Peter Salvage, Global Head of Credit Fund Services, BNY Mellon, interviewed David Leuschen, the founder of energy-focused private equity firm Riverstone Holdings at the recent Markets' Private Equity U.S. Spring Forum. The following is an edited transcript of their conversation.
Peter Salvage: David, thanks for joining us. For the audience’s background, David really is an icon in the energy business. He founded Riverstone approximately 20 years ago after heading up Goldman’s Energy and Power Group. David is also an incredible philanthropist, yacht racer and big mountain skier. He has deep bonds with his home state of Montana which I saw first-hand when I visited him in his midtown Manhattan office. The office was much as you would expect for a large private equity firm, but with a twist. When you walk through the door you feel like you’ve entered Montana. There are wide plank wooden floors and wall-sized photographs of the mountains around Big Sky. David said I could ask him anything, so stay tuned - you never know what could come up during the interview.
David Leuschen: Thanks for that kind introduction. What Peter didn’t say is when you walk in our office there is a sign next to the door that says “No Weapons.” Why? Because that’s actually one of the flagship elements of the energy business - if you tour the great energy parks of the world, most doors have a sign that says “No Weapons.” So we thought that in the spirit of our brethren we would have a similar sign.
Peter: David, Can you give us your views on the current situation in the energy industry?
David: Regrettably, the energy sector is not exactly fashionable these days. But it’s important to remember that the U.S. industry has enjoyed incredible success. I will take to the grave with it resting on my tombstone that we ran U.S. oil production from 5 million a day to 12 million day. That’s the shale revolution. That’s virtually entirely private equity funded and we should be very proud of that. It’s now being taken over by the majors, which is the right thing to happen given its development. For private equity, we have to go back to the future and suck on the straw a bit harder. We need to take a scavenger kind of approach. More recently, it’s been tough with the oil price down 40% in the fourth quarter of 2018 and valuations of public companies as much as 70% lower. The whole sector is getting re-rated as people see it moving towards the majors and returns start to decline.
Peter: To what extent are your investment decisions based on commodity price expectations? And what is your view on where prices are going?
David: We have a slightly more aggressive view than the market, and expect crude oil demand to rise by 1.5 million barrels a day year-on-year for the next decade. We don’t go beyond 10 years because climate change and other issues make prediction difficult. Of course, we anticipate tremendous price and valuation volatility over that period at least on the energy and power side of the business. How do we invest around that volatility? One way is to partner with Kinder Morgan, which has revenues that are not directly related to the oil price. We are also geographically diversified and have a robust credit business. But a couple of years ago we hired McKinsey to analyse 70 investments that we exited. They concluded that oil prices have a huge effect on the business – and we’re never going to get away from that.
Peter: You mentioned climate change, which is obviously gaining increased attention in the industry and in society. How is the issue affecting your approach to investment and investors’ demands and expectations?
David: First, it’s useful to understand how Riverstone is structured. We have 12 pools of capital, which include private equity, credit and a growing ultra-high net worth business. People may not know that $5 billion of our $39 billion under management is in renewables. We’re the largest independent renewable investor and have doubled investors’ money through our renewables investments. We are now raising a new renewables fund.
Second, we now have people who focus solely on environmental, social and governance issues, which is a relatively new development for Riverstone.
Third, most of our 12 pools of capital are not at a fundraising stage; our flagship fund has enough dry powder to last another year or two. Given the down cycle currently, that’s a welcome position to be in, especially as there is a growing aversion to, and disinvestment from, the energy sector. Scandinavians, for example, are no longer among our private equity investors for climate change-related reasons. Unlike some of our peers, we are not getting out of the energy and power business. But our future fundraising will no doubt be significantly more climate change-sensitive.
“Unlike some of our peers we are not getting out of the energy and power business. But our future fundraising will be more climate change-sensitive.”David Leuschen, Founder, Riverstone Holdings
Peter: Switching topics a bit, you have described Riverstone’s niche as being the “hammer and wrench guys” in the past. What does that mean? And will you hammer and wrench guys have to adapt to new technology such as artificial intelligence (AI) and robotics?
David: We do well because of our operating background. People often say that shale oil is a technology play but it’s not; it’s a trial and error play. The US dominates shale because there are 7,000 independent oil companies. We have the minerals, the well control and the data. But we don’t win by using AI – we win by trying new things if something doesn’t work. When we drill four wells, two have short laterals and two are high pressure. We pick the one that works best and continue with it. It’s just trial and error.
Peter: Your track record indicates that you are very good at evaluating the management team on the other side of the transaction. Can you explain your approach? Any lessons for the folks in the room?
David: I don’t think we do anything profound. We have 50 people focused on deals; combined with people on the operating side, we have thousands of years of experience. This is a small industry and everyone knows everyone – it’s a lifestyle, not a job. I’ve been doing it 40 years and most of our guys have been doing it for 20 or 30 years: there are few people we can’t triangulate on very quickly. We also work with outside firms that check on management and, if necessary sleuth around the golf course and things like that.
Peter: I read that when you spoke to students at Dartmouth, your alma mater, you said “If you don’t fail big within your first five years, you’re not pushing hard enough.” Looking back across your career, can you tell us about a big failure of yours and what you learned from it?
David: ‘Fail by five’ used to be a presentation I would make to the investment banking division at Goldman Sachs. I actually do believe that if you're simply trying to sit under the radar screen at a nice private equity shop and your kids all go to the best schools, and all of that, you're going to look back when life is over and say, ‘Did I really make a difference?’ I am here to make a difference. That will, almost certainly, mean failing from time to time. We have failed at a whole number of things. Of the 140 investments we have made at Riverstone, we have exited 70, we have got 70 left and I will admit we have had an absolute bust on at least 15 of those. There is a story on each one, but it is usually stepping out, taking a risk that is unknowable. We had the world’s largest geothermal reserve in Oregon in our first renewable fund, which had heat and fissures but no water – we had to write it off.
But our risk taking has delivered results. Private equity has moved the needle in the global energy market, not just with shale – which I’m tremendously proud of – but also with offshore. In the Gulf of Mexico, offshore Brazil or offshore Angola you have to take big shots in 10,000 feet of water. Of course, you can mitigate risks through partnerships and knowledge but the truth is that while there are some failures, they are rare. Our Gulf of Mexico exploration company finds economic reserves 82% of the time. That is almost 10 times the rule of thumb in the past and it has changed the industry and allowed small guys like us with a workstation and some money to keep up with the Exxons of this world.
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Global Head of Credit Fund Services, BNY Mellon
Peter Salvage leads the bank’s services to credit fund managers, including managers of private debt, direct-lending, CLOs and syndicated loan portfolios. His role includes developing the bank’s long-term strategy to drive growth in the space and executing the delivery of those services to the bank’s credit fund manager clients.View Profile