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Everything Is Private Equity Now (bloomberg.com)
139 points by atlasunshrugged 9 days ago | hide | past | web | favorite | 110 comments





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.


It's more complicated than that - as the article says PE can be used to diversify an investments. If you have a few extra billion you might not want to tie it all to the performance of the US equity market. So PE doesn't have to beat the S&P to be attractive if the ups and downs happen at different times to the S&P.

Then there is also the question of fees, if the fund is beating the S&P by 1-2% after fees, and their fees are 2 and 20 then the strategy is significantly beating the market. The problem is that there is so much money chasing PE, and that leverage means they don't need that much in client funds, that there isn't a push to lower fees that you see in the equity market.


> "If you have a few extra billion you might not want to tie it all to the performance of the US equity market."

Yes, but... Vanguard's S&P 500 fund isn't the only index fund on the planet, either. You can include a broad international fund, a region or country-specific fund, or any other number of factors. Diversification and passivity are orthogonal.

> "if the fund is beating the S&P by 1-2% after fees"

Yes, but:

1. You're taking on a higher degree of risk, because the information available to you is much more opaque and unregulated (e.g. EBITA as a valuation metric, when it's so easy manipulated). Bubbles are hard to time, even when you do have decent data available. But investors in that world are just completely flying blind. And historically received only a small net premium for that additional risk.

2. Even that historical premium seems to be gone now. As I pointed out from the article, that "1-2%" is looking back over a quarter-century timeframe. Over the past 10 years, half of PE has UNDERPERFORMED the market. The direction of the trend does not look favorable.


Hey Steve, while you are correct I think the confusion is related to what cmdkeen (and the article authors) mean by diversification.

Whilst your comments are valid for public equity - this is simply one of several types of "asset classes" someone with billions of dollars has access too. Different, non-public asset classes can have properties distinct from bubble risks or liquidity.

One of the key benefits of holding a variety of asset classes, particularly the more exotic ones - is that their performance can be uncorrelated with the performance of the stock and debt markets.

Some examples of PE asset classes:

- Venture Capital (very high risk, but over a long period of time is supposed to generate 20-30% rates of return)

- Angel Investing (higher risk still, and you need many companies but also generating 20-30% returns with a big enough portfolio)

- Commercial real estate (uncorrelated to global equity market performance - rather its connected to local market performance, pretty sure around 10% can be typical for offices)

- Infrastructure projects (uncorrelated again, lower rates of return but you are locking in those returns for decades)

There are tonnes of course, but when you start talking about personally investing such large sums of money - diversification means a lot more than just buying investments in the public markets (either bonds or stocks).


Any source for the 20-30% claim? I find that very hard to believe.

Seen it referenced a few times, some digging around will get you there. Also an angel investor spoke at my university about how they invest, and mentioned returns of 23%/24% annualized if I recall - but this was asterisked with "your portfolio of companies must be greater then 20 - any less and you risk losing everything". And, your money is essentially "locked" for 5-10 years (can only get your cash when there is a liquidity event - if one happens at all)

Found this: http://www.industryventures.com/2017/02/07/the-venture-capit... And: http://www.angelblog.net/Venture_Capital_Funds_How_the_Math_...

But given there are many different flavors, sizes, vectors etc of VCs, and given many keep their numbers hush, hush - I wouldn't even know where to look for any kind of "official" numbers on it.


http://www.industryventures.com/wp-content/uploads/2017/02/P...

If you add the averages of each category(75x for the last category) in this source, you'll end up with an annualized return of 9.4% over the 10 years mentioned in the image.

That is not far of the average return of the SP500.


Regarding 1. the risk can also be substantially lower for PE firms, because A. Extensive FVDD (Financial Vendor Due Diligence) and other types of risk assessment are carried out over the negotiation phase, and you are far less susceptible to stock market movements. Also, unlike investing in public companies, the PE fund is almost always the sole investor in the business alongside a small management tie-up, meaning you actually have full control over the business financially and strategically

You can increase your returns by diversifying into uncorrelated assets even if that other asset has returns that underperform the market.

That's why you see the 80/20 stock/bond split recommended so often. Even though bonds underperform stocks, the 80/20 split regularly rebalanced outperforms 100% stocks. Rebalancing is an automatic "buy low / sell high" strategy. After a stock market crash your 80/20 split might be 50/50 so you take that 30% and buy cheap stocks...


Actually, the 80/20 portfolio will decrease returns vs the market. It will outperform on a risk adjusted basis, ie have a higher sharpe ratio (maybe). But the highest return portfolio will always be the one that allocates 100% to the highest returning asset - in this case all to stocks.

According to Vanguard the 100% equities portfolio has historically outperformed all portfolios with bonds.

https://personal.vanguard.com/us/insights/saving-investing/m...


Diversification reduces the variance of the portfolio returns but does not necessarily increase returns.

No matter how much you diversify your long-only strategies, you will still not even be close to market neutral, which is probably what you really want at that scale.

With LBOs, much of the outperformance is due to leverage. If you could lever up the s&p 500, say 25%, you’d likely get much better returns. Because PE firms don’t aggressively revalue assets, they don’t have to face margin calls the same why someone would with an asset that is priced daily.

Should we really expect PE results to be un or weakly correlated with publicly traded companies?

If you want to get into well managed private equity, buy Berkshire Hathaway.

Most private equity companies use substantial debt leverage to acquire companies and flip them as fast as possible. Berkshire is just the opposite. They use mostly their own capital and leverage from insurance float. They buy businesses permanently. They hire good managers, enforce good corporate governance and the business is free from short term performance goals.


Wow. That sounds like a downright responsible way to do business.

Hedge funds always love to claim that they fix companies and make them healthier, but most of them have a reputation for looting them, loading them with debt, and then dumping them at a temporary profit. It's good to see that Warren Buffet actually tries to make businesses healthier.


Hedge funds and private equity are slightly different. Private equity is the leveraged buyout business that got rebranded after its callous performance in the 80s. Hedge funds are usually long/short in public equities (stocks, bonds, etc). Those guys haven't been performing well, and they have had a secular decline in their ability to charge high fees to clients. 2/20 doesn't exist for the vast majority of HFs anymore, more like 1/15, etc.

There are a small number of funds that do growth equity (where they buy a small business and grow it), but so much of it just depends on financial engineering in the way you mentioned in your comment.


There are a few activist funds that definitely do claim that they help “fix” companies.

Yeah, a handful of funds do focus on growth. But it's a small part of the industry, and they typically have longer exit timelines than the "mega-bucks" PE firms.

Berkshire is one of the best run organizations in America.

Most private equity that uses leverage actually destroys businesses. Just look at what happened to toys r us for example. That's extremely common.

The problem is that when private equity buys a company, it usually uses lots of loans to do so. Then the most experienced people in the business are removed or deincentivized (the previous owners). Finally, this now poorly run and heavily in debt company struggles to survive and goes bankrupt in the next recession.

You will see this pattern repeated over and over with private equity.


It's easier to be a creative thief than it is to be a good businessperson.

Stealing this quote. The irony is not lost on me.

The problem is that when private equity buys a company, it usually uses lots of loans to do so

It can’t be as simple as that because who is making these loans to companies that are about to go bankrupt? Why would they do it?


They self-deal. The loans are used to pay management and other fees from affiliates entities.

When the parasite finishes the digestion of the host and it goes bankrupt, they get to write down the losses against the money made on those fees, and the actual losses are distributed amongst the partners in the syndicate.


Companies that may go bankrupt are paying higher interest than normal, stable SP500 companies. This is attractive to people who want to get higher returns at the expense of additional risk. In other words, the existence of these loans is a necessity due to the way the market operates.

Alternative view (not necessarily my view): Hedge funds are able to buy companies that are already in trouble. They do a lot of up-front financial engineering to free working capital for last-ditch efforts. Frequently, those last-ditch efforts don't work and the companies fail anyway.

Obviously, this isn't universally true, but, not all troubled companies can be saved, or really, need to be saved. The standard pivot model just doesn't work on most businesses, while deferred investment and cash flow problems are always fatal.


Hedge funds always love to claim that they fix companies and make them healthier, but most of them have a reputation for looting them, loading them with debt

The genius of PE is convincing the public that all the bad things they do are actually done by “hedge funds”.


Yeah, you've gotta hand it to them, they really commit to the long-term hollowing out of the economy and the wringing of money from poor stones: none of this short-term loot 'em and flip 'em mentality for BH!

https://www.seattletimes.com/business/real-estate/minorities...


Why pull the race card here? It has nothing to do with the situation.

From a follow up article by [one of the] same writer:

> Buffett said the interest rates are influenced by things such as credit score, down payments, earnings and whether the customer owns land. It has “nothing to do with your religion or your color or anything of the sort,” he said.

https://www.seattletimes.com/business/buffett-not-true-that-...


If that article offends you by discussing race, you can grab the CPI article that talks about white people being exploited, too: https://publicintegrity.org/business/warren-buffetts-mobile-...

My comment stands:

> Yeah, you've gotta hand it to them, they really commit to the long-term hollowing out of the economy and the wringing of money from poor stones: none of this short-term loot 'em and flip 'em mentality for BH!


People investing in things can yield higher effective returns because the private equity funds are also tax shelters. In the most simple scheme, your billion dollars of income in an S&P 500 ETF will generate $20M of taxable dividends. Wrapping it in the fund can be used to make that a long term capital gain, and the partnership structure has other positive taxation features. (Like avoiding gift or estate taxes)

In general, if you see some complex/bullshit sounding financial vehicle that doesn't make sense to you, it likely exists to avoid taxation.


Your logic can be reduced to "If I can't understand something then it must be a tax dodge." This is extremely reductionist and too simplistic...

The main driving force behind private equiy are the returns where the best funds have out performed the S&P 500...private equity funds are typically limited partnerships where the investors pay tax on income.


> only managed to beat an S&P 500 index fund by 1-2% after fees

From the article: "Over the 25 years ended in March, PE funds returned more than 13% annualized, compared with about 9% for an equivalent investment in the S&P 500"

When you are dealing with exponents small differences become enormous over time. Remember: y = y0*e^kt where y is money later, y0 is money now, e is 2.71, k is the interest rate, and t is time. So assuming 9% annualized return in the SP500, after 10 years, your million dollar PE investment will yield 2.5 million in the stock market, but 3.7 million in PE or a 1.2 million dollar difference. In addition, they maximize y0 by leveraging.

Ignoring the terrible social costs (e.g., Shopko from the article) and the fact that their accounting and tax practices are suspect, I'll take the PE any day.


> I wouldn't get involved with private equity firms

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


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.


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.

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

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).


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

Indeed. They do slightly different kinds of questionable financial engineering.

While the first part of your post is correct, they operate extremely differently.

As an investor, paying them to manage my money, silly.

This is about LBO, not VC. It’s mentioned in the subtitle of the article and in the first paragraph.

Y combinator is more the VC model that the PE one.

VC is Private Equity. All thumbs are fingers but not all fingers are thumbs.

My son has lately been claiming that the thumb is not a finger, and he can explain why. I'm not sure who to believe anymore.


Not in the way intended y combinator doesn't do MBO's or dodgy debt loading as far as I know

It sounds like you're conflating asset class (PE) with capital structure (how asset ownership is financed).

Private equity is just an investment of capital in a non-public company in exchange for equity. YC makes capital investments in non-public companies in exchange for equity.

The structure of PE deals can vary from the simple cash investment in exchange for company stock all the way up to incredibly complex leveraged buyouts and everything you could imagine in between.


Not sure how it is in the US but in the UK anyone can buy listed PE Investment trusts.

And quite often you can look at the discount and do arbitrage on that I certainly did very well with Electra Private Equity (ELTA)


How do you arbitrage?

I assume you can't hand Electra one of their shares and get back its constituents. And I assume because it's private equity, you can't do the obverse either, or do a long/short type trade.


Investment trusts themselves are publicly traded, they're closed-ended funds with capital raised once on launch - sort of like pooling private equity, but you can then sell your stake.

The public listing is of the company, whose business happens to be investing, so though I've never looked I don't see why CFDs & derivatives wouldn't be available.

Venture Capital Trusts (VCTs) are similar (perhaps a subset?) but focus on earlier stage companies (clearly) in exchange for a tax advantage for the initial investors - but not for those who subsequently purchase shares in the VCT itself from them.


You buy when the trust is at a larger discount than normal in a bear market or look for trusts where there is corporate action going on and the shares will be rerated or trust will be wound up.

You presumably could short a quoted trust or us CFDs or buy warrants but that's a bit rich for me.


That is not what is traditionally referred to as arbitrage. You are betting on an unknown variable (correct discount), not noticing pricing for the same asset being different in the same moment. Arbitrage is “sugar being sold at $2 at shop A, and bought at $3 at shop B, and the shops are next to one another”

> have only managed to beat an S&P 500 index fund by 1-2% after fees

"Beating" the S&P500 doesn't necessarily mean earning higher returns. Earning the same returns with lower risk/volatility would also be widely accepted as "beating" it as most people are more afraid of losing their fortune than they're ambitious to increase it.

I'm curious whether taking that into account changes how many private equity firms beat the S&P 500.


Given your money is tied up for 10 plus years and there’s a lot of leverage involved, you need to have a much higher hurdle rate to want to invest. Say 3.50% or more after fees.

Is any hedge-fund trying to index private equity? Some of the unicorns, for example, probably merit(ted) being ranked among the fortune 500, but are not part of the S&P 500 index. It would be interesting to see index investing make it's way into private equity.

Honest question - how would you actually go about doing this?

The phenomenon you're describing is definitely true to some extent. Look at when in their lifecycle companies went public prior to 2008 compared to now: far more of the value created is now captured by private capital. This is why, ironically, PE is the largest source of alpha to vehicles like pension funds - they can't capture the same kind of yield in public markets anymore and have mandates about the types of investment they can make.

Figuring out a better way to democratize access to the potential yield that used to be available in public markets would be excellent, but I'm not sure how to do it without pretty massive side effects.


Why would you expect a magic “beat the S&P” button to exist at all? That would be a gross violation of the EMH. If it has indeed beat an index fund by 1% in a risk adjusted manner that would be a miracle in itself.

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

This is bad for staff and bad for creditors.


It is bad for staff. Working for a company that’s been bought by a PE firm sucks. Almost always layoffs are coming and you’ll have to do more with your resources or more Witt fewer resources.

Creditors are lending their own money. If they make a bad bet that’s on them, should have done better due diligence.

What PE is good for is increasing economic efficiency more generally which redounds to the benefits of consumers in the long run.


Regarding layoffs: "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."

[0] Pro Rata https://www.axios.com/newsletters/axios-pro-rata-ed716a8a-37...

It really depends on the PE firm and the company. In the software space, there are large PE firms which have a tendency to cut headcount because in their view, public market CEOs focus on growing revenue at the expense of profitability. This tends to lead to excessive full time employees over and above best practises...so if the previous CEO overhired and the PE firm fired people....then it's the PE firm that's in the wrong right...end of story? I'm not saying you are saying this but this is the underlying vibe I get in these kind of discussions....


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.


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.


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.)

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


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


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.


> 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...

2. https://en.wikipedia.org/wiki/Revlon,_Inc._v._MacAndrews_%26....

3. https://www.cnbc.com/2019/07/02/this-is-now-the-longest-us-e...


Cost cutting is one view, increased efficiency is another.

Have you, by chance, read Barbarians at the Gate?

Not only have I read it, I have also provided financial / strategic advice on several LBOs

Isn't it great to make claims about entire industries based on single data points?

Why do these companies somehow deserve to exist? Why can't the creditors make their own decisions on who to lend to and pay the price if they are wrong?

If you look closely, much of the "debt" is actually between subsidiaries of the same controlling PE owner - it's possible for the left hand to loan money to the right hand, claim back huge interest payments (Maplin were paying 15%! https://leftfootforward.org/2018/03/revealed-how-private-equ... ), thereby taking profit out of the subsidiary without it appearing as profit to the taxman. The internal creditor at the high rate will have got their principal back very quickly. It's the external creditors (suppliers etc) who get stiffed.

Remember that every supplier and every employee of a business is also a creditor.


The author doesn't know how bankruptcy works. You can say the debt is "secured" all day long, but if it is held by the owners then the bankruptcy judge will immediately kick it to the back of the line by equitable subordination.

Interesting. What about the obvious follow-up question: Why do the external creditors that lend to a pizza company via accounts receivable deserve their money back? Didn't they see the scammy nature of the operation?

It’s not like suppliers of a chain this large aren’t big savvy corporations too.


<shrug> They're Pizza Express. There's one on every high street. Who would expect them to fail to pay invoices? There's a cost to credit-checking your counterparties, too. And at the end of the day, none of them are invulnerable. If you're a food wholesaler or a POS systems company, do you refuse to do business with Pizza Express? Do you have time to go through their accounts? Is £1bn even unusual? Have they been like running successfully like this for a while?

I think this particular case there might be late payment but the business is going to remain in operation and they'll eventually get paid. Thomas Cook on the other hand incurred a lot of externalised costs.

I'm really not a fan of post-hoc "ah, people deserve to lose their money because they should have known (nonobvious XYZ)". There's even a surprising sentence in the BBC article:

> its auditors were happy to conclude the chain is a viable going concern when it signed off its accounts in April this year despite the company's debts being worth more than its assets

If the auditors (chartered regulated specialists!) think it's fine, who would say it wasn't?


Also

> despite the company's debts being worth more than its assets

Doesn't mean much if you're just comparing Book Value...


In this case they wouldn't care because the external bank debt is senior to the debt in question. The author doesn't really know anything about corporate finance as I would expect from a publication called "Left Foot Forward".

Why do the lenders that lend $1B to a pizza company deserve their money back? Didn't they see the scammy nature of the operation?

Do the lenders lend that $1B to the pizza company, or did they lend it to the hedge fund, which then transferred the debt to the pizza company? If the latter, I think the hedge fund should be considered the lender to the pizza company so they're on the hook when the pizza company goes bust.

This is what really killed Toys R Us.

PE firms essentially made TRU borrow shit tons of money from them at ridiculous rates to buy itself from public shareholders, then eventually they couldn't keep up with the interest payments.

At the time of the buyout, Toys R Us was in a sales slump, but they were still making a profit and continued making a profit until the very day they closed their doors.


Company management decided to borrow money at a bad time. You phrased that in really weird way to make it sound like some sinister external force is making them do things against their will.

If feels sinister because the company didn't need to borrow money.

A business that was adequately servicing investors, employees, and customers, has been destroyed because a small group tried to extract more wealth from the company than it could sustain.

But I would probably agree with you that just because something feels sinister, doesn't mean that it actually is. And "Toys R Us" would have been destroyed by Amazon within the decade no matter what. Gary Vanderchuck talked about how terribly poor the management was, and their failure to do any significant innovation or participate meaningfully in any of the trends around children's entertainment.


It was sinister.

Bain, KKR, and Vornado borrowed money to "buy" the company then saddled the debt with the purchased company. So in a way, they did force them.

The shareholders and board members prior to the buyout made out like bandits, which is all they wanted.

Toys R Us couldn't keep up with the interest payments on loans from Bain and KKR. Not to mention "advisory fees" and whatever bullshit they charged Toys R Us with. That's what put them under. Not lagging sales. Not bad business. Being "bought" by sinister people.


If feels sinister because the company didn't need to borrow money.

A business that was adequately servicing investors, employees, and customers, has been destroyed because a small group tried to extract more wealth from the company than it could sustain.


It looks almost like fraud, an exploit using an edge condition.

* Buy a working company.

* Borrow a ton of money, siphon it out.

* Bankrupt the company which is liquidated for much less than the amount borrowed.

* The lenders are left holding the bag.


Hedge funds and Private Equity are entirely different beasts

You can't just transfer debt like that. Otherwise I could go take out a mortgage and transfer it to a homeless guy for beer money.

It's crazy, that's almost £1.5M of debt per restaurant. I expect the independent pizza place next door has less than 10% of that on average

You can buy an existing successful McDonald's for about that cost, and McDonald's will help you succeed in paying off the loan. Of course you will need to take out additional loans once in a while to replace old equipment, or support some new product line, but overall the business plan is you work hard for 35 years, make a good income, then sell the business to someone else and retire in comfort should work out. I think any other restaurant should have similar economics. As such the cost doesn't scare me directly assuming their management is good enough to run the business.

What does scare me though as only the most successful locations are worth that much debt per restaurant. They better not have any locations that are not in the highest performing locations. Of course their returns can be difference from McDonald's. I don't have any insight into their business to know if it is reasonable for the or not, but it passes the smell test of could be reasonable.


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...


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.


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...


For the lazy/poor: http://archive.is/DJJC5

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

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 :)

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


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.


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.

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.

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

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?


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.)


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.


Firefox reader mode does the trick for me.

It works that great I usually don't even try to read articles in their newspapers own layout.

There's probably a chrome/Safari equivalent.


Thanks, I do use FF, and have used reader mode occasionally (usually on mobile to avoid obnoxious pop-ups or footers when ublock is more of a pain to use) - but what I hadn't found until you commented was the font size, width, line height, and background colour settings. That's pretty great.

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



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