, you know, on a basic level, things like scaffolding, you know, got mummified, threatening people, but, you know, scaffolding have their own way of working things out. You know, they go and lick each other's poles or they send the heavies around. I mean, we're pretty immune from that generally.

15:42Jonathan Ford: But again, it comes down to people's approach to business, approach to people, approach to risk.

15:48Edward Starling: Those are two. A third, which I think touches on some of the things that the Barclay brothers have done,

15:52Neil Collins: is we might talk about private equity

15:54Edward Starling: because they are quite effective at certainly doing what's called capturing the discount, where effectively, I mean, if you think about the business model is you buy a business, you leverage it up very highly and things will periodically go wrong because there just isn't very much equity in the business. And then the question is who blinks first? Is it the bank or the private equity firm? And I think there are structural reasons why the banks often blink first.

16:20Neil Collins: It should be. that's the whole point of the equity is there to provide a buffer for the banks. But clearly, it doesn't work.

16:27Edward Starling: Well, I think it doesn't really work. It can be finessed, if you like, by the private equity firm. Whereas if you are even the Barclay brothers, and you basically get in trouble with your banks, there's only one of you. And when you're out of business, you're no longer in the game. Two of them, sorry. Well, none now. But if you are a private equity firm, like KKR or Apollo or whatever, and you basically make a mess of some acquisition, the banks are very well aware that, you know, private equity is what, a third of the US industrial economy. You're going to be around and you will survive. And therefore, there is a start point, if you like, that you're more likely to not want to annoy these people.

17:08Edward Starling: I think the other thing is that even though the profitability of lending for depositors in banks from private equity is unknown and thought to be not fantastic, the incentives for banking executives to extend loans to banks and get the very large arrangement fees is quite strong. So you want to preserve those relationships if you can.

17:32Jonathan Ford: The model for PE is you buy, you tend to expand, and you try and sell. Clearly, there's a very close relationship with their own bankers. But it doesn't always work. There's a portfolio approach. And you've got to remember that they're often putting in money in a high risk situation. So they're going to want some return for the risk they're taking. I mean, I've never seen any evidence, and you might disagree, that a PE house has gone in deliberately to bust a company. But do they protect themselves in doing so? Absolutely. Management fees taken out when times are good. Generally, it works out.

18:04Jonathan Ford: If it doesn't work out, that's when you start exploring what's happened and whether, for example, you can claw back management fees from the PE has.

18:10Neil Collins: The other point I think is worth making is that banks are not monolithic. So the lending officer who approved the loan to the private equity in the first place is unlikely to be the same person who is looking at a distressed loan because the security is underwater and they have very different appetites to risk and approaches to what they do. And I think it's important to remember that, that they are not, as I say, monolithic organizations.

18:41Jonathan Ford: I did a secondment at a bank as it was going bust, a retail property bank, and they brought in the sort of front-end sales team to do the credit work after it went bust. So these are the guys writing the loans, and they were like, I had no idea this is how it worked or how to get it back. Never thought about it, just incentivized to do the deal. And now I'm on the other side picking up the pieces, trying to, in this case, sell properties to get the money back.

19:03Edward Starling: As we saw after the crisis with the various restructuring groups at NatWest and other firms, you got your bonus making the Duff loan on the way in, but different people got a bonus on the way out for selling the property as quickly as possible. Anyway, their personal incentives are very different. And as Neil says, it's a very non-monolithic operation. But I think if you look overall, and you're absolutely right, the thing about private equity is they also, they have the ability to follow their money, to put more money into distressed situations. Whereas generally an entrepreneur who's got it all wrong is basically run out of cash.

19:38Edward Starling: And that gives you the capacity to go and put in a little bit of money and buy back a lot of debt, which is essentially what. Apollo has a fund or a part of its business which literally specializes in investing in distressed buyouts. I think in 2013, having by that stage gone public, so there was a bit more disclosure about what it was doing. it revealed the fact that the stress buyouts, it made twice on them what it made on conventional buyouts. And a specific example was a fund they raised in 2006, where they raised about$11 billion for what was called their fund six. And four years later, it reported this 11 billion.

20:17Edward Starling: So we'd gone through the financial crisis that had increased in value to 15 billion. But their filing showed that of this 15 billion total value, 9 billion came from the pockets of lenders. So it was a discount they had captured by buying debt back on any proportion of its face value. So they had essentially persuaded lenders, presumably in this very difficult time when they were all desperate to shrink their balance sheets, to effectively give back$9 billion, which is pretty nice business if you can do it.

20:46Neil Collins: Absolutely, yeah. It's worth every penny of$2.20, I would say, because, you know, it's jolly hard work persuading the banks to take a billion dollar loss. Sorry, am I being a

20:57Edward Starling: bit cynical you're being no no unexpectedly cynical for you maybe you can present the case

21:03Neil Collins: for philip green another man who's the case for philip green is that he was a fantastic generator of entertaining news headlines yes and scarcely a week went by without some further uh revelation from what he'd been up to and he built british home stores uh we didn't build he didn't build He bought it. He bought it when it was struggling and managed to persuade. I think his wife was the technical owner and she persuaded him to pay a dividend to her.

21:38Edward Starling: How much was it? I can't remember now. £423 million.

21:42Neil Collins: Yeah, the way one does, you know, darling, I'm a bit short this week. £423 million would be jolly useful.

21:49Edward Starling: Yeah.

21:49Neil Collins: So that's very helpful. However, the money had to come from somewhere, and it certainly wasn't coming out of the profits of VHS.

21:58Edward Starling: So it was quite a Barclay Brothers story. He was taking money out of the UK in dividends and putting it in Monaco.

22:04Neil Collins: I think it was worse than the Barclay Brothers, actually.

22:07Edward Starling: One of the reasons that looking at Philip Green's, you know, a lot of what we describe with the Barclay Brothers could be described as consenting adults wrestling over an asset, basically. And if one gets the better of the other, fair enough. Where it becomes a little bit more problematic is where essentially the losses are being loaded onto, for example, pension scheme members.

22:29Neil Collins: So just employees who were entitled to expect those might be honoured.

22:35Edward Starling: And also possibly the taxpayer in terms of paying redundancy payments for people who've been somewhat left in the lurch. So yeah, Philip Green, I'm afraid, falls foul of both these principles of things you shouldn't do.

22:48Neil Collins: So we started with the Barclay Brothers in an era when a bankrupt could not be discharged after a period of time.

22:55Edward Starling: That's all changed in the 80s. And basically, you can just do your time.

23:00Neil Collins: What's a year? Is it only a year? Bloody hell.

23:03Edward Starling: So that made me think differently about Sundays.

23:08Neil Collins: I would go for it. Why not?

23:11Edward Starling: I mean, I suppose this is all the balance. And the question is, is the way in which the playing field is set, is it broadly, in your view, correctly set? Or do you think there are things which structurally tilt it in favour of one part?

23:26Jonathan Ford: I think it broadly works. The problem is you can't legislate for everything and you can't legislate for everyone because there are people who will push the boundaries. There are people who will do it fraudulently. Nothing more than pushing the boundaries. That's how people make money on high risk, high reward circumstances. I think it broadly works well. I think there's a better industry now to get recourse if things go wrong. You can't stop things happening, but there's a much better system to try and get it back or get some credit system money after the event.

23:57Neil Collins: What's the worst situation you've ever come across?

23:59Jonathan Ford: The BHS was pretty awful. Typically, on smaller companies, there are deals where people will put a charge in the day before just to be able to choose the administrator they want in order to buy the assets back and not investigate too highly.

24:13Neil Collins: It doesn't happen as much anymore.

24:14Jonathan Ford: If you asked me 15 years ago, I'll be talking for two hours, but actually the regulation has tightened up. The industry is much better and 99 % of these things are absolutely fine. We just happen to be talking about the 1%.

24:25Neil Collins: Yeah, and what is generally not taken into account is the fact that all this reorganization is expensive and it doesn't actually help the business itself at all. when you're just having a financial reconstruction, whether it be a prepack, whether it be bought out of administration or whatever. The shorter you can make that process, the more there is left for the business going forward.

24:54Jonathan Ford: But you mentioned a good point, and that's cost, because I don't want to do myself out of any work. But it's a restructuring kind of... Oh, they're very solid. Restructuring plans are the new kill on the block, which, yeah, they just cost an absolute fortune because there's advisors giving detailed, you know, 100, 200-page reports on what's the alternative. Is it admin liquidation, a buyout, how each of the creditor classes come off. You can't do it for less than half a million quid, probably. And so it can only be a certain level of company that is even exploring it. But for most companies that we're affected by day-to-day, it's not even relevant.

25:28Edward Starling: Well, look, thank you, Edward. And thank you, everybody.

25:32Jonathan Ford: Brilliant. Thank you.

25:36Neil Collins: That was A Long Time in Finance with Jonathan Ford and Neil Collins. Production and editing by Nick Hilton. And our sponsorship partner is Briefcase.news. If you enjoyed the show, please rate and review it on your podcast app, as that will help new listeners find us.