When Lehman Brothers investment banker Erin Callan flew from New York to Chicago last spring to meet Kenneth Griffin, founder and CEO of Citadel Investment Group, she wasn’t sure just what to say to the billionaire hedge fund manager. As head of Lehman’s global finance solutions group since 2004, Callan had made a name for herself devising innovative capital-raising strategies for big corporations. She had just been assigned to start a new unit at Lehman to advise hedge fund managers like Griffin, a clubby, secretive lot with whom she had little experience despite her capital markets expertise.
The former tax attorney fell back on what she knew best — capital structures. She expressed to Griffin her amazement that Citadel and most other hedge funds relied primarily on short-term financing that banks could pull at a moment’s notice. What if, she proposed, Lehman could underwrite unsecured, long-term bonds for Citadel, giving it a far more stable source of capital?
Griffin, who had been thinking about the same problem for some time, mulled it over and two weeks later called to take her up on the offer. In December, after several months of negotiations with credit-rating agencies and an investor road show, Lehman sold $500 million of five-year Citadel bonds, the first such offering by a hedge fund.
“As part of our efforts to extend our capital structure, we wanted to issue debt,” says Citadel CFO Gerald Beeson, who also attended the meeting with Griffin and Callan. “Erin presented a very clear path on how we would achieve that objective.”
The next big deal for Callan, 41, a Queens, New York, native and daughter of a Big Apple police officer, was the IPO of Fortress Investment Group, for which Lehman was a joint book runner. Fortress raised $634 million from the February offering, the first public sale of common stock by a major hedge fund firm and a deal that spread IPO fever among alternative-investment managers. Its shares now trade at 23 times earnings, valuing the fast-growing firm at more than $11 billion.
“The successful execution of the Fortress IPO stopped other
managers in their tracks,” says Callan, noting that several other hedge funds have since asked her about going public.
Like other big investment banks, Lehman reaps plenty from hedge funds: brokerage commissions and a host of other fees from secondary-market activities, as well as interest on loans. But the firm recognizes that as hedge funds grow bigger and more complex, they will need the same strategic and financing advice as do corporate clients.
“We need to think about them as more traditional investment banking clients with critical business needs at this stage in their life cycles,” explains Callan, who heads a team of 15 bankers.
Callan’s experience devising innovative capital-raising structures serves her well. Since joining Lehman in 1995 from law firm Simpson, Thacher & Bartlett, she has tackled a series of extraordinarily complex transactions. One of the most notable came in 2004, when she helped cereal maker General Mills engineer a multipart deal to buy back a big block of its stock from beverage giant Diageo, which also offered a sizeable tranche of General Mills shares to institutional investors, without adversely affecting the stock’s price or creating a big tax bill.
“We were able to hold our stock price, notwithstanding an enormous issuance of shares,” says General Mills CFO James Lawrence.
In 2005, Callan devised an ultra-long-term, interest-bearing security that, despite being classified as equity by rating agencies, allowed corporate issuers to deduct coupon payments from their income taxes. Lehman liked the structure so much it issued some of the securities itself and has since raised $50 billion for clients through sales of these hybrid instruments, which it calls Enhanced Capital Advantaged Preferred Securities.
Market-savvy hedge funds like Citadel not only grasp Callan’s sophisticated advice, they’re also not afraid to act on it very quickly. That, she says, is a big change from dealing with corporations, which can deliberate about potential transactions for months.
“Unlike traditional corporate clients, they are not beholden to as extensive a decision-making process because the business managers are also the owners,” she explains. “You could talk to the client and they would say, ‘Let’s do this tomorrow.’”
