During Mitt Romney’s fight for the Republican nomination, his background as founder of private equity giant Bain Capital was a constant source of ammunition for his opponents. Newt Gingrich, for example, accused Romney of looting companies for short-term gain and leaving armies of unemployed Americans in his wake, and he portrayed the private equity industry as taking a slash-and-burn approach to commerce, at the nation’s expense. Romney’s private equity baggage may prove an even more attractive target to Democrats playing to an aggrieved 99 percent this fall.
But do private equity investors deserve their bad reputation? Is there evidence that they have a negative impact on jobs and incomes at the companies they buy? A study soon to be published in the Journal of Finance suggests that private equity investors like Romney may be sticking it as much to the top 1 percent as to blue collar America. Federal Reserve economist Jesse Edgerton examines the private jet fleets of companies bought by buyout firms like Bain, and finds that among the first things to go are the corporate jets. And evidence from other new studies suggests that the effect of private equity on the American worker is more complicated than is often alleged, with layoffs at factories partially offset by job creation at new factories private equity opens after taking over.
There’s no question that private equity investors are predators, hunting down weak and under-performing companies to purchase, turn around, and sell at a profit. Whether you think they’re a force for economic good or evil depends on what you think of the work they do while the businesses are in their hands.
The slash-and-burn camp points to the enormous debt taken on in executing the leveraged buyouts that are often used to gain control of multibillion-dollar companies. This puts the investor in a race against the clock to generate cash to make interest payments, and to do what’s necessary to make the company attractive for resale in the short-term. Like, say, firing lots of workers to reduce costs.
Private equity boosters, by contrast, present the buyout business as a way of stripping waste out of dysfunctional companies and bringing in more effective leadership to run them. This increases the efficiency of business, in turn raising U.S. GDP and ultimately creating prosperity for all.
One difficulty in evaluating the merits of each view is that after PE investors buy a company, that company generally disappears from public view. Companies traded on stock exchanges—often the targets of private equity investors—have to make detailed public disclosures to the Securities and Exchange Commission. Such disclosures are no longer required after they’re “taken private.”
But information on the private jet fleets owned by all companies—both public and private—are tracked by a company called JETNET, which employs a team of researchers to keep tabs on the ownership of all private airplanes in the United States and has done so since 1989. The corporate jet is the ultimate symbol of the excesses of today’s executive, and his reputation of living the high life on the company’s tab. If private equity investors are focused on cutting needless expenditure from companies they buy, the jet fleet might be the first thing to go.
While detailed statistics aren’t available for firms not listed on a stock exchange, Forbes publishes an annual list of America’s largest private companies that includes sales and employment data, as well as information on the industries each firm operates in and the location of its headquarters. Using the JETNET and Forbes data, along with the disclosures of publicly traded corporations, Edgerton compares the jet fleets of companies owned by private equity with those of companies that are publicly traded. And since in many cases Edgerton was able to follow the same company over time, he can see what happens to the jet fleet when a publicly traded company is bought by a private equity shop.
Comparing the 101 private equity–run companies on Forbes’ list in 2008 to a comparison group of more than 1,000 publicly listed corporations, Edgerton finds that about a quarter of PE firms owned or leased private jets, as compared with 40 percent of publicly traded companies, a difference that persists after taking into account possible differences in geography, industry, and company size. Even in the cases where the company owned its own planes (or a share of one through Net Jets or some other plane-sharing program), the PE-owned firms had smaller planes and fewer of them. A similar pattern emerged when Edgerton looked at the changes in jet fleets owned by 69 companies bought out by PE investors: Within a few years of being taken over, fleet size is down by about 25 percent.
Why don’t corporate raiders sell off the fleet entirely? Because corporate jets do serve legitimate business purposes. A company like Eli Lilly, headquartered in Indianapolis, can’t have its CEO’s travel schedule left to the mercy of the small regional airport that serves its city. And PE investors aren’t averse to executive amenities, as long as they contribute to the bottom line. Edgerton also notes that most of the difference between private and publicly owned companies is the result of the extremely bloated fleets held by a relatively small fraction of publicly traded companies. Edgerton cites the example of the fleet operated by RJR Nabisco—the so-called RJR Air Force—which was whittled from eight jets down to one following the leveraged buyout by Kohlberg, Kravis, and Roberts in the 1980s. (Edgerton’s agreement with JETNET prevents him from providing details on the plane ownership of any specific company, but KKR’s takeover is chronicled in detail—including a discussion of RJR’s fleet—in Barbarians at the Gate.) For the most part, publicly traded firms’ fleets aren’t so much bigger than PE-owned ones—if they were, they might have been targeted for takeover already by raiders on the hunt for badly run companies.
The fact that corporate raiders deprive wealthy executives of jets and other luxuries doesn’t let them off the hook for what they do to the other 99 percent. If inefficiency is the enemy of the good in the private equity business, extra employees could represent every bit as much waste as unneeded airplanes.
But the evidence suggests that the stereotype of private equity as destroyer of jobs is perhaps overblown. A National Bureau of Economic Research working paper looks at what happens to employment after the buyouts of 3,200 companies that took place between 1980 and 2005. It turns out that Gingrich was at least partly right about the effects that Bain Capital and its ilk have on jobs. The study examines the payroll at the factories, offices, and stores at each buyout target before and after the takeover. The authors find that employment at these establishments falls by about 6 percent in the five years following the ownership change—the result of plants being shuttered, and layoffs at the ones that remain open—relative to employment changes at a comparison set of companies. However, these losses are almost—but not quite—offset by new jobs created after the takeover by building new factories, offices, and stores, or acquiring them from other companies.
The authors calculate that there’s still a net loss of jobs, but it’s only about 1 percent. And they point out that the much higher rate at which PE-run companies shutter or downsize some factories while opening or expanding others may be a reflection of efforts to create efficiencies that make the companies more profitable and (perhaps) make America a richer country.
Neither I nor private equity investors themselves would want to leave you with the impression of corporate raiders as saints. Their primary purpose is to squeeze whatever profits they can out of the companies they buy, and often earn fortunes for themselves in the process. Nor is it fair to suggest that the suffering of executives who lose access to private jet travel is comparable to that of workers who lose their jobs. But the picture that emerges from that data suggests that when the dust settles after their cost-cutting frenzy, top management will have gotten squeezed, just like the bottom 99 percent.