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Panel Detail:

Tuesday, April 25, 2006
9:25 AM - 10:40 AM

The Role of Growth Finance in America

Moderator:

Michael Milken, Chairman, Milken Institute; Chairman, FasterCures / The Center for Accelerating Medical Solutions

Christopher Melton of the White Oak Group, above, and other panelists discussed how to be successful with the so-called "middle market" — those new and usually smaller enterprises.

Christopher Melton of the White Oak Group said he considers management to be key for success with the middle market. His goal is to nurture the businesses through their first few years, during which banks are usually too risk-averse. Part of the process, though, is a considerably more intense monitoring of the company′s well-being. As Michael Milken observed, banks traditionally would look at credit periodically, once a year or quarter. Today's growth financers look weekly. Boehly's clients pay their loans monthly, rather than the traditional quarterly, so he receives a relatively quick feedback on the companies′ fitness.

Boehly credits Guggenheim Partners′ success to its "reputation for closing and listening." Several of the panelists emphasized the importance of working closely with the client to understand his or her needs. Richard Rainwater of Rainwater Inc. recalled that his best investments and long-term relationships were based on giving respect, not just a check. His clients appreciated knowing that "their quality of human capital was worth someone taking a risk on." The clients needed to learn from the financers, as well. Boehly explained that many of his clients are entrepreneurs who are extremely knowledgeable about their business, but not about financial markets. They need to be educated. Given that these companies are still being financed on credit cards and second mortgages, they′re happy to learn, Milken added.

One of the hardest lessons, Milken said, is that "the best time to finance is when you don′t need the money." Boehly recalled an example of an oil company in Venezuela that passed on acquiring financing; now that Hugo Chavez is in power there, the company can′t get any. Kevin Murphy said that this "division of labor" allows each person to do what he does best: The entrepreneurs innovate, and the financers to set up financial structures.

The conversation turned to credit ratings, which most of the panelists found misleading. Boehly explained that a loan doesn′t have a monolithic risk; it has tiers of risk. For instance, the first dollar is almost guaranteed to be paid back, deserving an AAA rating. Rainwater concurred, observing that many securities are money-good, even if credit-bad; one should consider the price they are trading at. Milken explained that this is because there′s no real penalty for rating a company too low. Newer companies are particularly susceptible to this bias, while older companies tend to get rated too highly, out of inertia.

Spreading capital to the middle market is vital for job creation, Milken said. From 1970 to 2000, the Fortune 500 Companies actually cut 4 million jobs. The smaller, newer companies created new positions. However, Murphy found this focus on job creation misguided. He countered that the real growth in an economy happens through efficiency. When Fortune 500 companies decrease their work force, they didn′t lose money. Rather, they free up labor for other enterprises.

All the panelists agreed that a new company′s most important asset is its human capital. Murphy stated that there has been a rise in return to human capital, and Milken concurred, mentioning the increased incremental rate of return for going on to gradate school. He suggested that the national savings rate should take investments in education into account.

All of the panelists felt that growth financing in the United States was about taking a close look at smaller companies with strong management. They recommended careful research to see beyond the credit ratings for good investments. They felt that these businesses, with careful monitoring and nurturing, could be very profitable.

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