Beyond the Streetlight: Illuminating True Value in the Shadowy World of Private Equity
To See What Others Do Not, That Is True Genius.
The Allure of the Lamppost – Why We Miss What Matters in Private Equity
It’s a familiar story: a man is frantically searching for his keys under a streetlight. A policeman approaches and asks if he’s sure he lost them there. “No,” the man replies, “I lost them in the park.” The bewildered policeman asks, “Then why are you looking here?” “Because,” the man says, “this is where the light is.”
In the complex, high-stakes world of Private Equity, are we too often found searching for the answers, for alpha, for assurance, only under the most convenient lights? Are we drawn to the readily available data, the polished pitch decks, and the compelling narratives, while the real keys to value creation – or critical risk – lie waiting silently in the shadows?
The truth is that virtually anything and everything is measurable and, therefore, can be verified. It simply comes down to how and where you look and possessing the right mindset to illuminate what’s hidden. This is the core of the ‘Strategic Bloodhound’ approach – a relentless pursuit of ground truth by bringing light to those dark, hard-to-see areas. It’s about understanding that beyond the streetlight, extraordinary value, or critical risk, is often waiting to be uncovered.
The Seductive Glow – Narratives, Opacity, and the "Griftoverse" Elements in PE
Why, even for sophisticated investors, is the lure of the streetlight so strong? Because the alternative requires challenging compelling stories and navigating deliberate or unintentional obscurity.
The Private Equity industry, at times, can reward masterful storytelling. GPs craft powerful narratives of value creation, unique “playbooks,” and future success. But how often do these narratives withstand rigorous, independent verification of the underlying operational health or sustainable performance drivers? Narrative can triumph over ground truth.
Complex financial structures, instruments and leverage can also create an illusion of alpha that might not be purely derived from operational improvement. Are we verifying the source of returns, or are we mesmerised by the engineered outcome under the easy light of headline numbers?
Furthermore, the ‘Opaque Black Box’ nature inherent in many fund structures can make it incredibly difficult for LPs to verify NAV drivers or distinguish skill from luck until it’s too late. This isn’t always nefarious, but complexity can serve to obscure. We also know that reported NAVs and IRRs can sometimes be gamed or selectively presented. Fee structures and the pressure to deploy capital can lead to decisions prioritising GPs’ timeline over the long-term health of assets or LP interests.
The core message is clear: compelling narratives and complex structures can make the ‘easy light’ seem sufficient, discouraging deeper, more arduous verification in the ‘dark’.
When the Darkness is Illuminated – A Case Study: Hindenburg vs. Icahn Enterprises
This isn’t mere theory. The consequences of superficial analysis – of staying under the streetlight – play out dramatically in the public markets, offering stark lessons for private equity. A prime example is the Hindenburg Research versus Carl Icahn’s Icahn Enterprises (IEP) reports (May 2023).
Here was IEP, linked to an “American icon” of investing, Carl Icahn, boasting a dividend yield of over 15%. The ‘streetlight’ shone brightly on these facts: invest with a legend, get a fantastic payout. This was the readily available story.
But Hindenburg Research ventured beyond that easy light, publishing a detailed report that alleged a very different reality. What did their investigation claim to find in the less illuminated corners?
An Unsustainable Dividend – The First Thread to Pull:
That eye-watering dividend, Hindenburg argued, was “unsupported by IEP’s cash flow and investment performance.” They highlighted that IEP’s investment portfolio had lost approximately 53% since 2014, and the company had cumulatively burned through roughly $4.9 billion in free cash flow over the same period.
So, how was the dividend funded? Hindenburg alleged that IEP used “regular open market sales of IEP units, totalling $1.7 billion since 2019” to support it, describing it as a “‘Ponzi-like’ economic structure”.
In their follow-up, Hindenburg pointed to IEP’s own tax disclosures, which reportedly indicated that “100% of the distribution is in excess of IEP’s cumulative net income (which was negative),” with 86% representing a “return of capital” – essentially, investors getting their own money back, not profits.
Lesson for PE: Always verify returns’ true source and sustainability, not just the headline number. Is it generated from actual earnings or financial engineering?
Questionable Valuations (NAV) – Looking Under the Hood:
IEP traded at a hefty premium to its Net Asset Value (NAV). Hindenburg didn’t just question the premium; they estimated that IEP’s reported year-end NAV of $5.6 billion was inflated by at least 22%.
Their report cited glaring examples of what they termed “questionable value marking practices”:
IEP reportedly valued its 90% stake in a meatpacking company at $243 million, while the entire company’s public market capitalisation was only $89 million.
IEP’s “Automotive Parts” division was marked at $381 million in December 2022. A key subsidiary within that division declared bankruptcy just a month later. Hindenburg noted IEP subsequently wrote down this investment by $193 million (51%), commenting, “Given that these valuation write-downs only seem to happen after something ‘breaks’,…”.
Perhaps most strikingly, Hindenburg pointed out that IEP reported $455 million in “real estate holdings”, which they alleged included the Trump Plaza in Atlantic City. This building was publicly demolished in 2021.
Lesson for PE: Rigorously verify asset marks, especially for illiquids and controlled companies. Are valuations reflecting verifiable market realities or optimistic internal assessments?
Conflicts of Interest & Facilitators – Who Benefits from the Narrative?:
Hindenburg highlighted that Jefferies was the “only large investment bank with research coverage on IEP,”continuously placing a “buy” rating on its units and assuming the dividend would be safe “into perpetuity” without providing support for that assumption.
Jefferies had also reportedly “run all of IEP’s $1.7 billion in ATM [at-the-market] offerings” since 2019. Hindenburg’s implication was clear: “The very investment bank selling IEP units to investors is simultaneously drawing in additional retail investors with its ‘buy’ rating.”
Lesson for PE: Verify independence and scrutinise relationships between companies, their advisors, and research providers. Whose interests are truly being served?
Debt & Key Man Risk – The Hidden Dangers:
Beyond corporate debt, Hindenburg pointed to Carl Icahn having pledged approximately 60% of his substantial IEP holdings (181.4 million units) for personal margin loans.
They stressed that Icahn had “not disclosed basic metrics around his margin loans like the loan to value (LTV), maintenance thresholds, principal amount, or interest rates,” viewing this lack of transparency as a critical risk for investors, potentially leading to forced asset sales if margin calls occurred. In their rebuttal, Hindenburg noted Icahn “could easily clear up these questions, but thus far he has chosen not to.”
Lesson for PE: In PE, verifying the financial health and potential personal leverage of key principals is crucial, as it can create unseen risks for the entire enterprise.
Why weren’t these red flags, as alleged by Hindenburg, more widely seen, observed, or questioned before their report? Perhaps the halo effect of Icahn’s reputation, the allure of the high dividend, the acknowledged complexity of analysing holding companies, and maybe an outsourced trust in the sole “buy” rating. Many stayed under the existing streetlight, looking where it was easiest, not necessarily where the fuller truth might lie.
The Strategic Bloodhound in Action – Illuminating Value in Private Equity
The Icahn case underscores the critical need for a ‘Strategic Bloodhound’ investigative approach in private equity due diligence and portfolio oversight. It’s about proactively seeking out the information that isn’t readily presented. It means venturing into the perceived darkness where the real work of verification lies.
This means desiring to ‘look inside’ the PE’ Opaque Black Boxes’. Applying independent forensics and diagnostics – an ‘Organisational CT Scan’, if you will (like the Private Equity Asset Efficiency Score (PEAES) diagnostic) – to show the truths as they truly are. It’s about moving beyond trusting the narrative to rigorously testing it against quantifiable, evidence-based operational health metrics. It uncovers the hidden risks, identifies operational friction, and challenges the conventional ‘playbooks’.
This isn’t just about avoiding the next IEP-like situation. It’s about fostering and reaching for genuine transparency and accountability. More importantly, by illuminating these less scrutinised areas, we can uncover sources of extraordinary, sustainable value creation invisible to those who only operate under the familiar glow of standard reporting or persuasive pitches.
The Immunity Dividend and a Path to Shared Success
For LPs, GPs and investors alike, cultivating this deep verification mindset yields an ‘immunity dividend’, building resilience against seductive but unsubstantiated narratives and allowing for decisions based on verifiable substance, not just compelling stories that glitter under the lamppost.
This journey into the ‘dark’ doesn’t mean there only has to be one winner. True transparency and a focus on genuine, verifiable value creation benefit everyone: investors, LPs, skilled GPs, and portfolio companies. It elevates the entire ecosystem and industry by moving beyond perception to provable, unquestioned, performance.
Your Call to Action – Stepping Beyond the Lamppost
Look at your current pipeline, your portfolio, and your trusted relationships.
Where are the ‘streetlights’ shining brightest? And more importantly, what crucial aspects might lie beyond their reach in the unexamined shadows?
What’s one core assumption, one key claim, that you haven’t seen independently and rigorously verified recently?
Could a commitment to deeper inquiry – to becoming your own ‘Strategic Bloodhound’ – change your perspective or outcomes?
The most significant opportunities and critical risks often lie not where the light is easiest but where the truth is the fullest. It’s time to start looking there. I still find it profound after all the years; once you learn to see something, it is incredibly difficult to unsee it again. Yet, it is virtually impossible to share that same vision. But I try everyday.
References
Hindenburg Research. (2023, May 2). Icahn Enterprises: The Corporate Raider Throwing Stones From His Own Glass House. Retrieved from [https://hindenburgresearch.com/icahn/]
Hindenburg Research. (2023, May 11). Icahn’s Latest Disclosures Raise Critical New Questions About Margin Loans, Continued Portfolio Losses. [https://hindenburgresearch.com/icahn-response/]
Scott Carney, Journalist Anthropologist. [https://www.scottcarney.com/]. “YouTube “Griftoverse”. [https://www.youtube.com/playlist?list=PL2TVEkr1lWIIHLCniOw1T5m7q1t3EtGLG]
