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.
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.
 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....
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.
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.
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
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 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
Remember that every supplier and every employee of a business is also a creditor.
It’s not like suppliers of a chain this large aren’t big savvy corporations too.
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?
> despite the company's debts being worth more than its assets
Doesn't mean much if you're just comparing Book Value...
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.
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.
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.
* 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.
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.