
Everything Is Private Equity Now - atlasunshrugged
https://www.bloomberg.com/news/features/2019-10-03/how-private-equity-works-and-took-over-everything
======
StevePerkins
To me, the most striking thing in this article ISN'T that there's a vast,
opaque, multi-trillion dollar shadow stock market for institutional investors
and elite individuals.

Instead, it's the fact that over the past 25 years, these vehicles have only
managed to beat an S&P 500 index fund by 1-2% after fees. And that over the
past 10 years, more than half of them are _underperforming_ a passive index
fund.

Even if I had a few extra billion dollars lying around, I wouldn't get
involved with private equity firms. This audience comes across like a
combination of insolvent pension fund managers desperate for a way out, and
wealthy individuals who just enjoy the feeling of being in an exclusive club.
With dubious "financial engineers" fleecing them all through fees, and
hollowing out thousands of private companies to make the whole system
possible.

~~~
CPLX
> I wouldn't get involved with private equity firms

The website you posted this sentence on is owned by a private equity firm.

~~~
barry-cotter
The venture capital economic model is very different from that of private
equity. VC makes relatively small investments in many extremely risky firms,
hoping for a few massive blowout hits which return the entire fund by
themselves. PE buys firms with proven economic models, cuts costs and tries to
improve management in some form, whether by bringing in real estate expertise
for franchises (think Starbucks or McDonald’s) or doing bog standard MBA stuff
like KPIs and improving staffing, hiring or internal IT.

At the high end of VC you get some overlap with PE, like SoftBank investing
$X00 million in hot “startups” but PE does not chase 100x returns on
investment. They’re in the business of taking a company worth $100 million and
turning it into one worth $500 million.

~~~
rmah
Venture Capital is a strict subset of the Private Equity industry. They are
not outside it, they are deep within it. PE firms do _exactly_ what VC firms
do (though often with different sorts of businesses), plus a lot more.

~~~
notfromhere
VCs don't do the same kinds of questionable financial engineering that PEs do.

~~~
formercoder
Only because they can't. Leverage requires steady cash flows, fixed assets,
etc. If VCs could increase their potential return while also increasing
financial risk to their portfolio, they absolutely would.

Across private equity there is a spectrum from small cap to large cap with
increasing leverage. The small cap funds do a combination of the leverage
tricks available to PE investors as well as the deal structure tricks
available to VCs (preferred, etc).

~~~
notfromhere
They can't so they don't. That's why its irrelevant.

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pjc50
Private equity is not, in itself, a problem.

 _Leveraged buyouts_ however are starting to become a serious problem. They
allow the hollowing-out of functional but low-profit companies into debt-
ridden shells. The most recent example in the news is Pizza Express: what is a
restaurant chain doing with £1bn of debt?
[https://www.bbc.co.uk/news/business-49957551](https://www.bbc.co.uk/news/business-49957551)

This is bad for staff and bad for creditors.

~~~
airstrike
The bad LBOs are featured much more prominently than the good ones.

LBOs create long-term value for society by disciplining managers (see Nabisco)
and allocating capital more efficiently. Debtors are not forced to lend,
shareholders are not forced to sell (unless the offer is so objectively great
the company has a fiduciary duty to sell), so everyone is a consenting adult.

People who get fired go work for a different company eventually, and the pool
of companies workers can work for only improves in a competitive society.

~~~
notfromhere
LBOs don't create value, they exist to transfer value from stakeholders to
shareholders. PE buyouts have something like a 10x rate of bankruptcy filing
compared to the benchmark.

LBO's require buying a healthy cash-rich business, loading it up with debt, an
then forcing repayment and management fees to the PE fund through cost
cutting, dividend recaps, and other measures to transfer cash. Plus since the
PE firm themselves puts in 1-2% of their own cash, they face little risk and
huge upside for taking on large debts on their PortCo. LBO firms aren't
responsible managers because they don't have the same capital stake that a
real owner would have.

LBO's wouldn't exist if funds were responsible for the financial liabilities
they place on their PortCos.

~~~
citrablue
Wouldn't it be expected that companies who are targeted by PE are more likely
to go bankrupt, independent of any actions by the PE firm? They say they're
targeting poorly run companies, after all. (Not to disagree with your larger
point, but want to correct any mistakes in my understanding.)

~~~
notfromhere
A very small portion of PE is funds focused on either turning around poorly-
run companies or growing small companies, mainly because this is very hard and
requires specializing in a sector. Plus exit horizons are longer than 3-5
years.

Most PE activity is about finding a cash-rich company with steady returns,
having said firm take out large loans to service the debt, and using
fees/dividend recaps to transfer company wealth to the PE fund. PE acquired
companies have a much higher bankruptcy rate than the benchmark

~~~
airstrike
The fact that there are poor performing PE funds out there doesn't make LBOs
an objectively evil device.

You're simply arguing investors are dumb for throwing their money at PEs
somewhat indiscriminately rather than only investing in high-quality PE funds
with investments that do not go bankrupt as often.

Moreover, one could argue that the mere existence of LBOs forces managers to
be more disciplined and act on behalf of their shareholders, which marginally
reduces the challenge that agency costs pose on public corporations

~~~
notfromhere
The LBO model inherently makes operational flexibility difficult.

The whole idea that shareholders are the only ones that matter is both recent
and poisonous to the long-term health of the economy.

~~~
airstrike
> The whole idea that shareholders are the only ones that matter is both
> recent and poisonous to the long-term health of the economy.

They are not the only ones who matter, just the ones who matter the most. My
point was more about corporate kleptocracy and whimsical managers running
wild. I did not claim shareholder value trumps everything else.

In fact, the agency costs of appointing managers to run a business affects not
only shareholders but every other stakeholder.

But for the record, _Unocal v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985)_
established that takeover offers ought to be evaluated in the context of all
stakeholders – "shareholders, creditors, customers, employees, and the
community"¹ – with _Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc., 506
A.2d 173 (Del. 1986)_² later modifying this test to put shareholder value
above all other stakeholders _in certain circumstances_ ("Revlon duties").

Whether that is "poisonous to the long-term health of the economy" is most
certainly _not_ a foregone conclusion and a bold claim to make, particularly
given that we're currently in the longest period of prosperity³ and LBOs are
everywhere to be found

––––––––––

1\.
[https://en.wikipedia.org/wiki/Unocal_Corp._v._Mesa_Petroleum...](https://en.wikipedia.org/wiki/Unocal_Corp._v._Mesa_Petroleum_Co.#Judgment)

2\.
[https://en.wikipedia.org/wiki/Revlon,_Inc._v._MacAndrews_%26...](https://en.wikipedia.org/wiki/Revlon,_Inc._v._MacAndrews_%26_Forbes_Holdings,_Inc).

3\. [https://www.cnbc.com/2019/07/02/this-is-now-the-longest-
us-e...](https://www.cnbc.com/2019/07/02/this-is-now-the-longest-us-economic-
expansion-in-history.html)

------
Blackstone4
I work in the industry and whilst the article does make some good points, it
largely feels like a hit piece focused predominately on the negatives. In a
way there is a clear lack of nuance....for instance: "the PE firm and its
investors can put in a comparatively small amount of cash". PE deals are
typically funded with ~40% to 50% equity with the rest in debt. They are
putting substaintial equity into these companies. Secondly, the PE ecosystem
is large with a significant number of places with a range of different
investment strategies. I don't have the time to make all my points...PE is a
lot more gray than the article paints and it's easy to point to the big, evil
capitalist who make money and say they are ruining the world...

As an example, I've seen private equity save companies. One group acquired a
company that was losing millions with a plan to return it to profitability and
keep jobs....these kind of deals are never discussed in articles like this
because all we hear about are the bankrupticies because they go through
court...

~~~
notfromhere
The PE "fund" puts in 30-50% equity, largely coming out of LP money. The GPs
put in 1-2%. So while the GPs act like managers, they have little skin in the
game and aren't liable for the debts they rack up on the PortCo.

Growth equity has seen some success, but the vast majority of PE activity is
based around financially engineering a PortCo to transfer value from the
PortCo to the fund, regardless of how it wrecks all other stakeholders or the
long-term health of the PortCo.

~~~
Blackstone4
I understand that the majority of equity is coming from LPs but that's not the
point I was making. The way the author framed it sounded like the deals were
90% debt and 10% equity which is not the case.

It depends on the size of manager and I've seen GP commits range from 1% to
10%. The largest dollar commitment I've seen is in the ~$500m
ballpark....either way what matters is whether the GP commit is meaningful in
terms of their own net worth due to alignment of interest. Again this is not a
black and white issue....some GPs do have skin in the game.

Most people do not understand debt including the author...at the moment, debt
is so darn cheap, tax-effecient and covenant-lite that it's almost free
money.... I would rather be on the equity side of the equation then be a
lender....whether that would be a bank or high yield/junk bond investor.

I would argue that raising a PE fund is asymmetric for the manager since
heads: I earn plenty of carried interest....tails: I get fat from the
management fees and hold onto the portfolio companies for as long as I can
(~10 years).

Which segment of the PE market are you refering to? What do you mean by
financial engineering? I've spent a lot of my time in the US LMM and I see
plenty of value creation/professionalization of small businesses. That said, I
appreciate the fact that that kind of work is harder to do at the larger
end...and it's more about the leverage, buying right with the right secular
trends etc. Again not black and white....

For example on job creation:

"We find that the real-side effects of buyouts on target firms and their
workers vary greatly by deal type and market conditions... This conclusion
cast doubts on the efficacy of 'one-size-fits-all' policy prescriptions for
private equity."

If I was to use an analogy with regards to the article, its as if someone
tried describing the entire software industry to an outsider by only refering
to Microsoft, Google and IBM...what about the rest of the industry?

[0] Pro Rata [https://www.axios.com/newsletters/axios-pro-rata-
ed716a8a-37...](https://www.axios.com/newsletters/axios-pro-rata-
ed716a8a-3790-4e1d-8a56-d05db1e4e803.html)

------
Thev00d00
For the lazy/poor: [http://archive.is/DJJC5](http://archive.is/DJJC5)

~~~
wpasc
i appreciate the link, was the "lazy/poor" word choice necessary?

~~~
Lammy
I feel like there’s some implicit self-deprecation in their comment
considering in order to be able to share it they must have generated the
archive link for their own lazy/poor self :)

------
buboard
This tweet sums it up pretty well, even if you want to replace crypto with PE:

"QE turned your savings account into your checking account, the bond market
into your savings account, the equity market into the bond market, the VC
market into the equity market, and crypto into the VC market.

[https://twitter.com/joemccann/status/1181582031790067713](https://twitter.com/joemccann/status/1181582031790067713)

~~~
CamelCaseName
PE is definitely far more structured and reasonable than the VC market.

Holding periods are also much longer for PE than VC, with some holding for 30+
years.

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H8crilA
A good question is what is a retail accessible way to short all this credit
that PE firms put on corporate balance sheets. So far the best I could come up
with was LEAPS puts on BKLN and maybe LQD, if indeed the credit ratings have
weakened and many BBBs are going to get rekd too.

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MuffinFlavored
I am worried that index funds will stop being one of the only mechanisms the
middle class have to build wealth over the next 30 years because technology
has made them so easily accessible and everybody is starting to catch on
participation wise.

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chrisgd
The main takeaway is you want to be a PE firm but may not want to invest in
them.

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OJFord
This page is way too 'big' \- if I zoom out to 50% the text is much more
readable, but of course that makes it occupy a silly width, and the navigation
far too small.

Is there a better way to handle (as a user) scaling content? Maybe custom CSS
to change the font size that's remembered per domain?

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gnomewascool
In Firefox, in the menu (press Alt if it's not visible by default):

View > Zoom > Zoom Text Only

and then zoom in/out as you desire.

The setting is unfortunately global, so you can't zoom in the page on some
sites and zoom in the text on others. (You can toggle the setting, though, and
the "zoom amount" is remembered per-site, irrespective of toggling.)

There are probably also some extensions that would be more flexible and work
on more browsers. (I'm pretty sure that Vimperator (RIP) had an option to
separately change text size and overall zoom.)

~~~
OJFord
Thanks, I didn't know about text-only zoom.

> the "zoom amount" is remembered per-site, irrespective of toggling.

I'm pretty sure it isn't with stock Firefox - I use an extension for that.

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beerdoggie
I was sure it was going to be Matt Levine with a title like that!

