Broker, Trader, Lawyer, Spy (20 page)

Pinkerton probably didn’t invent deception detection or
elicitation, either. These may be among the things that smart, observant people invent for themselves. What’s remarkable, actually, is that every generation produces people who think that the best way to get information out of someone is to beat it out. In the face of so much evidence that deception detection and elicitation work, there are still interrogators who don’t want to be polite to a suspect. And usually, those are the interrogators who can’t get a confession.

I
N THE SUMMER
of 2005, BIA was on a roll. On July 14 Phil Houston and Patsy Boycan led a BIA team listening in on a Southwest Airlines earnings call with investors. Southwest was coming off a boffo quarter in which it beat Wall Street’s all-important expectations with an earnings spike of 42.9 percent over the same quarter the year before. BIA’s interest in Southwest was prompted by a client, Ziff Brothers Investments, a private equity fund controlled by the three billionaire sons of William Ziff, Jr., who built the Ziff-Davis publishing empire. Ziff Brothers wanted to know whether or not Southwest could continue its excellent run into the next quarter. Did Southwest’s executives believe their own rosy forecasts?

After a preamble, Southwest’s CEO, Gary Kelly, and its chief financial officer, Laura Wright, began to take questions from analysts. The back-and-forth was cordial and warm. Many of the analysts had been covering the company for years, and had spoken with the management dozens of times. Some analysts interspersed their questions with a few words of congratulations for the great quarterly results. But BIA’s spies on the call weren’t into schmoozing. They didn’t say a thing. They were in “L squared mode.”

BIA’s report on that call is not available, so it’s difficult to say exactly what conclusions the analysts reached. But a look at the transcript of the conversation of July 14 reveals several moments that may have stood out for the BIA team.
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First, J.P. Morgan’s Securities analyst Jamie Baker asked a question about potential fare
increases—which could be deadly for a company like Southwest that makes its name as a discount airline.

“I know AMR [the company that owns American Airlines] put a $2 to $3 one-way increase into the majority of your markets yesterday, but would you characterize Southwest as still in the study period or have you definitively chosen not to match that?” Baker asked.

“Well, we haven’t changed our fares,” responded Kelly. “We want to be a leader, but we want to be the low fare leader.”

“Mmm hmm.”

“This is actually a perfect environment for us where all of our competitors are raising fares and it really helps us differentiate who we are,” continued Kelly.

On the basis of his noncommittal response, “Mmm hmm,” we can guess that Baker might have been skeptical about this point, too, but a trained TBA analyst might home in on specific phrases. Kelly responds to a direct question about raising fares in the present tense with information that’s not an answer at all: “Well, we haven’t changed our fares.” He doesn’t say what the company plans to do in the future, which is what Baker asked. BIA would call that a
nonanswer
.
*

Kelly follows his nonanswer with what BIA calls a
protest statement
: He says, “We want to be the low-fare leader.” Again, he doesn’t answer the question, which was whether Southwest is still considering a fare increase. He describes what Southwest wants to be, not what it is going to do. Were the BIA team’s pens scribbling furiously during this exchange?

Then, as a closer, Kelly adds what BIA would call a
qualifying answer
: “This is actually a perfect environment for us.” By using the word “actually,” was Kelly trying to persuade the listener of something that on its face wouldn’t make any sense?

Was Kelly trying to duck the question about whether Southwest would have to raise its fares? Soon enough, it did just that: at the end of 2005, Southwest bragged in its annual report to shareholders that the company had raised fares only “modestly” throughout that year. The report noted that the average passenger fare increased from $88.57 in 2004 to $93.68 in 2005.
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Later in the earnings call, the trained BIA observers listening in might have concluded that the executives were uncomfortable with their own earnings predictions. Lehman Brothers’ analyst Gary Chase tried to pin Kelly down, asking, “Can you just sort of help us think through why you think 15 percent is an achievable growth goal for next year?”

“Well, first of all, it’s a goal,” responded Kelly. He added several caveats about what it would take for the company to hit the number: the economy would need to remain healthy, competitors would need to remain predictable, and maybe some improvements in the Baltimore market would be needed.

Still, he said, “We are not conceding that we cannot improve our earnings next year by 15 percent. And we just want to make that very clear because there are already reports out there that are suggesting that our earnings are going to decline, and that is not acceptable to us.”

But then he concludes on this tepid note: “At this point, it certainly looks to us like a reasonable goal.” Notice Kelly’s use of several qualifying phrases in a row: “at this point,” “certainly looks to us,” “reasonable goal.” That’s far from a full-throated endorsement of the company’s own revenue projections.

Certain statements in the Southwest earnings call contrast with the positive buzz the company received that day. Even though the company has an excellent reputation and even then was receiving kudos for an innovative hedging strategy to blunt the impact of rising fuel costs, something was giving the executives discomfort about their future.

Sharp traders at Ziff Brothers could have used that information
in conjunction with everything else they knew about Southwest to form a picture of a company unable to keep up its earnings streak. In fact, an executive familiar with BIA says Ziff concluded from the call that Southwest’s executives weren’t confident they’d be able to repeat their earnings success in the next quarter. The source says Ziff shorted Southwest’s stock, and in doing so, may have made a good deal of money. The positive glow from the healthy earnings report lasted only until July 18, when the stock peaked at around $14.75 per share before settling into a slump that would last for more than a month. By the end of August, the stock was trading at about $13.50 per share.

D
ESPITE THEIR SUCCESSES
, not every client was as impressed by the BIA team’s presentation or its tactics. That same summer of 2005, BIA’s Don Carlson, who had been an attorney with Goldman Sachs, brought Phil Houston and Mike Floyd to meet with Goldman’s own internal business intelligence division. The BIA team hoped to land Goldman Sachs as a client. For BIA, working with Goldman Sachs would be a gold mine: it had thousands of employees, so a contract for BIA’s interrogation training alone could be hugely lucrative. In 2005, Goldman had more than $20 billion in revenue. The firm would have nearly unlimited budgets for research and investigations. Conceivably, this one client could double BIA’s revenue as soon as it signed a contract.

A lot was on the line when Carlson, Houston, and Floyd strolled into the conference room at Goldman’s headquarters at 85 Broad Street in lower Manhattan. They were used to being greeted deferentially. Even brash investment bankers are a bit intimidated by certified spies, particularly the CIA’s legendary interrogators. But this time the BIA team met a harsh reception. Goldman’s fourteen or so employees in the room asked question after question as the BIA team struggled to plow through its standard proposal. One Goldman employee at the meeting was Jeffrey Starr, who was
then on loan to Goldman’s business intelligence team from an intelligence agency at the Department of Defense. As an expert on intelligence tactics, he began to rip up the BIA argument piece by piece.

Starr pushed his chair back from the table and began to grill BIA’s presenters.
Are you saying that these indicators prove someone’s a liar? Why wouldn’t actions outside the five-second window be relevant? What if somebody’s just combing his hair? How can you put your faith in this kind of stuff?
It was the roughest treatment Houston and Floyd had received. When they showed a short video to illustrate their point, Starr laid into them.

In the video, an investigator quizzes five people about a stolen laptop. The audience members at the training session are supposed to look for the indicators of deception and figure out who stole the laptop. Starr pounced on a flaw. The video featured actors, not real people. If the actors had been coached on what to do, they wouldn’t be giving the indicators that real human beings would give—they’d be giving the indicators BIA told them to give. Starr was incensed. What good was this video? Why didn’t they bring in a video of a real interrogation? BIA’s team couldn’t come up with a good answer for him. They felt as though they’d failed.

They hadn’t. Ultimately, the weight of BIA’s argument began to convince even the skeptical Starr. He saw some potential in what Houston and Floyd were offering. Goldman, despite the disastrous pitch meeting, soon became a client of BIA. Of course, not everyone within Goldman is bullish on BIA. Asked about BIA’s intelligence techniques, Goldman’s global head of communications, Lucas van Praag, mocks the capabilities of veterans of U.S. intelligence: “If these guys were really that good, and the techniques worked as well as they said they did, how come we’re still in Iraq?”

Training in deception detection and eavesdropping on conference calls are just BIA’s baseline service. Prices, and services, get more elaborate from there. For about $50,000 per day, a client company can hire a team of CIA-trained interrogators to come to
its offices and question subjects, typically when the company suspects some internal fraud or wrongdoing.

Perhaps BIA’s most important—and least known—client is Cascade Investment, LLC, a small outfit in Kirkland, Washington, which is just across Lake Washington from downtown Seattle and easily accessible by boat via an adjacent marina.
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In this bland suburban office park is one of the most powerful financial firms in the world, a firm that almost no one has heard of. Cascade isn’t just any private equity firm. It’s the personal private equity firm of one of the richest men in the world, Bill Gates. With just over $4 billion in assets under management, Cascade’s year-end 2007 filing with the Securities and Exchange Commission (SEC) showed that it owns shares of assets as diverse as Coca-Cola, Pacific Ethanol, and, of course, Berkshire Hathaway, the successful company owned by Gates’s friend and fellow billionaire, Warren Buffett.
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People familiar with Cascade say it uses BIA to help with due diligence. The old saying caveat emptor—let the buyer beware—was never more true than in the private equity industry, where money managers live in fear of investing $100 million in a company that turns out to be a lemon. Private equity investors need every scrap of information they can find to help them make a good decision. But BIA’s due diligence for Bill Gates’s team at Cascade goes beyond the information gathering you might find at lower levels of the financial stratosphere. For Gates’s team, BIA’s interrogators and investigators evaluate potential acquisitions.

Private equity firms such as Cascade often find themselves acquiring private companies. When you’re buying a privately held company, you can be in the dark about what you’re actually getting. People familiar with the relationship between them say that Cascade asked BIA to find answers to specific questions about companies that were potential acquisitions. For example, if a firm was founded by an entrepreneur, what is that person’s family like? Is the CEO’s son, who will inherit control of the company, a dysfunctional alcoholic? If so, the company might sell at a much lower
price, since there’s no reliable successor to keep it going. Knowing even one piece of information could be worth millions.

In an acquisition of a private company, BIA’s team will investigate all the top executives of the company under scrutiny. Who are their professional contacts? What are their families like? What kinds of pressures are they under? The BIA team will also fan out to cover the target company’s customers, interviewing them about their transactions with the company.
Are you going to re-up your contract for next year? Are you going to spend more or less money with the target company next quarter?
The same with suppliers. A company needs certain raw materials to do business. BIA’s team approaches suppliers to find out how much the target company has been buying.
What’s the trend line? Is the company buying more now than ever before? And what about price—is there an increase coming that could damage the target company’s profitability?
Every tidbit helps form an overall picture of the company, and what Cascade should be willing to pay to buy it.

Such due diligence, of course, could be done by young MBAs, or even college graduates with specific training in corporate analysis. You don’t need veteran CIA spies to analyze a company. But having their expertise helps. The CIA experience can help BIA’s team spot a supply chain vendor who’s lying about whether he’s planning to raise prices next quarter. Their elicitation techniques can help draw that vendor out about when the hike is coming and how much it might be.

The secret, whether it’s a crime, intelligence, or the expected price of soybeans, devours the keeper.

BIA’s team of research analysts was, for a time, led by Jim Roth, a veteran of the CIA. Roth’s team offered investigative research, primarily to hedge fund clients. In one case, a hedge fund hired BIA to investigate a publicly traded home builder. The hedge fund investors had a hunch: the builder’s company might not make its revenue projections for the quarter, as it didn’t have enough land in the Los Angeles market to develop all the residences it was telling the market
it would build. But how to prove that? The fund managers called BIA, which put Roth and his CIA-trained agents on the case. Roth’s team began working the phones. They called real estate agents in Los Angeles and asked about the local market.
Who is buying land? Is the home builder a big buyer? Which plots does it already own?
In each conversation, the BIA team used deception-detection techniques to spot dishonesty or uncertainty, and used their skills of elicitation to get the agents to reveal information about the market.