The Billion Dollar Dinner

2014-09-20 17.17.34Early in my finance career, I was invited to a very nice dinner. The occasion was to celebrate the firm passing the $1,000,000,000 mark for assets under management. In the early 90s, a billion dollars was a lot of money…

Roll forward 25 years and a billion dollars has become a salary for the best hedge fund managers. What an amazing industry.

In my article on fees, I introduced the concept of a “two and twenty” fund. The partnership received 2% of the assets under management (annually) and 20% of the gains. I didn’t run the numbers at the time, but the partners were celebrating ~$400,000,000 of fees and potential profit sharing. Huge sums of money created by the smartest room of people with whom I’ve ever shared dinner.

I can’t remember much about the dinner but I probably drank too much. I had some bad habits in my early 20s and the partners warned me to dial down the boozing! I wouldn’t discover the medicating effect of exercise until five years later.

Fortunately, I had good habits that balanced the bad.

Always make the needs of your boss your #1 priority. The only exception to this rule is if your boss’s boss makes a request!

When I started in London, they carved off a piece of hallway to create a cubicle for me. My chair was the only desk that could be seen from the Managing Partner’s office. When my boss had a task for me, he’d lean forward and yell,

Byrn, Heel!

Yes, I was treated like a dog.

And I loved it.

I’d stop whatever I was doing and scamper into his office for instructions.

The other habit that served me well was saving 50% of everything I earned between 12 and 30 years old.

My parent’s divorce left me with a deep fear of running out of money. As a result of my fanatical savings, I had capital to invest later in my career. In fact, I invested so much in the partnership that the regional heads changed the rules to restrict the investment of junior partners! Envy is part of the finance game and it worked out well for everyone.

With the size of the numbers bouncing around, you’d be forgiven for thinking that I’d retired a wealthy man. I made good money but decided to leave most of it on the table to try my luck at triathlon. It was a decision which, rightly, seemed totally bizarre to my family. I left the firm with a net worth of 20 years living expenses.

Always compare financial wealth to spending and remember life’s about time, not money. I didn’t become a wealthy man until I cut my spending, moved to a low cost location and began to pay attention to what gave me satisfaction.

Far more valuable than money, perhaps the moral of today’s story:

  • Save as much as you can, and work your tail off, early – the freedom later is worth it
  • Everyone needs to learn basic financial accounting and the time value of money – in a world dominated by greed and envy, financial literacy is invaluable. I use these skills every day.
  • Getting paid a lot didn’t satisfy me. I had no idea what motivated me until my life was reset via divorce, unemployment and massive financial loss. I could have made a ton of money sticking with the status quo and that would have been a mistake. Finance could have cost me my health and turned me into a dick.

The best advice I received on my career was from a man, now gone, that was at the dinner that night (link is to my blog about my mentor).

Learn, make money, remember to leave.

When most everyone was telling me that I’d make partner if I stayed in London. An honest man took me out to breakfast and shared advice about living a good life. A good person in an amazing industry. He wasn’t the only one and I miss the team from my early career.

To my friends in Private Equity, thanks so much for the good times and memories we shared.

A Fiduciary’s Reading List

I’ve completed William Bernstein’s recommended reading from his eBook, If You Can.

The reading humbled me. With a 1st Class degree in Econ / Finance, and 20 years experience in international investing, I was left feeling intellectually arrogant and ignorant. Each of these books challenged my beliefs while explaining financial history.

I’d recommend making these books compulsory reading for your advisers and key family members.

Good people can be found in the field of finance. I appreciate the significant time that each of the authors spent to educate willing readers.

The Millionaire Next Door – introduces the key concepts of wealth, saving, investment and taxes

Your Money & Your Brain – a solid summary of the latest on behavioral psychology as it relates to finance and investment – why I will always fool myself

The Great Depression: A Diary – an inside look at what it is like for a conservative, professional family to live through a depression – 2008-2010 was easy compared to the 1930s – could your family survive on minimal income for multiple years?

All About Asset Allocation – the early chapters were the most useful – simple explanations of the role that volatility plays within a portfolio – reading this book, you’ll be tempted to seek the perfect portfolio mix – my decision has been to keep it simple

Common Sense About Mutual Funds – a wealth of information – Bogle picks apart the industry by making his case for simple and low-cost investing – the book makes one wonder how brokers and financial advisers can sleep at night – readers will learn about the industry structure that silently fleeces its customers

Side Note: if you worked in finance from 1980 to 2000 be sure to adjust your brilliance for volatility and leverage using Bogle’s updated charts. We had one heck of a tailwind. Humbling!

How A Second Grader Beats Wall Street – don’t be fooled by the child-like title – this book will save your family tens of thousands of dollars in fees and taxes

Devil Take the Hindmost – a history of financial speculation – hedge funds in the 1860s & derivatives in the 1600s (!) – as Taleb says, we’re never going to get rid of greed, the challenge is to build the system so the greedy don’t inflict suffering on the good


To Bernstein’s list, I’ll add Estate & Trust Administration for Dummies – a good primer to get you thinking outside of your own self interest.


If you are in an advisory, or trustee, relationship then tick off one book per meeting with your professional team.

Read a book, take notes and discuss how the book impacts your family (or your firm).

Challenge yourself with exposure to the best ideas available.

Studying new approaches can be painful but we all benefit from a bit of cognitive dissonance.

Hidden Costs of Investing

My career in finance was built on our collective reluctance to act on what I’m about to explain.

I know that it’s a pain to change who manages your assets. However, you give up a TON of money by not forcing yourself to choose the lowest cost provider.

How much? Let’s see if we can find out!


I’m 45 years old and I want to draw down my retirement assets at 70. For each $100,000 of my portfolio, what does it cost me to use active management vs the lowest cost provider of passive management?

The table above assumes that you’re not getting (legally) ripped off. A fee/expense differential of 1.2% per annum isn’t out of the ordinary. I’ve worked with vehicles that had total fees and expenses of up to 5% per annum.

The number that should catch your eye is $131,853 OF LOST RETURN per $100,000 OF INVESTMENT. The extra 1.2% of fees means you miss out on the equivalent of 131% of your initial investment over the life of this deal.

By the way, when I help people review the true cost of their portfolios, their fees and expenses are usually more than this scenario. I know it hurts to think that you’re being ripped off but please read through to the end!

What about professional investors? They must be smarter, right?

I don’t know about smarter, but I do know that large institutions are treated very well by their managers.

Government pensions, insurance companies and high-net worth families. They have invested with the firms that taught me finance, and we did very well for them. However, we also did very well for ourselves.

We did this by offering terms called “two and twenty” – we received an annual fee of 2% of the assets that we advised and 20% of the gains that we generated. What’s that look like?


With 10 years at 7%, a passive investor would receive $195,797 for each $100,000 invested. Using the terms of a professional manager, the money back falls to $150,312 per $100,000 invested. The reduction is due to the impact of fees ($32,908) and profit sharing ($12,577).

The pros are giving away 48% of their return. I’ll leave the “why” for Michael Lewis, Taleb and Kahneman to explain.

But it gets better!

If you live in a large American state then, odds are, your state pension invests in something called a “fund-of-funds.” A fund-of-funds is an active manager that invests in “two and twenty” funds. Two sets of fees. The scale of the resulting underperformance is breathtaking.

Why does this matter to you?

Here’s why. A financial adviser that invests your money in a pool of active managers is delivering a fund-of-funds approach to your portfolio (and you’re probably getting screwed by fees).

All of this is legal and has to be disclosed to you (as investor and/or state taxpayer).

If you ask about total, look through cost of investment and your adviser starts stalling, then you have a problem. 

Also be wary when advisers produce a fee example for a “tax-free investor.” You and I pay taxes and most changes in portfolio mix have a cost to us.

TIP: The best investment you can make is knowing the true cost of your investment strategy. Get it done this week!

“Little” percentages cost you big dollars over time.


Make the call and ask… “Fees, expenses, transactions costs, taxes – please tell me everything that I’m paying all the way through to the final investment.”

When you get the information, go compare to what a company like Vanguard can do for you.

How To Own The Hospital

Halfway through my first decade in Private Equity, we used this scheme to raise money for investment.

Step One: Start by creating a partnership agreement that outlines how everyone will work together.

Step Two: To show you a case study with numbers, lets assume that the hospital pays $10 million of gross compensation to the doctors. If the docs form a partnership then the partnership would have net income of $10 million.

Step Three: The docs agree that 25% of their gross compensation ($2.5 million) will be at risk for debt service. This would let them borrow between $30 and $62.5 million.

  • $30 million is $2.5 million total repayment per annum, 15 years, 3% cost of funds
  • $62.5 million is $2.5 million interest only repayment, 4% cost of funds

You could top this up with an equity investment from the docs. I seem to recall that we committed about 20% of the amount that we raised in debt. Let’s ignore that for now.

Step Four: When we used this structure we invested alongside a financial partner. In our case, this was the private equity funds that we advised.

If you were buying a hospital then you might want to have the hospital administration as part of your partnership.

Your partnership could joint venture with a deep-pocket financial partner (private equity fund or insurance company) or an operating partner (hospital management company).

This could double the amount of equity that you had available and take you to $60 to $125 million.

Step Five: Depending on the cash flow strength, and asset structure, of the hospital you are acquiring, you might be able to raise debt that is 2-4x the value of your equity investment.

That gives a range of $180 to $600 million total deal size.

I wonder if there are restrictions on leverage for hospitals?

Step Six: Keep doing what you are already doing.

When we used this structure:

  • We invested in a range of deals, rather than a single business
  • Debt was recourse against the partnership, but not the partners. Putting this in context of the above example – the bank that lent the money to could come after your medical practice but couldn’t come after the doctors
  • Proceeds from the deals (dividends and capital gains) were sufficient to cover the cost of partnership debt service. Putting this in context – structured properly, the hospital investment generates enough cash flow so doctor compensation stays the same

Step Seven: Run the hospital to pay down debt and generate cash for the doctor’s investment vehicle.

The structure came about because the partners realized that the assets (in our case investment funds) were useless without the investment team.

The deal we did was part of a restructuring that enabled the workers to control their means of production.

Nobody mentioned the irony.