Private Equity, Business Flipping and Asymmetrical Outcomes

Quite a comprehensive piece in this weekend's New York Times on the world of private equity - using as a proxy the story of Simmons Bedding Company. This is a great topic and something that speaks to our system - the heads we win, tails we win culture in the upper echelons of finance (and one could argue the entire corporate system) and the costs that are borne.

I have seen locally for years many cases of private equity's "work" in the auto industry, and the most infamous example is the disastrous foray by Cerberus into Chrysler. But there are a litany of smaller examples both in manufacturing and outside of it. One piece that really woke me up on how the game works was a BusinessWeek article in 2006 on Burger King [BusinessWeek - April 10: Where's the Beef?]; I wrote about this piece about a year ago [Nov 8, 2008: NYT - Debt Linked to Buyouts Tighten the Economic Vise]

...the main story I want to focus on is private equity which were about 18 months ago the new golden children - masters of the universe; the best, the brightest, the new power brokers in our era of cheap credit; we are looking the other way while they load the companies they buy in debt while running off with huge paydays. So for their self-interest they are effectively bogging down company after company and threatening the jobs of many in this country. The fallout will be even more apparent in the current credit situation.

I still to this day, on principle alone, won't buy Burger King (BKC) stock based on this story I read in BusinessWeek a few years ago [BusinessWeek - April 10: Where's the Beef?] I'm not the only one [Nov 19: Cramer Goes off on Private Equity] The irony is the IPO of Blackstone (BX) effectively put in the "top" in private equity.

Private equity firms embarked on one of the biggest spending sprees in corporate history for nearly three years, using borrowed money to gobble up huge swaths of industries and some of the biggest names — Neiman Marcus, Metro-Goldwyn-Mayer and Toys “R” Us.

The new owners then saddled the companies with the billions of dollars of debt used to buy them. But now many of the loans and bonds sold to finance the deals are about to come due at the worst possible time. So, like homeowners with an adjustable rate mortgage that just went up, some of private equity’s titans are facing a huge squeeze.

So here is the story in simple terms, and yes I am simplifying for the hard core capitalists out there who defend our beautiful system. Private Equity firms soar in to take over company A (with cheap money handed out by the Fed). In return for providing management expertise (which comes at a high cost) the private equity firm usually saddles the company with huge amounts of debt (to pay for said fees), while usually "streamlining" the company (read: cutting many jobs) which helps make the company more profitable in the very near term. With that "value add" to the bottom line, the company can then be flipped to the next sucker down the line for a profit. Of course even if they cannot sell for profit, they still get their fees for their expertise. Heads they win, tails they win.

So what happens if the acquired company suffers in the long run due to lack of investment in the near term (which helped turbocharge profits)? Who cares. The fees were paid to the PE guys - they've moved on to the next carcass. What happens if (even worse) the company goes bankrupt from the new debts thrown onto the balance sheet. Again - who cares. The fees were paid to the PE guys - next host body to feed on.

And what happens when this builds up for a number of years across an entire economic system, with debt levels skyrocketing, posing threats to company after company laden with debt? That's where your Federal Reserve comes in to the rescue making sure a system that was created due to nearly free money is bailed out with... well, more nearly free money. Do you see why the Federal Reserve is so important to our financial oligarchy? Heads they win, tails they win.

"The mind-set was, since the money was practically free, why not leverage the company to the maximum?"

Notice how we keep coming back to the same source of so many of our problems? The vaunted Federal Reserve which simply fixes everything with easy money - and then pats themselves on the back that they "fixed" the problems of their own creation. They do not take responsibility for all the damage they have caused across our financial system ... so many ill effects, too many to measure or count that happen each day because "free market" rates for loans to debtors don't apply to anything.

This also speaks to a far larger conversation about the "system" of short-termism- [Sep 9, 2009: WSJ - Vanguard's John Bogle, Warren Buffet Speak Out Against Short Term Nature of Markets] for the benefit of massive profits to a tiny group of people in the country, countless companies are raided, stripped, flipped, and ripped. Great if you are a leech - not so great if you are the host body. Even the Germans (socialists mind you call private equity firms nothing more than locusts. Meanwhile the unfettered actions of the PE firms are worshiped in the Anglo-Saxon model of the UK and U.S. (how are those 2 economies doing again?). Just since I've started the blog, we've pointed out a few examples; I don't really follow this closely day to day - I am sure I missed countless others.

1. [Apr 11, 2008: This Day in Bankruptcies - Another Airline and our First Major Retailer] Two months before Linens ’n Things was acquired, it reported $2.1 million in long-term debt; by Dec. 31, 2007, that amount had exploded to $855 million.
2. [Jul 21, 2008: Add Mervyn's to Our Growing Litany of Retailers Headed to the Great Sunset] It would also be an embarrassment to Mervyn's owners. Private-equity firms Cerberus Capital Management and Sun Capital Partners, along with three other partners -- including real-estate investor Lubert-Adler -- acquired the chain from Target Corp. in 2004 for $1.2 billion. The group put up about $400 million in equity and financed the rest. But while thousands of employees would lose their jobs and their vendors would get hurt in a Mervyn's liquidation, the private-equity buyers wouldn't stand to take much of a financial hit. That is because when they bought the company they structured the $1.2 billion deal as two separate transactions -- one for the retailer and a second one for the retailer's real estate.
3. Sam Zell had a run in with Tribune [Dec 8, 2008: Tribune Files for Bankruptcy] Let’s say that a group of corporate executives uses scads of debt to take over a struggling company, sells off some profitable assets, lays off thousands of employees while achieving miserable results. And then, less than a year after saddling the company with $8 billion in debt, they opt for bankruptcy. You’d expect them to walk the plank, or at the very least, spend a good stretch of time in the naughty corner. But you wouldn’t expect the top 700 managers to collect $66 million in bonuses. ... both the company’s union and the trustee appointed to oversee the bankruptcy raised objections, arguing that the bonuses would be the highest ever paid — even as the company has its lowest cash flow in 10 years.

*******************************

So this situation of asymmetric outcomes is one we should be asking as a country. But any time you raise some questions you get yelled at (unpatriotic! socialist! best system there is! let the free market live!) Which free market again? The one where the Federal Reserve constantly throws savers of the country under a bus to support the financial oligarchy with easy money? That is not exactly letting the free market work.

But who am I to ask these questions - I just provide stories and stare blankly at walls seeing what I see, and shrugging my shoulders since very few care to ask questions. The way I see it, the dogma will rule the land and until the country runs out of hosts for the locusts to feed on, this will continue... all the while many of the hosts repeat the dogma themselves. Ironic.

If you are new to private equity (and let me be clear that some subset of the players involved actually are trying to make sensible deals and think out more than a few quarters or years) I encourage you to read that Burger King piece I listed above, and read / watch this New York Times story.

---> There is a fantastic set of mini 1-2 minute videos the New York Times - wish I could embed them but go here. It takes about 15-20 minutes to flip through them all. This should be a one time "special report" TV show on all the major networks at 8 PM Thursday night, so those who only get their news from the Boob Tube could figure out part of what is going on in the country. The series is called: Flipped - How Private Equity Investors Can Win While their Companies Lose.

Again, the New York Times uses as a proxy Simmons Bedding Company for the associated story, and anyone who defends this system of leeches feeding on hosts will obviously find some strategic mistake found at Simmons itself - that's really beside the point. This is but one company in a long line of examples - the question should be about the system, not company ABC or XYZ

• For most of the 133 years since its founding in a small city in Wisconsin, the Simmons Bedding Company enjoyed an illustrious history.
• Simmons says it will soon file for bankruptcy protection, as part of an agreement by its current owners to sell the company — the seventh time it has been sold in a little more than two decades — all after being owned for short periods by a parade of different investment groups, known as private equity firms, which try to buy undervalued companies, mostly with borrowed money.
• For many of the company’s investors, the sale will be a disaster. Its bondholders alone stand to lose more than $575 million. The company’s downfall has also devastated employees like Noble Rogers, who worked for 22 years at Simmons, most of that time at a factory outside Atlanta. He is one of 1,000 employees — more than one-quarter of the work force — laid off last year.
• But Thomas H. Lee Partners of Boston has not only escaped unscathed, it has made a profit. The investment firm, which bought Simmons in 2003, has pocketed around $77 million in profit, even as the company’s fortunes have declined. THL collected hundreds of millions of dollars from the company in the form of special dividends. It also paid itself millions more in fees, first for buying the company, then for helping run it. Last year, the firm even gave itself a small raise.
• Wall Street investment banks also cashed in. They collected millions for helping to arrange the takeovers and for selling the bonds that made those deals possible. All told, the various private equity owners have made around $750 million in profits from Simmons over the years.
• How so many people could make so much money on a company that has been driven into bankruptcy is a tale of these financial times and an example of a growing phenomenon in corporate America.

Financial Oligarchs always seem to win in our system.

********************************

Of course our CEOs are also part of the "heads we win, tails we win" culture - in a smaller separate piece is the tale of Simmons CEO for much of the latter part of its non-bankrupt life. Again, when you pay people at a level that it does not matter how they perform; they have secured generational wealth no matter the outcome of their decisions... well you have American 'free market capitalism'. The association between wages and performance has completely broken down in the top tranches of our society.

• Mr. Eitel, former colleagues said, really wanted to bring some sizzle to the ho-hum mattress business. He was paid millions of dollars to run Simmons for several private equity investment companies, first Fenway, then Thomas H. Lee Partners. Like those firms, he fared well, even though Simmons plans to file for bankruptcy.
• ... while Simmons now faces an uncertain future, Mr. Eitel was a winner in The Great Game of Life. As chief executive, he enjoyed country club memberships, personal use of the corporate jet and thousands of dollars a year in free mattresses. Before stepping down last fall, he earned more than $40 million in compensation, bonuses and perks, according to an analysis by Brian Foley, an independent compensation consultant in White Plains. He earned the bulk of his money when Simmons was sold to Thomas H. Lee Partners. (heads he wins, tails he wins - $40M to help run a company into the ground; boo yah)
• Mr. Eitel ran Simmons as if it were his fief, several former executives said. His son joined Simmons’s sales force and a son-in-law landed in the company’s marketing department. A daughter often sang at corporate functions and even wrote and recorded a series of songs that were pressed into CDs and distributed at a sales meeting in Las Vegas.
• ... many former Simmons executives said that he ruled from afar — that he rarely appeared at the Atlanta headquarters. Instead, he spent much of his time in Naples, Fla., where he and his wife built an opulent home with a 1,000-bottle wine room and a multitier cascading pool featuring glass mosaic tiles. The home was listed this spring for $16 million.
• Mr. Eitel also spent a great deal of time wooing clients from his 80-foot yacht, Eitel Time. With his boat, which had 11 televisions, a hot tub on the flybridge and a sunken granite-topped bar in the salon, Mr. Eitel took customers out for cocktail cruises and junkets to Martha’s Vineyard. The private equity firms that owned Simmons during Mr. Eitel’s tenure appeared to embrace Mr. Eitel’s lifestyle. The first year that Thomas H. Lee Partners owned Simmons, the mattress company even paid the $92,000 salary and benefits for the captain of his yacht.

Did he do a good job? Bad job? I don't know - his company is in bankruptcy - he can blame the PE firm I suppose. But does it matter? Not in Cramerica. Just reach the C level suite - and then keep the seat warm for a few years. Then crow about how few people in the entire world could do this work, and if you are not paid for your acumen you will (a) be unmotivated as opposed to the common peon lower in the company ranks and (b) move to another country. Again, this brainwashing that only a few people on the planet have this skill set (wining and dining on a yacht cannot be too hard?) is what the defenders of the system cry out each time it's challenged. Or they say it's a one in a million anamoly - even though I could post a new example each day if I tried.

It is nice to see the stirring of emotion and understanding in the "comments" section of the story (546 comments!) - many things stay hidden in dark corners until a mainstream newspaper actually tells the tale to the unwashed masses. Perhaps only when a critical mass decide some changes need to happen will there be any real push to reconstruct the system. Hopefully we won't have to wait until it reaches "pitchfork" stage; but until them let the transfer of wealth from the many to the few continues (reverse Robin Hood) while we hear how just 0.2% of America truly has the brains to hold these exalted roles in C-level suite, investment banks, and private equity. Everyone else in the country (or globe)? Just not talented or smart enough.

************************************

Yves over at Naked Capitalism also calls out the pirates of capitalism... her well titled piece is: New York Times Fails to Call Private Equity Looting by its Proper Name

The New York Times tonight features a generally very good piece, “Buyout Firms Profited as a Company’s Debt Soared,” by Julie Creswell that falls short in one important respect: it fails to call a prevalent and destructive practice of private equity firms by its proper name.

PE firms in the risk-blind environment preceding the credit crunch got into the habit of producing good to stellar returns by modifying their usual formula. The traditional model was to buy companies with a ton of debt, then improving their bottom line by a combination of partial asset stripping (selling off ancillary operations), cost cutting, and once a blue moon, actually doing something to improve operational performance. Then the company would be sold, either privately, usually to a corporation, or taken public.

But the PE firms found a much easier approach: just pile on more and more debt, and pay themselves a special dividend. No need to do any work, just keep borrowing until you had recouped your investment and then some. And that way you did not need to care how the company fared. If you destroyed the business, it was of no mind to you and your investors. Other saps were left holding the carcass.

Boo Yah! American "free market" capitalism; working like a charm at concentrating wealth in fewer and fewer hands under the guise that just 0.2% of our nation has the brains, hence deserves all the loot. Source? Dogma.

More than half the roughly 220 companies that have defaulted on their debt in some form this year were either owned at one time or are still controlled by private equity firms, according to analysts at Standard & Poor’s.

Comments

[epeon:]

Let me play the devil's advocate here. Many of the companies that were bought out by PE were bought out on the cheap because their stock price was low. It was low because the management of said companies never properly rewarded their stockholders. These companies were run as private little fiefdoms by the management and the stockholders were, at best, an afterthought. Consequently, the stock's value languished. This made them cheap and an easy buyout target. PE then raped them.

Was PE wrong? Sure. But,these companies made themselves such easy targets by allowing their stock price to be very low in relation to their value. I guess what I am saying is that there is wrong on both sides of that buyout.

Oct 07 10:15 AM

[optionsgirl:]

You have written a tremendously accurate and astute op ed, TraderMark. I do have a couple of bones to pick, though.
1. I dispute you calling the actions of these carnivores "American free market capitalism". It is a corrupted, perverted system, but it barely resembles a capitalist system.
2. I would also like to dispute your labeling of the "unwashed masses". You think the workers of these companies don't know what is going on? Or that the general population doesn't, either? They know they are the victims of massive thievery and fraud. They are simply powerless to stop it.

With so many "safeguards" put into place, you'd think it wouldn't be necessary to give the SEC (and Fed) more powers, which they clamor for a crave. They seek more power for its own sake. The SEC already has the power to stop the looting, and state attorneys general already have the power to prosecute fraud.
I believe those bond holders and stock holders have been criminally defrauded, and so has the public at large.
We must remember that the purpose of all carnivores is to feast off the carcasses of the weaker. They are shooting fish in a barrel.
Again, kudos for a well-crafted cogent article.

Oct 07 10:16 AM

[TraderMark:]

agree. I just don't want any defender of the system to put the tag "free market capitalism" on anything we have here. They use that as a rallying call as if its a Bald Eagle. We have crony capitalism, socialism for the elite.


On Oct 07 09:17 AM John Galt wrote:

> Mark -
>
> The root of the Austrian school of economics ( you know the guys
> that predicted the crash), is the belief that the FED hands out cheap
> money... CREATES a bubble, and now they are putting out the fire
> with your dollar bills.
>
> The Austrian "Free Market" Capitalist school of thought says the
> Fed is *responsible* for the problem, and that this quasi government
> agency is NOT free market.
>
> Then you start to get into thoughts about the opportunity cost of
> doing the "wrong" and unproductive things due to false inscentives
> created by the fed.
>
> For example, you are wasting capital & labor building a high
> rise commerical real estate building that you *think* will be profitable
> when in reality it won't be...
>
> Building house after house sunny Phoenix that people keep buying
> with watered down fed dollars & interest rates (but can't really
> afford)...
>
> It isn't just the bad choice to build the building, but think where
> those workers and that money could have been used otherwise. You
> are losing time, possibility and potential as well as losing money
> on those individual projects.
>
> The loss isn't just the loss on particular investments, you have
> to also consider the loss in opportunity costs.

Oct 07 11:01 AM

[TraderMark:]

epeon, many companies they buy are NOT PUBLIC. Not a good explanation. The idea most of the time is to try to either sell it to another firm once they do their "magic" or "IPO" it... only then does it turn public.

Mostly they look for high cash flow - then they know they can layer it with debt since banks (with cheap money from the Fed) are happy to toss it in any direction.


On Oct 07 10:15 AM epeon wrote:

> Let me play the devil's advocate here. Many of the companies that
> were bought out by PE were bought out on the cheap because their
> stock price was low. It was low because the management of said companies
> never properly rewarded their stockholders. These companies were
> run as private little fiefdoms by the management and the stockholders
> were, at best, an afterthought. Consequently, the stock's value
> languished. This made them cheap and an easy buyout target. PE
> then raped them.
>
> Was PE wrong? Sure. But,these companies made themselves such easy
> targets by allowing their stock price to be very low in relation
> to their value. I guess what I am saying is that there is wrong
> on both sides of that buyout.

Oct 07 11:04 AM

[TraderMark:]

Anything I put into quotes has a facetious nature. i.e. I put free market capitalism in quotes because that is the dogmatic retort of anyone who is benefiting from the system (fewer and fewer people) - they resort to sound bites that sound patriotic! We certainly do not have that here - trust me I know. But most of the population still somehow believes it to be true.

Same comment with unwashed masses - if you read me for a long time, I have a lot of sarcasm. I call us peons, I call us peasants, I call us a lot of names because thats how i think the "0.2%" think of us.


On Oct 07 10:16 AM optionsgirl wrote:

> You have written a tremendously accurate and astute op ed, TraderMark.
> I do have a couple of bones to pick, though.
> 1. I dispute you calling the actions of these carnivores "American
> free market capitalism". It is a corrupted, perverted system, but
> it barely resembles a capitalist system.
> 2. I would also like to dispute your labeling of the "unwashed masses".
> You think the workers of these companies don't know what is going
> on? Or that the general population doesn't, either? They know they
> are the victims of massive thievery and fraud. They are simply powerless
> to stop it.
>
> With so many "safeguards" put into place, you'd think it wouldn't
> be necessary to give the SEC (and Fed) more powers, which they clamor
> for a crave. They seek more power for its own sake. The SEC already
> has the power to stop the looting, and state attorneys general already
> have the power to prosecute fraud.
> I believe those bond holders and stock holders have been criminally
> defrauded, and so has the public at large.
> We must remember that the purpose of all carnivores is to feast off
> the carcasses of the weaker. They are shooting fish in a barrel.
>
> Again, kudos for a well-crafted cogent article.

Oct 07 11:07 AM

[John Galt:]

Mark -

But who says that we have a "free market capitalism" system? It certainly isn't the free market capitalists. Maybe they would say something like we are "more capitalist" than other countries, but not a "free market capitalist" economy.

The only people that say that we have a "free market" economy, are the socialists, and fiscally liberal people who say that were ARE free market, and THAT's why we have problems.

Oct 07 11:15 AM

[Mark Bern:]

Yes. But at least without the PE there are jobs and a productive system adding to the economy. The management may have been under-performing, but at least they were performing. After the PE gets involved, it just becomes a long road to oblivion. Then, once the American product is no longer available, foreign manufacturers step in with their products to fill the void.

The point is that the PE makes money without producing anything (other than profits for themselves and their investors) while driving more of the American manufacturing base overseas. They aren't just raping individual companies, they are gutting the entire economy. When they are through, there won't be anything left but service, technology, retail, transportation, utilities, recreation, and financial companies left. Of course, by that time the PEs will have moved on to other countries and will have taken their wealth with them leaving the middle class to pay all the taxes.


On Oct 07 10:15 AM epeon wrote:

> Let me play the devil's advocate here. Many of the companies that
> were bought out by PE were bought out on the cheap because their
> stock price was low. It was low because the management of said companies
> never properly rewarded their stockholders. These companies were
> run as private little fiefdoms by the management and the stockholders
> were, at best, an afterthought. Consequently, the stock's value
> languished. This made them cheap and an easy buyout target. PE
> then raped them.
>
> Was PE wrong? Sure. But,these companies made themselves such easy
> targets by allowing their stock price to be very low in relation
> to their value. I guess what I am saying is that there is wrong
> on both sides of that buyout.

Oct 07 11:22 AM

[Mark Bern:]

I cannot leave without sending kudos to the author for an excellent article. This was one of the best I've read in all the time I've been on SA. Keep up the great work!

One final thought: The only solution to the problem (other than doing away with the FED and the fiat currency system, which I won't bother with here) would be to make the owners, by extension, responsible for the companies debt if it can be established that the parent company benefited from the debt. I realize that this flies in the face of corporate law, but it seems that corporate law may need to be revised if it is being used as a shield for abuse and fraud.

Oct 07 11:33 AM

[TeresaE:]

Well thought out article TraderMark.

I can't remember back that far (and truthfully, don't care to research it), but I can remember being completely appalled that the guy brought in to run Kmart through bankruptcy made millions and millions.

While American suppliers (and their jobs) and Kmart employees were slaughtered by the thousands to pay his (and his "teams") salaries and extraordinary perks.

When a small business goes belly up, so usually does it owner. Small businesses are financed with personal guarantees - something no PE firm, or manager, would ever do.

The bleeding continues and great take on what is (finally) becoming obvious. Now, if we could only get the "average" American to put down his Iphone and give a flip.

Oct 07 01:00 PM

[Alan Young:]

I must be missing something here.

I'm sure there are examples of companies that are looted and left for dead—Maxxam's theft of Pacific Lumber comes to mind. Yes, I wish that sort of thing could be prevented.

But that can't be the whole story. There must be a great many cases of small, obscure companies turned from the edge of bankruptcy, restored to profitability by a combination of capital infusion and shrewd management oversight, and then sold to a larger company. This is the normal pattern for BDCs: hold a portfolio of companies and SELL THEM at a profit. It's the turnover, not the fees, that generate cash flow and keep the BDC in business.

So, if a small startup in (say) Biotech is kept functioning for a year or two of rough patch, and then sold to (say) Amgen when their product is ready to market, why is that so terrible? Isn't that what venture capital is all about?

Typically, BDCs and venture capitalists offer a mix of loans and a non-controlling equity stake. I don't know enough tell where to draw a line between "good" buyouts and "bad" buyouts. Is it the difference between a going concern vs. a startup? Between controlling vs. non-controlling interest?

A lot I understand only vaguely. But somehow, I don't think that a conclusion that paints an entire industry with the same black brush improves my understanding.

Oct 07 03:01 PM

[Tony Petroski:]

Mr. Mark wrote:

"So here is the story in simple terms, and yes I am simplifying for the hard core capitalists out there who defend our beautiful system."

Thank you Mr. Mark.

I love these rants. Keep it up, although for time purposes and for my fellow capitalists, you could condense the articles and simplify them a little more.

The thing is, I agree with 90% of what you write, except for the bottom line, the conclusion of the story, in which you write...

No wait. There was no conclusion, just a rant.

Now helping you out, wouldn't the conclusion be: Put Obama's Tsars in charge and that will fix everything?

Oct 07 03:08 PM

[TraderMark:]

No, but a system where bad outcomes actually sting financiers and not just the rest of the system would be a good place to start.


On Oct 07 03:08 PM Tony Petroski wrote:

> Mr. Mark wrote:
>
> "So here is the story in simple terms, and yes I am simplifying for
> the hard core capitalists out there who defend our beautiful system."
>
>
> Thank you Mr. Mark.
>
> I love these rants. Keep it up, although for time purposes and for
> my fellow capitalists, you could condense the articles and simplify
> them a little more.
>
> The thing is, I agree with 90% of what you write, except for the
> bottom line, the conclusion of the story, in which you write...<br/>
>
> No wait. There was no conclusion, just a rant.
>
> Now helping you out, wouldn't the conclusion be: Put Obama's Tsars
> in charge and that will fix everything?

Oct 07 03:37 PM

[PainfullyAware:]

Trader Mark => Salient Sanity Succor !!!

Large Systems Always Have Mechanisms.

Thanks For Assailing Asinine "Corporatism/Corprotoc...

Sound Money (Tangible Commodity Backed) and NO OFF ACCOUNTING BOOK ASSETS Must Be Instated Or Instability Will Continue With Greater Magnitude.

All "Under Damped or Harmonic Systems" Eventually Destroy Themselves If "Continually Driven".

One thing "good" about all the unemployment is that people are paying more attention to what is going on in the "Systems Of The Wold". Education Is Endless. Thanks for helping with the task of instruction.

Oct 07 05:16 PM

[Hans Gruber:]

What about the other PE? Price-to-Equity? These have been at historic highs during the PE firms takeovers. This gets back to the authors point that cheap money offered by the Fed made the takeovers possible, not ridiculously low priced stock prices as you argue. Where are the ridiculously low stock prices in the market today? Which stocks that are ripe for PE firms to takeover should I be racing out to buy right now?


On Oct 07 10:15 AM epeon wrote:

> Let me play the devil's advocate here. Many of the companies that
> were bought out by PE were bought out on the cheap because their
> stock price was low. It was low because the management of said companies
> never properly rewarded their stockholders. These companies were
> run as private little fiefdoms by the management and the stockholders
> were, at best, an afterthought. Consequently, the stock's value languished.
> This made them cheap and an easy buyout target. PE then raped them.
>
>
> Was PE wrong? Sure. But,these companies made themselves such easy
> targets by allowing their stock price to be very low in relation
> to their value. I guess what I am saying is that there is wrong on
> both sides of that buyout.

Oct 07 10:53 PM

[Alfredo Mar...:]

The New York Times article was great, and I agree what Private Equity firms are doing is often times incredibly destructive. The problem is, what do you do about it?

At the end of the day, these are voluntary transactions by two parties that want to make an exchange. When PE buys the company and sells the debt, it's completely voluntary for both the buyer and seller.

I'm all for free-market solutions to curbing this abuse, but it's very difficult to effectively regulate. My guess is PE excess will be reigned in simply because many investors have become much more cautious.

Oct 07 11:31 PM

[theobannion:]

"They know they are the victims of massive thievery and fraud. They are simply powerless to stop it."

Yes, they are powerless to stop it, because this is not a democracy & the people do NOT have the power, which is what defines a democracy, not the vote. But, no, they do NOT know what's going on. Add all the readers of web sites like Seeking Alpha together, then divide by the number of people who get almost all of their news from the boob tube - the greatest instrument for propagandizing vast numbers of people ever devised - and you get a pitifully small number.

It sucks, but I believe that to be the case.

Best,
SOB.


On Oct 07 10:16 AM optionsgirl wrote:

> You have written a tremendously accurate and astute op ed, TraderMark.
> I do have a couple of bones to pick, though.
> 1. I dispute you calling the actions of these carnivores "American
> free market capitalism". It is a corrupted, perverted system, but
> it barely resembles a capitalist system.
> 2. I would also like to dispute your labeling of the "unwashed masses".
> You think the workers of these companies don't know what is going
> on? Or that the general population doesn't, either? They know they
> are the victims of massive thievery and fraud. They are simply powerless
> to stop it.
>
> With so many "safeguards" put into place, you'd think it wouldn't
> be necessary to give the SEC (and Fed) more powers, which they clamor
> for a crave. They seek more power for its own sake. The SEC already
> has the power to stop the looting, and state attorneys general already
> have the power to prosecute fraud.
> I believe those bond holders and stock holders have been criminally
> defrauded, and so has the public at large.
> We must remember that the purpose of all carnivores is to feast off
> the carcasses of the weaker. They are shooting fish in a barrel.
>
> Again, kudos for a well-crafted cogent article.

Oct 08 10:09 AM

[TraderMark:]

Alfredo, first stop destroying savers of this country to provide "cheap money" so these transactions can be done without regard to costs.

from the article:

"The mind-set was, since the money was practically free, why not leverage the company to the maximum?"

That will stop the leverage from the entire system reaching a point where the Fed needs to come in YET again to save the system via even more easy money.

This is why failure is necessary and too big to fail can not be allowed to continue. Only when failure is an option for even the biggest players will there actually be oversight. Right now the cost of funding for our biggest financial firms is going to be like Fannie and freddie for decades - a massive inherent advantage which will serve to only punish smaller and medium sized players who are not sucking on government's teat (implied).

The investment banks for example used to be private players who used their own money for MOST of the stuff they do. Then they have transformed to public, lobbyied Congress (Hank Paulson at the fore) to get rid of the leverage limitations, and basically use other people's money for their gambles. When it goes wrong - horribly wrong - now we are 100% sure (before we were 95% sure) the government will use taxpayers money to backstop it.

So a huge part of the solution is common sense - don't let them take this sort of leverage, don't backstop them, and don't let them ever get to the size that 1 going under destroys the world's financial system, etc. We'll never reach extreme levels in any 1 company if that was the framework. And then those taking risks with the money would actually have risk controls in place. PE is just a feeder off the i-bank system. Complete parallels with different labels.


On Oct 07 11:31 PM Alfredo Martinez wrote:

> The New York Times article was great, and I agree what Private Equity
> firms are doing is often times incredibly destructive. The problem
> is, what do you do about it?
>
> At the end of the day, these are voluntary transactions by two parties
> that want to make an exchange. When PE buys the company and sells
> the debt, it's completely voluntary for both the buyer and seller.
>
>
> I'm all for free-market solutions to curbing this abuse, but it's
> very difficult to effectively regulate. My guess is PE excess will
> be reigned in simply because many investors have become much more
> cautious.

Oct 08 06:45 PM

[Nuwanda:]

TM,

Another great article with fine research and analysis that I've become accustomed to reading from your posts. I don't post on SA hardly, but I read a lot of good bloggers (including yours) and after reading this article and seeing Michael Moore's (MM) new film "Capitalism, A Love Affair," I felt compelled to write that all who read TM regularly must see this film and, more importantly, get everyone you know to see it. Yes MM writes documentaries with an obvious slant to some degree, but much of the film is documented well by the great research you read in TM's blog and others on this fine website.

As MM painstakingly details the history of capitalism in our nation and the propaganda (or "Kool Aid" in TM's words) that makes average Americans believe it's truly the best form of running our society, there was a time when capitalism was good for America before the highest government officials were beholden to corporate America.

Certainly I'm not a socialist as I've worked in and out of government for many years (and know the "market" is better at doing certain things), but in simplest terms a good government acts as a buffer between the wrongs that corporations will employ if you let them and the people who need some basic protections and moral rights that are inalienable and unyielding to the almighty dollar (or "less" mighty dollar lately courtesy of Uncle Ben & Co.).

It is time for a revolution in this country moreso than Obama's "Change" mantra. Obama got this started but "we the people" need to finish it!

Oct 09 11:16 PM

[501327:]

This article pretty much sums up my own view of what PE really brings to the table. For some time, I have been perplexed as to why PE firms want to get into Investment banking and as I started reading this article, it dawned on me that it is just another extension of the same rent seeking mentality - another fat layer of fee that is there to be charged for the benefit of PE owners. The fat is already built into the system and for a long time, investment bankers have been feasting on it, so not surprising that the PE firms would want that to keep that piece for themselves too. In a world with properly aligned incentives, one might expect an owner to try cutting out middlemen but in the private equity world with its misaligned incentive systems, it should not be a surprise that the owners would want to retain the fat fee structure but extract it for their personal benefit.

Oct 17 12:52 PM

[epeon:]

Let me make another devil's advocate. Years ago I worked for a company called Central Soya. Central Soya was a processor of soybeans. It was very good at this business. It knew how to build, modify, and run these plants very efficiently. It had an excellent engineering department. Central Soya had good cashflow. However, the management of the company insisted in investing in businessess it really knew nothing about (frozen, packaged foods). Management also had a fleet of airplanes and awesome offices.

Well, the company was bought out and the PE company that came in divested them of their frozen food operations and sold of the airfleet. It basically stripped them down to what they were good at. This, of course, enhanced cash flow. They then sold the company at a tidy profit.

Now, did this PE company add much? Well, in a way, they did. They focused the company on what it was good at and it stripped it of non-performing assets. Could the company's management have done this? Sure, but the never did.

Oct 19 10:46 AM