THANKS TO THE ASCENDANCE of Mitt Romney to the top of the Republican presidential ticket and to the vociferous Occupy Wall Street movement, private equity firms have entered the public consciousness. Conversation about complex economic issues, such as wealth redistribution, tax policy, and morality in the marketplace inevitably circles back to the murky private equity industry. Considering the vast wealth controlled by these firms, it’s no wonder public scrutiny is at its zenith. Blackstone Group alone has more than $200 billion in assets, more than any other private equity (PE) firm and twice as much as it controlled when the company went public five years ago. Steve Schwarzman, Blackstone’s cofounder, is estimated to be worth $5.2 billion. Bain Capital, Romney’s firm, has (a mere) $66 billion in assets under management, while Romney’s wealth is estimated at (a mere) $250 million.
So just how much money are we talking about? One study estimates that as much as 10 percent of U.S. GDP ($1.5 trillion) is tied up in private equity.
What exactly does a private equity company do? Generally speaking, a PE firm raises pools of capital (often called fundraising) from, say, a pension fund like CalPERS, in order to invest in or acquire another company, often through a leveraged buyout. A typical investment fund may have a life of three, five, or ten years, during which time the PE firm is expected to make a healthy return for its investors. The PE firm makes its money on management fees (charged to investors) and upon exit of the company they purchased, either by selling the company or its assets, or by taking the company public. The outcomes of a private equity investment can result in a fabulous turnaround (e.g., Continental Airlines) or putting a company out to pasture (e.g., KB Toys). Whether the target companies live or die, PE firms tend to do pretty well.
The ubiquity of PE in our everyday lives is startling. As I read Jason Kelly’s The New Tycoons, I kept a list of famous companies that have been affected by private equity: Toys R Us, Dollar General, Nabisco, Motel 6, Del Monte, J.Crew (twice), Domino’s Pizza, Burger King, Staples, Caesars, Clear Channel, Hertz, Lexmark, and on and on. Private equity touches each one of us and deeply impacts our economy. We would do well to learn more about this discreetly powerful sector.
I sat down with Mr. Kelly in early October to discuss his book, The New Tycoons, the mechanics of private equity operations, the moral obligations of firm managers toward their investors and society as a whole, and the would-be legacies of the billionaire private equity tycoons.
Shaun Randol: How does a private equity firm make an acquisition?
Jason Kelly: It depends. When acquiring a public company, a lot of different things have to happen formally to make an offer. For the most part, private equity firms and the ones I discuss in The New Tycoons do not do hostile deals. The approach usually happens over time. At some point the offer has to be disclosed, if it’s a public company, because the shareholders have to vote. Often the courtship is measured in months or even years, during which a lot of analysis is done on the private equity side, and then the typical negotiations happen....read more