The Breaking Off
By the end of the year, everyone realized how spot-on Marc Rich’s instinct had been. The long-term contract with Iran had been a stroke of genius, the like of which has seldom been seen. The price per barrel rose from just under 3 before the war to an official 11.60. On the free market, however, oil could fetch anything up to the then record level of 13—over 8 more than Marc Rich had agreed with Iran. If the heads of Philipp Brothers had only trusted him, the company could have easily earned 60 million on this one deal. Nevertheless, Philipp Brothers profited from Rich’s dealings with Israel, Spain, and Iran. The company, which by then was a division of Engelhard Mineral & Chemicals, posted record profits in 1973. This was mainly due to the trade in crude oil. Thanks to Marc Rich and Pinky Green, Philipp Brothers would soon be one of the largest oil traders in the world.
Never before in the company’s history had only two men been responsible for so much profit. Rich and Green’s trade in oil alone earned the company between 4 million and 5 million profit in 1973. Marc Rich did not earn much more than 70,000 per year at the time; with his bonus included he possibly made 100,000. After racking up such amazing trade successes, Rich came to the conclusion that 100,000 was nowhere near enough.
In February 1974 he flew from Madrid to Switzerland to negotiate with Jesselson, who was on a skiing holiday in the Swiss Alps. He demanded a bonus of 500,000 for himself and the same again for Green. “My request was influenced by what I knew the company was making,” comments Rich. Jesselson, who was already sixty-three years old, offered Rich 150,000. He also tried to persuade Rich to return to New York, where he would become Jesselson’s successor as president of Philipp Brothers. “I said yes, provided we come to an agreement on the remuneration,” Rich told me. Jesselson refused on principle to pay more than 150,000. “So I had to leave,” Rich says. “I didn’t want to leave. I had been there for twenty years, I liked the company, I liked Jesselson, and I think he liked me. I always thought that the company would be my career for the rest of my life, but Jesselson got stuck on the principle.”
As soon as the meeting was over Rich phoned Green, who was in New York at the time. “I told him that I didn’t reach an agreement with Jesselson.” Pinky did not hesitate for a second. “So we’re going,” he said. That one telephone call would mark the beginning of the most successful commodities company the world had ever seen.
MARC RICH + COMPANY
T
hings now had to move quickly. After his unpleasant meeting with Jesselson, Rich immediately flew back to Madrid from Switzerland. He went straight from the airport to his office, where he informed his two most important employees what had happened. He intended to leave Philipp Brothers and set up his own company immediately together with Pinky Green. He also told them he was still looking for two or three more business partners. John Trafford, Rich’s personal assistant, and Jacques Hachuel, an oil specialist in the regions of Africa and South America, accepted the offer without a moment’s hesitation: “We’re in,” they said. Green was on the telephone shortly thereafter. He had wooed away Alexander “Alec” Hackel, who had worked with Green at Philipp Brothers’ Swiss offices as an expert on alumina and Eastern Europe.
Not twenty-four hours had passed since Rich’s split with Jesselson, yet Rich had already put together a core team for his new company—“the Founders” or “the Partners,” as many former employees whom I interviewed for this book almost reverently called them. “We all liked each other, and they felt there was more opportunity to make money,” Rich says. “To make money”—this was a phrase I heard time and again from Rich when he spoke of his own motivation or the motivation of others. Money was the prime mover. Senior executives at Philipp Brothers finally realized what had happened when they came together for the traditional group photograph for the 1974 annual report. Rich and Green were absent. “Before the rumors start,” Jesselson began his speech, “I want to say that Rich and Green asked for bonuses so high they would break our rules and traditions. They have separated. It’s time to close ranks.”1 Their departure was seen by many as an act of treachery. Philipp Brothers was a company where the employees began their careers at an early age and stayed on until they retired. The separation was like separations usually are: bitter. Rich and Jesselson never spoke another word to one another. “It’s a sad chapter in my personal life,” Jesselson said. “They were like my own sons. I brought them up from nothing, and they turned their backs on me.”2 “He forgot me in his will,” Rich said sarcastically when I asked him about the split. He added, “Jesselson’s wife called my mother and complained.”
Though the skies were slightly overcast, April 3, 1974, was a warm day in the Swiss town of Zug. Marc Rich + Co. AG was founded that morning in a law firm’s downtown office. The five partners brought a total of 2 million Swiss francs in seed capital to the table. Rich borrowed money from his father-in-law, Emil Eisenberg, as well as his own father. John Trafford sold his vintage car in order to contribute his share of the pot. Alec Hackel had no money at all, so Rich lent it to him. Altogether, 1,055,000 Swiss francs in common stock was deposited with Credit Suisse. Rich was the company’s first president, and Green took up his position on the supervisory board together with three Swiss lawyers. Alec Hackel was chosen as the company’s director.
Swiss Secrecy
Of course, it was no accident that Rich chose Switzerland as the location for the headquarters of Marc Rich + Co. AG. Philipp Brothers’ European headquarters had been located in Zug since 1957. Situated on the banks of a lake and nestled between rolling hills, Zug is an idyllic small town in central Switzerland at the foot of the Alps. In addition to its natural beauty, Zug had three key advantages. First of all, Switzerland is politically neutral and in the mid-1970s was not even a member of the United Nations. Second, Zug is close to Zurich, one of the world’s best and—thanks to strong banking secrecy regulations—most discreet financial centers, with access to an international airport and top-notch international schools. Finally, Zug is a tax paradise with comparatively low rates of income tax and corporate tax by international standards. In the mid-1970s, a midsized American company had to fork over nearly half of its profit to the IRS. In Zug a company only had to pay around 10 percent in taxes. “The only bad thing about Zug is the fog,” Rich says.
With its policies of low taxes and simplified bureaucracy—both initiated after World War II—Zug managed to attract international companies and become an international center for trade and services. First came the American companies such as Philipp Brothers in the 1950s and 1960s. These were followed by German and British companies in the 1970s and 1980s, and since the 1990s Zug has attracted an increasing number of Russian companies. Zug seems to be the perfect example of supply-side economics in practice. The inhabitants of the canton of Zug had struggled for centuries to make a living from the dairy industry and livestock breeding, yet the canton is today one of the richest in Switzerland. In March 2009, it had an unemployment rate of only 2.5 percent.
The founding of Marc Rich + Co. AG was a heavy blow for Philipp Brothers, a trading giant that had survived two world wars. “Few events had as far-reaching consequences in the firm as Rich’s departure,” said Helmut Waszkis, an authority on the company who worked for the commodities giant for over half his life.3 The commodities trade is a business without brands or trademarks. It is primarily based on personal relationships and trust. “You take your large customers and the little company secrets with you when you leave,” one trader told me. Rich was considered a master of maintaining a network of connections. His black address book—in which every name, number, and date is meticulously written in tiny handwriting—is legendary among company employees. He never forgets a birthday, regularly sends flowers on holidays, and keeps in touch with his contacts. “Loyalty is a very important value to him,” according to Ursula Santo Domingo. “He still calls me when he is in Madrid.”
Vendetta
It was an unpretentious beginnin
g. The handful of traders worked in a four-room apartment in Zug’s less than glamorous Riedmatt quarter. The furnishings were simple. “At the beginning we had to use the local post office to send telexes,” Rich remembers. Although the company soon had its own telex, veterans remember that the only space that could be found for it was in the restroom. With nothing but their know-how and their contacts, Rich and his partners set out to snatch deals from Rich’s former employer and tear away Philipp Brothers’ share of the market—a job that Philipp Brothers had trained them for.
Everyone was talking about a vendetta between Rich’s company and Philipp Brothers (Phibro). Some of the stories sounded as if they had been taken from a spy film.4 In Buenos Aires, Phibro employees caught one of Rich’s employees paying large sums for Phibro company telexes. “They were beating our bids for metals by a fraction on every one,” a Phibro representative complained. “They knew our bids before we did.” A mole from Marc Rich + Co. was discovered in Phibro’s Tokyo offices with the help of Phibro’s own mole that they had infiltrated into Rich’s company. Some believe that Rich knowingly lost money on deals in order to squeeze out Philipp Brothers. “Nonsense,” says Rich. He attributes these stories to the emotions that accompanied his departure from the company. “No company is particularly pleased if its best people leave to start a competing operation.”
Even if these reports of industrial espionage are mere cock-and-bull stories, they illustrate the fact that the commodities trade was a hard game—and the atmosphere became noticeably harder. The competitors gave each other a run for their money, and Philipp Brothers gave as good as they got. They even pressured Rich’s banks not to extend him a line of credit, a financial expert involved in the affair told me. That would have meant an early death for Marc Rich + Co.
It is impossible to trade commodities quickly and on a global scale without credit. Credit is the lifeline of any commodities trading business. This was particularly true for the newly formed Marc Rich + Co., as it had practically no cash and no equity of its own. Therefore the company’s most important goal was to obtain sufficient credit to allow it to trade oil. A bank extends credit (for which it charges a fee) up to an agreed-upon sum that the company can draw upon repeatedly when necessary. The commodities themselves serve as collateral. The letter of credit represents the bank’s promise to pay for the commodities. It is a form of insurance for the seller as well as the buyer. The buyer only has to pay after the seller has delivered the agreed quantity and quality of raw materials. The seller has a guarantee that he will be paid after the goods have been delivered if he can present the required documents as evidence.
Thanks to Iranian Oil
Rich’s decision to found his own company didn’t come as a surprise. Jesselson had forced him to drop the long-term contract with Iran one year earlier, and since then Rich had known his time with Philipp Brothers was nearing its end. Rich began to see his departure from the company as a serious possibility, and like every other good trader, Rich wanted to be prepared for this eventuality should it indeed come to pass.
Rich’s trump card was his continuing connection with the Iranian-Israeli oil pipeline. He managed to bring this business with him to his own company, thanks to his relationship to “Mr. Steel” Ali Rezai and to “Dr. Mina”—as Rich likes to call Parviz Mina, the NIOC director. “My knowledge of this contract allowed me to found the new company,” Rich says. He had already found a long-term buyer for this oil: the Spanish government, which he had previously secretly supplied with oil. An additional purchaser of Iranian oil was the American oil firm Atlantic Richfield Company (ARCO), which would later become one of Rich’s best customers. The contract with ARCO was of particular importance. He did not have to conduct this business secretly, as was the case in the Spanish deals. Instead, Rich was able to use this trade as a form of collateral in order to obtain his first, all-important line of credit.
John Trafford engineered the first new trade for the young company. Rich’s former assistant had good contacts at the French oil company Elf, which was producing oil in the West African country of Nigeria. Rich in turn had a good relationship with Standard Oil of Ohio (Sohio, the company founded by John D. Rockefeller in 1870). “So we put Elf and Sohio together and made a profit: fifteen cents a barrel. That was a very good profit at the time,” Rich remembers. A trade involving 150,000 metric tons of Nigerian Bony Light Crude (approx. 1.1 million barrels) brought the new company 165,000 in profit. Even more important, Sohio, too, agreed to pay with a letter of credit, which Rich could then use to purchase even more oil. “They were reluctant at first to pay by letter of credit, but they accepted because both the price and the supply were attractive to them. These letters of credit which came in we had transferred on to our suppliers,” Rich explains.
Marc Rich + Co. was thus able to develop a long-term and stable network of suppliers and buyers within a very short period of time. The first trades were financed by Bankers Trust Company and, most important, by the French bank Paribas. “They liked the business. They opened letters of credit whenever and wherever we needed them,” Rich explains. “To make money with other people’s money, with the bank’s money,” as a former employee explained, was the company’s financial philosophy. In these commodity trades, the risk was primarily carried by the bank that had extended the line of credit. Its collateral for the credit deal was the commodity at issue, in this case oil.
The Oil Shock of 1974
It was a good time for a commodities trader who wanted to go into business for himself. The world had been changed forever by the Arab oil embargo—imposed in the wake of the Yom Kippur War—and skyrocketing oil prices. These developments led to the world’s first oil shock, a shock that would have serious economic consequences the world over. The price for a gallon of gasoline rose from 38.5 in May 1973 to 55.1 in June 1974.5 It was the first time since the Second World War that the United States had seen gasoline shortages. Huge lines formed at the pumps throughout the country. It was a situation that had only been seen in poorer African or South American countries before then. Rapidly rising oil prices pushed the industrial nations into economic crisis.
It was a fabulous time for Rich and his partners. While the American oil companies and motorists were left high and dry, Marc Rich + Co. was simply swimming in oil—oil for which U.S. and European oil companies were willing to pay a very good price. “It was a good situation for us,” Rich laughingly remembers. “It was a shortage of oil, and we had the oil.” His company was able to gradually expand the contract with Iran to buy 8 million to 10 million metric tons per year (approximately 60 million to 75 million barrels).
“Then I learned that Ecuador was selling its share of oil. I sent Jacques Hachuel to Ecuador to buy it,” Rich explains. A military coup had brought a sort of benevolent dictatorship to power in the South American country. Guillermo Rodríguez Lara, nicknamed “General Bombita” (General Balloon), invested massively in schools, hospitals, and the nation’s infrastructure. These expenses could only be financed by a massive boost in oil production so that the oro negro—the black gold—could be sold for hard currency. This would prove a lucky break for Marc Rich + Co. Hachuel, a native-born Argentinean, came back with something worth much more than a tanker full of oil: a long-term contract with the state oil company of Ecuador, the Corporación Estatal Petrolera Ecuatoriana (CEPE). The biggest part was bought by ARCO.
From the company’s very first days, Marc Rich + Co.’s financial success was nothing less than astounding. In 1974, the company’s first fiscal year, it had a turnover of more than 1 billion while reaping a net profit of 28 million. The company’s profit in 1975 was 50 million, and it went on to earn what was then an unbelievable 200 million in 1976.
Faster, Longer, More Aggressive
There were three main reasons for Rich’s success—a success that took the industry completely by surprise. First of all, Rich’s company was willing to take on a much higher level of risk than its competitors. Second, the b
est people in the business were working for the company. Finally, Marc Rich + Co. was the first company to develop a sophisticated system for trading oil independently. It is no exaggeration to state that Marc Rich and Pincus Green truly did invent the spot market for crude oil.
Marc Rich + Co. operated according to a completely different philosophy than did Philipp Brothers. It was more aggressive, faster, and more oriented toward long-term contracts. The partners recognized opportunities and followed up on them faster than the competition. They saw themselves as pioneers who were pushing forward into new territory, and they were interested in obtaining contracts that extended as far as possible into the future. Ecuador is selling oil? Fly over there immediately, and don’t just buy the oil that is up for sale. Get the client to agree to a long-term contract. Turkey is looking for oil? Fly over there right away and sell it to them. “Pinky and I flew to Houston to discuss an oil deal,” Rich recalls. “On the way there we learned that Turkey needed oil. Pinky, who once lived in Turkey, instantly interrupted his visit to Houston and flew to Istanbul. He concluded a very profitable transaction. We were faster than the others.”
The King of Oil: The Secret Lives of Marc Rich Page 9
