The pirates of yore at least had to sail the high seas and risk life and limb to seize their loot. Today, Wall Street’s private equity pirates are managing to loot the companies they control with a round of bond sales and a lift from the Federal Reserve.
This industry, which includes some of the richest people on the planet, has been able to extract $10 billion from the companies it owns since March, assisted by the Federal Reserve’s widespread, unconditional support of the financial markets.
Private equity firms were not a direct beneficiary of the Fed’s corporate bond purchase program since much of the debt they issue is not safe enough to meet the Fed’s requirements. However, by virtue of its purchase of high-quality debt, the Fed has lowered the returns on investment-grade corporate bonds. So, investors have turned to more speculative debt such as private equity’s “dividend recapitalization” issues.
In essence, the Fed crowded out investors in one class of securities and drove them into the arms of private equity. That has enabled private equity executives to enrich themselves to an enormous extent, in ways that leave the companies they own on shakier ground, putting workers’ jobs at greater risk.
Take the case of KKR, one of the biggest private equity firms around. KKR originally purchased Epicor, a retail and manufacturing software company, for $3.3 billion in 2016. After three years, KKR attempted to sell the company for $5 billion in August 2019 but failed to find any buyers. Selling the company became significantly more difficult once the pandemic started so KKR instead came up with a different money-making strategy. Once Federal Reserve assistance reassured investors about returning to the market by the end of the spring, KKR had Epicor issue a massive $2.35 billion loan to refinance its existing debt. KKR, as the owner of Epicor, then paid itself nearly $600 million in dividends.
KKR did not have Epicor take out additional debt in order to make investments to increase productive capacity or to save or create jobs. KKR simply took out a loan and pocketed the cash, leaving Epicor on the hook to pay it back. Some call these types of transactions by their official name, “dividend recapitalizations.” Others would simply call this looting.
Following KKR’s success with this maneuver, others have used a similar playbook. TPG Capital sold a $2.7 billion loan for cable provider RCN to investors while Wind Point Partners sold a $1.1 billion loan for snacks maker Shearer’s Foods, according to data from Bloomberg. In total, $10 billion of debt has been issued so far this year to be put into the pockets of private equity.
And they are not done yet. A senior banker at Wells Fargo warned in the Financial Times that more such cash-out offerings are still on the way, saying “there’s going to be more coming for sure.”
This behavior is par for the course, in that private equity firms typically purchase and take control over companies using a mix of some cash raised from institutional investors and more debt, which the company — not the private equity firm — must ultimately repay. On a personal level, a dividend recapitalization would be like your parents grabbing your credit card to make a payment to themselves, pocketing it, and leaving you to repay that amount yourself later. This moment is supercharging that dynamic in the private equity industry. Without contributing a dime of their own money to help the companies during the worst of the pandemic, private equity firms can cash out, knowing that they are not responsible for all the debt incurred by their companies.
In the short run, the Fed could do something about this by exercising its role as a banking regulator and prohibit banks from underwriting such loans. And Treasury and the Small Business Administration could claw back money that went to private equity firms in violation of the rules on aid to small businesses. In the medium run, we need policy change to stop the repeated abuses of the private equity business model.
Banking regulators should crack down on these firms when they deceive investors and the public, and Congress should fix the broken rules that enable and reward looting.
The Stop Wall Street Looting Act — introduced last year — would stop “take the money and run” behavior by making private equity moguls legally liable for the debt they saddle portfolio companies with, as well as for company misconduct. The bill would also would protect workers, jobs, and benefits from private equity looters.
Originally published by Americans for Financial Reform.
