The definition of the word hypocrite, according to Merriam-Webster, is “a person who puts on a false appearance of virtue or religion.” Stephen Schwarzman, CEO of Blackstone Group LP (NYSE:BX), recently wrote the following in the Financial Times: “Unless we end targeted class warfare in the U.S., we cannot solve our economic problems or stop a long period of potential decline.”
There are few people less qualified than Schwarzman to offer an opinion on restoring America’s fiscal balance. Blackstone has single-handedly added to this mess by piling on debt in search of private equity lucre. Owning its stock is hazardous to your health.
Deficit Financing
Schwarzman obviously was talking about everyone but himself when it comes to solving our economic problems. Travelport Holdings Limited, the parent of Blackstone’s majority-owned travel reservation business, released a detailed plan this week that would restructure its $715 million in senior unsecured payment-in-kind loans with interest rates as high as 13.5%. The debt now will be due in 2016 instead of 2012. These moves come in the wake of downgrades from both Moody’s and Standard & Poor’s.
It’s important to note this debt is separate from the $3.2 billion in debt of Travelport Limited, the operating company. When Blackstone Group and its partners acquired Travelport, in August 2004, they paid $4.3 billion for the former Cendant division with just $900 million in cash, the rest debt. Making matters worse, six months later, Travelport borrowed another $1.1 billion to pay a special dividend to Blackstone and company. The $715 million in payment-in-kind debt being refinanced to 2016 is what’s left over from the $1.1 billion.
In the span of six months back in 2004, Blackstone bought Travelport, piled on $4.5 billion in debt and walked away with 70% of the company as well as money in its pocket. It was a great deal for its partners but a horrible one for Travelport. If this is the kind of fiscal management Schwarzman is talking about, I’ll take my chances with President Barack Obama.
Deal Gone Bad
Creditors of the Extended Stay Hotels chain are suing Blackstone for $8.4 billion, alleging it purposely sold the chain in 2007 to the Lightstone Group for $8 billion — a figure they claim was overpriced to increase the fees Blackstone would receive from the sale. The resulting additional leverage eventually forced the hotel chain into bankruptcy two years later. The creditors also seek punitive damages, which are rare, for Blackstone breaching its fiduciary duties to both the company and its creditors.
While it seems a stretch to prove malfeasance, it is interesting that Blackstone invested $100 million last summer in the group that bought Extended Stay out of bankruptcy for $3.9 billion. Blackstone got a 10% stake for its small investment. If reports are credible, approximately $3 billion was debt. Here’s the irony: Blackstone paid $2 billion for the chain in 2004, including the assumption of $1.1 billion in debt, turned around and sold it for $8 billion less than three years later, and now has bought it back, albeit in a group and for slightly more than it paid seven years earlier. It got lucky with its timing, and now it’s trying to revisit history.
I can fully understand creditors being miffed, especially the U.S. taxpayer, who’s on the hook for $744 million in mezzanine debt that never will be recovered. Blackstone’s second investment in Extended Stay might be bargain basement but it reeks of poor taste. I can think of many reasons why its stock is to be avoided, but the two best are that it hasn’t done a thing right since its $31 IPO in 2007 and, more important, there are better options available.
Safer Alternative
Murray Coleman of Barron’s wrote in a Sept. 14 article that asset managers are trading at a 35% discount to their three-year average P/E of 16.7. Ameriprise Financial’s (NYSE:AMP) forward P/E is 6.9, 37% less than the current forward P/E of 10.9 for asset managers as a group. Its earnings yield is 11.1%, 52% higher than Franklin Templeton (NYSE:BEN). Its stock is dirt-cheap right now, but it won’t be forever. Financial planning might not be as flashy as private equity, but I can guarantee they’re making a far more positive impact on America than Blackstone ever could. If you must own an asset manager, this is where you should start.
Bottom Line
Successful investing is all about owning well-run companies with sincere, hard-working management. Blackstone Group possesses none of those virtues.
As of this writing, Will Ashworth did not own a position in any of the stocks named here.
