Barbarians at the Gate

by Bryan Burrough

  “Henry,” Gleacher said in mock wonder, “I’m reading about you in the papers.” He laughed, unable to resist taking a shot at Jeff Beck, his competitor. “Can you believe these Drexel guys?”

  “Goddamn it,” Kravis fumed, “I’ve never been so mad in my life. Can you believe this? I almost dropped Drexel right out of this deal.”

  Chuckling to himself, Gleacher phoned Johnson in Atlanta. Johnson returned the call minutes later from his New York apartment. The Morgan Stanley banker was surprised to find Johnson in his usual high spirits. If Kravis’s offer had thrown him for a loop, Johnson wasn’t letting it show.

  “Goddamn, what a price!” Johnson exclaimed. “Boy, this is crazy. But what a great job we’ve all done for shareholders.”

  Gleacher didn’t know what to make of Johnson. Did the guy really not care that he was losing his company, maybe his job?

  When Johnson called Henry Kravis a few minutes later, Kravis, too, was surprised by the onslaught of cheerfulness from RJR Nabisco’s president. Johnson sounded anything but shaken by news of Kravis’s move.

  “My God, Henry!” Johnson said. “I knew you were rich, but I didn’t know you were that rich! That’s one hell of an offer….”

  In contrast to Johnson’s inexplicably sunny greeting, Kravis’s tone was calm, businesslike: “Ross, I just wanted to let you know, as a courtesy. We’d like to buy the company. And we’d be happy to sit down and talk with you and see if we can get together. We’d love to have you run this company.”

  “Well, let’s see how things work out,” Johnson said. “I’ll get back to you.”

  It was over that quickly.

  Later that morning, after relaying similar messages to Jim Robinson and Charles Hugel, Kravis phoned and confronted Jeff Beck. If he could have reached through the telephone line and strangled the Drexel banker, he would have.

  “I can’t believe you did this to me,” Kravis seethed.

  Beck immediately grew panicky. “I didn’t do it. Henry, you gotta believe me. I didn’t do it!”

  “These articles sure lead me to believe you did,” Kravis said icily. “I don’t want anyone around that can’t be trusted. I don’t want anyone on this team who’s out for their own selves. We’ve got no use for that. That’s it, Jeff. I don’t want you at any more meetings.”

  Beck became hysterical. He had a multimillion fee, not to mention his reputation, on the line. “Henry, it wasn’t me,” he said. “I didn’t do it! I didn’t do it! You gotta believe me! It was Wasserstein! It had to be Wasserstein!”

  Beck pleaded and begged, but Kravis quickly grew tired of the panicked denials.

  All that day, every thirty minutes or so, Beck phoned Kravis, but not a single call was returned. Beck pleaded with Paul Raether and the others, swearing his innocence, and even turned to newspaper reporters to back up his story, to no avail. For days Beck would hang in limbo, unable to sleep, unsure of his standing with Kravis.

  At one point that day, Beck heard that Eric Gleacher was spreading the story he was behind the leaks. He called Gleacher’s partner, Steve Waters.

  “Tell Eric,” Beck said, “that if he says it one more time, I’ll break his fucking neck.”

  The leak’s true source proved a topic of enduring debate within Kohlberg Kravis.

  For several weeks Jeff Beck was exiled from all strategy meetings as he remained in Kravis’s doghouse. Eventually, Beck was taken back into the fold when Kravis came to believe the Drexel banker had cleverly been set up by the real Deep Throat: Bruce Wasserstein.

  Kravis aides theorized that Wasserstein leaked the story to the press to force Kravis into a prolonged fight for RJR Nabisco. The perceived motive: Wasserstein’s desire to prevent Kravis from bidding for Kraft instead. Wasserstein was advising Kraft’s suitor, Philip Morris, and was deathly afraid he would lose his prey to Henry Kravis. “He wanted to give us that last little shove over the edge,” said Paul Raether. In fact, Kravis had been in touch with Kraft’s chief executive, John Richman, about exactly such a move as late as Sunday afternoon.

  To cover his tracks, Kravis believed, Wasserstein shrewdly planted references to Drexel Burnham in that morning’s New York Times story, knowing it would draw speculation to the loquacious Beck.

  Months after the deal’s completion, Kravis and Raether again amended their theory. After checking Kohlberg Kravis phone records for that Sunday night, they claimed to have identified phone calls to reporters for The Wall Street Journal and The New York Times. Kravis came to believe there were dual sources for the leaks, Beck and Wasserstein, one for each newspaper. Beck’s motive, they surmised, was pure ego: He wanted to take credit for the deal. Whatever the truth, both Beck and Wasserstein fervently denied being the sources of any leaks.

  The leak controversy would have consequences for Kravis far beyond that day. From that morning on he faced a simple fact: He couldn’t trust his advisers, men to whom Kohlberg Kravis would ultimately pay well over $500 million. For the remainder of the RJR Nabisco battle, Kravis, Roberts, and their aides largely worked alone. Although they continued to seek financial analysis from the bankers—they wanted something for their $25 million—both men tended to share their true thoughts only with Kohlberg Kravis colleagues. At times they intentionally misled their own bankers, hoping a Wasserstein or a Beck would inadvertently spread misinformation.

  Kravis’s announcement went off like a bomb in John Gutfreund’s lap. RJR Nabisco’s stock skyrocketed on news of the Kravis bid, forcing Gutfreund to put Salomon’s plan to buy RJR Nabisco stock on hold. At eleven o’clock, Bill Strong and Chaz Phillips met with Hanson representatives at the British firm’s midtown offices and were told the bid was being reconsidered. By three o’clock it was dead.

  By evening the previous night’s meeting had receded into the Salomon bankers’ consciousness like a bad dream. Gutfreund toured the bankers’ seventeenth-floor offices, intently questioning the strategy they had pushed on him so avidly the evening before. At one point he suggested the bankers had been “cavalier” with Salomon’s money. On his departure several of them, in a black mood, dubbed themselves “The Cavaliers,” a nickname that stuck for some time.

  “Last night we were brilliant,” a brooding Chaz Phillips said. “Now all of a sudden we’re stupid assholes.”

  Ross Johnson sat in his apartment across Grand Army Plaza from Kravis’s office and tried to make sense of the morning’s events. Gone was the brave front erected for Kravis and Gleacher. In its place was a face few of Johnson’s friends had ever seen: The Merry Prankster with vertigo.

  “As far as I’m concerned,” Johnson told John Martin, “this is all over.”

  Chapter

  9

  Theodore J. Forstmann slipped into his white terry cloth bathrobe and padded down the gently curving staircase to breakfast. Bright shards of morning light streamed through the windows of his duplex apartment high above the East River. Far below, Monday-morning commuters poked their way through the traffic snarl on Franklin Delano Roosevelt Drive.

  In the kitchen Forstmann could hear his maid, Noemi, readying his usual breakfast of coffee, bagels, and half a grapefruit. He looked forward to a leisurely breakfast. It gave him time to read the morning papers.

  At forty-nine, Ted Forstmann maintained the solid build and broad shoulders of an ex-athlete. His tennis game was better than it had been as a teenager—so good, in fact, he sometimes volleyed with professionals. His Mediterranean features were highlighted by olive skin, a gift from his Italian mother, that crinkled around his eyes in dark folds. His hair was going gracefully gray.

  Beneath the dining room’s French rock-crystal chandelier, Forstmann was encircled by tall shelves of leather-bound volumes. His toes caressed the soft Turkish rug as he settled into a tiger-patterned velvet chair. Over his left shoulder gazed the asymmetrical eyes of a Picasso. Forstmann’s address was among Manhattan’s most exclusive: His neighbors included Rex Harrison and Greta Garbo.

  Here, anyon
e would say, was a man who had everything. One of New York’s best-known bachelors, a Republican party fund-raiser of national repute, Ted Forstmann lived in a world of chauffeured Mercedes, corporate jets laden with fresh fruit and gold-plated bathroom fixtures, and plush, liquor- and television-stocked helicopters that whisked him over Manhattan traffic. Through hard work and a dash of luck, his ten-year-old firm, Forstmann Little & Co., a specialist in leveraged buyouts, now owned firms boasting $8 billion in revenues, throwing off enough cash for Forstmann to maintain second homes near Southampton and Aspen. His office held a smattering of Western art, a drop-dead view of Central Park, and a photo of Forstmann clasping hands with Ronald Reagan. In his spare time he bankrolled an Afghan rebel group.

  His wealth, it seemed, had bought Ted Forstmann everything but serenity. For Forstmann was a deeply angry man, burning with a resentment that friends and business associates knew best to steer clear of. At the drop of a name—that name—he would launch into an impassioned, ten-minute denunciation. Friends had heard the speech a hundred times. On Wall Street, Forstmann knew, some were calling him a Cassandra; holier than thou, competitors sneered behind his back. Forstmann didn’t care. He read Winston Churchill’s biography and identified with the statesman’s lonely campaign to warn the world about Nazi Germany.

  That morning Forstmann was to be reminded yet again of his obsession. Unfolding The Times, his eyes were drawn immediately to the headline at the upper right corner of the business section. “KOHLBERG BID IS SEEN FOR RJR.” He scanned the story intently.

  Those fucking assholes, Forstmann said to himself. They’re doing it again.

  The Kohlberg Kravis bid for Nabisco was worthless, Forstmann could see. Ninety dollars a share was a meaningless price. It might as well have been pulled out of thin air. Hell, Forstmann told himself, the little fart could bid twice that much for all his junk bonds are worth. Once more, Henry Kravis was using a thimbleful of cash and a wheelbarrow load of debt to attempt the takeover of a great American company. Forstmann checked the article again. Of course there were no details of Kravis’s financing—there wouldn’t be—or much other relevant information.

  What the Kravis bid did have, Forstmann saw, was an unusual number of conditions: financing and the approval of RJR Nabisco’s board, among others. Oh, it’s a bid, Forstmann reasoned, that is, if Kravis doesn’t get a cold, if the Dodgers win the World Series, if his wife makes fourteen more dresses….

  He could feel the anger welling up inside him. It was a familiar feeling. Ted Forstmann had been angry for five years now.

  Wall Street had been taken over by a cartel, Forstmann believed. A junk-bond cartel. A cartel whose guru was Michael Milken of Drexel Burnham Lambert and whose most powerful member was Henry Kravis of Kohlberg Kravis. A cartel that now had the upper hand in the looming battle for RJR Nabisco.

  The cartel’s product, the high-yield, or “junk,” bond, was by 1988 being used to raise money—usually for takeovers—by virtually every major investor, brokerage house, and leveraged-buyout firm. Ted Forstmann fervently believed junk bonds had perverted not only the LBO industry, but Wall Street itself. Almost alone among major acquirers, Forstmann Little refused to use them.

  To Forstmann the junk bond was a drug that enabled the puniest acquisitors to take on the titans of industry, and he held it responsible for twisting the buyout world’s priorities until they were unrecognizable. No longer, Forstmann believed, did buyout firms buy companies to work side-by-side with management, grow their businesses, and sell out in five to seven years, as Forstmann Little did. All that mattered now was keeping up a steady flow of transactions that produced an even steadier flow of fees—management fees for the buyout firms, advisory fees for the investment banks, junk-bond fees for the bond specialists. As far as Ted Forstmann was concerned, the entire LBO industry had become the province of quick-buck artists.

  The junk bond itself wasn’t to blame, Forstmann held. In its normal form it could be a useful financing tool. What he objected to were the mutant strains that seemed to crop up with each new transaction: securities that paid interest only in other bonds (called pay-in-kind, or PIKs), stocks that were crammed down shareholders’ throats (known artlessly as “cram down”), and bonds whose interest rates escalated until debt service choked a company to death. Forstmann derided these securities as “funny money,” “play dough,” and, his personal favorite, “wampum.” In speeches to institutional investors, he took to waving a piece of Indian jewelry to make his point.

  Sooner or later, Forstmann knew, the economy would turn down and all the junk-bond junkies would go belly-up when they couldn’t make their mountainous debt payments. They were like those “no-money-down” real estate investors with no money in their pockets when their debts came due. When that happened, Forstmann feared, the use of junk-bond debt would be so widespread that the entire U.S. economy might be dragged into a depression.

  Of all Drexel’s junk-bond clients, by far the most nettlesome to Forstmann was his archrival Kohlberg Kravis. Kravis not only used more junk bonds than any other, but it did so in Forstmann Little’s front yard, the LBO industry. The longer Ted Forstmann stewed over the junk-bond menace, the more the focal point of his anger became Henry Kravis.

  Ironically, they had once been friends. Now Kravis was Ted Forstmann’s obsession. Forstmann saw the contrast in terms that approached the apocalyptic. To him Kravis was nothing less than a Wall Street Faust who sold his soul for a pile of junk bonds and a new takeover every Monday morning. At the mention of his name, Forstmann would snort in derision, roll his eyes, and heave a deep sigh. Words such as fraud and liar spewed from his lips. In his worst moments Forstmann referred to Kravis as “that little fart” or “the little bastard.” *

  Those attempting to research Kohlberg Kravis and the LBO business inevitably received an earful of anti-Kravis vitriol from Forstmann. A snort, a sigh, a roll of the eyes, and Forstmann was off. His face would go white. His tone was incredulous, the voice of a man who couldn’t get others to see the obvious.

  “It’s like Alice in Wonderland,” Forstmann would say in exasperated tones. “The reason Kravis can pay these incredible sums is that his money isn’t real. It’s phony. It’s funny money. It’s wampum. These guys are getting away with murder, and nobody knows it.”

  The companies Kohlberg Kravis owned, Forstmann would rail, aren’t half as healthy as they claim. The returns Kravis paid his investors, Forstmann insisted, weren’t a fraction of Forstmann Little’s. And every new Kohlberg Kravis deal furthered a machine that Forstmann feared was threatening the economy.

  Many who knew both men considered that Forstmann’s rage was fueled by envy. Certainly that was part of it. Occasionally, after attacking Kravis for twenty minutes, Forstmann would deny he held a personal grudge. “It’s more than personal,” he would say. Kravis wasn’t his enemy: He was simply the most egregious symptom of a disease that infected all Wall Street and ruined the industry Ted Forstmann helped build. It was a distinction few outside Forstmann Little could appreciate.

  Sometimes it seemed that Ted Forstmann had been born angry. His grandfather, an autocratic, 300-pound German immigrant, founded a textile company that made him one of the world’s richest men before World War II. Ted’s father, Julius, inherited the family company, Forstmann Woolens, and raised his children in splendor in a Greenwich, Connecticut, mansion complete with tennis courts and a private baseball field. For all its wealth, the Forstmann household was far from idyllic. Julius Forstmann was an abusive alcoholic. The Forstmanns owned guns and young Ted, the second of six children, grew up in physical fear of his father. Many nights the Forstmann home echoed with the sounds of screaming fights, sometimes sparked by Forstmann’s mother challenging whether her husband had been drinking against doctor’s orders. It took decades for Julius Forstmann’s offspring to work out the problems of their turbulent youth: As adults, Ted and his brother Tony wouldn’t speak for a period of ten years.

  In his t
eens, Ted Forstmann channeled much of his anger into sports. By sixteen he was ranked among the East Coast’s top junior amateur tennis players. His joy in the game, though, was slowly crushed under the pressure of his diminutive, ambitious mother. “A tennis mother” he called her. “She pushed me too hard.” By seventeen, Forstmann’s promising career was over. Tied 5-5 in the finals of a major junior tournament at Forest Hills, he disputed a key call. Overruled, Forstmann’s competitive fire flickered. He lost the set 7-5; the next was a 6-0 washout. “I just couldn’t take it anymore,” he recalled, and would not walk onto another tennis court for seventeen years.

  Hockey was Forstmann’s other love. An able goalie, he had first stepped before the net at the age of eight because he couldn’t skate. He liked the independence afforded by the big goal at his back, the feeling that his success turned on no one but himself. At Yale, Forstmann became a straight C student and an All-East hockey goalie. After graduation, Forstmann turned down an invitation to join the U.S. national team at the world championships, without ever knowing quite why. Instead, he wandered for a year through a succession of minor jobs, teaching gym at a reform school, working for a Washington law firm. He was, he would later say, a “mixed-up kid” attempting to come to grips with his childhood. Then his father died.

  Julius Forstmann’s fervent wish had been for his second son to attend law school, and Ted Forstmann enrolled at Columbia three months after his father’s death. But the money from his father’s estate began to dwindle soon after. Forstmann Woolens had failed and was sold. His father’s estate, while paying for tuition and books, gave Forstmann a paltry $150 a month. To live as he was accustomed, the rich kid from Greenwich took to high-stakes bridge games. Always a good card player, Forstmann was soon living in a $350-a-month apartment in midtown Manhattan.

  Upon graduation he joined a small Manhattan law firm, and for three years Forstmann endured the minutia of corporate legal work. Many days he sneaked out by four P.M. to a bridge game where, on a good night, he could rake in $1,500. Forstmann detested the long hours spent in law libraries doing research for senior partners, but he had too little self-confidence to leave—until the day the small firm reeled in a major Wall Street bond underwriting and presented the young lawyer with the ultimate menial job. “Forstmann,” the senior lawyer had proudly intoned, “you will be our liaison with the printer.” At that moment, Ted Forstmann made up his mind to flee the restraints of the legal world.