6 ms·

Private equity: A fee too far [pdf]

61 points by luu 3y ago

viknesh 3y ago
The article is from 2014. Does anybody know if there's been any regulatory movement on this since then?
throwawayqqq11 3y ago
I am sorry but this bothers me to no end. (Why is nobody seeing it as i do :) > One issue the regulatory agency raised was conflict of interest [… between managers and stakeholders] combined with > Mr Sudarskis argues that the most vulnerable parties are not the investors, who recieve a share of the fees and willingly sign a contract with their fund managers, _but portfolio companies._ This conflict of interest goes far beyond the monetary aristocracy! Am i the only one who sees it between the interest of individuals vs society?! Is this question so darn complex or am i the crazy one here? This article dares to speak about "extraction" but does not reflect one key metric: reinvestment/saving rate (down to the individual/per income). A household with small margins is much more impacted by greedflation and much more unlikely to not spend and hand down absurd wealth. So i humbly cannot contain another dull question: Extracting from and to whom in general? The reason why it bothers me so much is, you can see this elefant everywhere ... and the guys standing around, arguing what snake its tail might be.
- DarkNova6 3y ago
  Some people even claim that this is a natural process. But this phenomenon is most visible in the US and UK. It is the logical result of privatization and market liberalization from past decades. Power and wealth has shifted from the commons to private ownership and this is only going to continue. Of course this would be a different story if private actors had to play by the same rules, but if you amass enough capital, you are „too big to fail“ for capitalism and your losses are paid by the public. Too big to fail should nowadays be called „too big to exist“.
  - boppo1 3y ago
    >you are „too big to fail“ for capitalism Isn't market intervention more like corporate socialism though? I mean that's literally not capitalism.
    - ceejayoz 3y ago
      If the market intervention is driven by and for the benefit of the people, you might call it socialism. "Too big to fail" is crony capitalism.
    - RoseRose 3y ago
      > Isn't market intervention more like corporate socialism though? I mean that's literally not capitalism. I mean I'd argue the "too big to fail bailots" are a particularly ineffective bit of market intervention in the long term, but generally speaking "market intervention to save the health of the economy" is bog-standard neoliberal, capitalist ideology. The only whiff of socialism comes from recognizing that without guardrails the fully freed economy will destabilize, possibly from angry with pitchforks, angry they can't afford food, shelter, and the basics. So—it is still serving the ultimate needs of the capitalists who run society by not ousting them when they do destabilizing things. Plus, if this weren't capitalism, no society in history would have been capitalist making it a bit of a useless word for sticking to extant political movements.
    - dfxm12 3y ago
      "Corporate socialism" is the privatization of the profits and socializing the risks. Who owns the banks that were bailed out by the US government in 08? hint: they weren't nationalized; they're still private. Capitalism comes in many forms. If market intervention enforces private ownership of capital, it is still a feature of Captialism.
      - Phiwise_ 3y ago
        Didn't think I'd run into the Department of Housing and Urban Development on HN today. Call me crazy, but I'm not sure they're the best party to be asking for capitalist definitions in this dispute.
- whall6 3y ago
  What exactly is the issue you’re seeing?
  - throwawayqqq11 3y ago
    Ignorance. You can only solve problems that you see and with my conspiratorial hat on, i would say it is deliberate.
    - whall6 3y ago
      What is the ignorance you’re seeing here?
      - throwawayqqq11 3y ago
        In case of this article: > Mr Sudarskis argues that the most vulnerable parties are not the investors, who recieve a share of the fees and willingly sign a contract with their fund managers, _but portfolio companies._ In terms of effected people, i would not call investors the "most vulnerable". Have-nots can't spread risk to the degree a fund manager can and are bound much more to local monopolies. "The most vulnerable ones to powerful individuals abusing their power to enrich themselfes, are portfolios." Sounds weird, doesn't it.
        whall6 3y ago
        Sorry I’m still not following. What’s weird about that? Sounds like you’re trying to imply something but I’m not getting it.
LatteLazy 3y ago
If someone wants to buy a company and liquidate it, that's up to them. If they make a profit then they're actually adding value. If they don't they will soon stop. Doing it via fees and loans is no different to just a straight liquidation as far as I can see. And since all the owners/investors are willingly taking part of they lose their money, that's on them. It's sad that people's jobs get eliminated. But we have accepted (for good reason) that jobs are never guaranteed. So that's life. Everything else here is basically just fear-mongering.
- throwawayqqq11 3y ago
  The main point of this article is the conflicting interests of greedy managers. > If they make a profit then they're actually adding value. Martin Skrelli. [0] Please tell me what and where his added value is. And please no fear mongering about the rich getting poorer. [0] https://en.m.wikipedia.org/wiki/Martin_Shkreli https://en.m.wikipedia.org/wiki/Martin_Shkreli
  - LatteLazy 3y ago
    The value is in the resources of the company being liquidated. Right now, those resources are being used to produce $X per year in profit. But if we sold them all, and just put the cash in a bank we could get $Y in interest. Make sense? If Y>X then the best thing to do is liquidate the company. An example might help: imagine you have a steel mill, and it makes just $1000 a year. Someone from Canada comes to you and says "I'll give you 50m for the mill, I want to take all the equipment to Canada where there is a shortage of steel". He will fulfil more demand at a better price by doing that (hence he will offer 50m for a steel mill that only makes a pittance in the USA). And you can't ake the 50mil and build something people actually need (like a refinery since gas prices are really high etc). Does that make sense? It's about allocating resources. And stopping them being allocated to things people won't actually pay for (steel production when no one wants steel) so that they can be allocated to things people do want (more gas during a gas shortage). Resource allocation is actually really really critical both in general and in high efficiency, capital intensive economies like ours. Doing this well is basically why capitalism beats communism in terms of growth. Obviously profit is not everything. And we should help people made unemployed. But continuing to waste resources just makes everyone poorer. It's just quite an oblique way of doing what amounts to central planning but with no need for a single centre and doing it faster and smarter...
refurb 3y ago
I'm not sure I understand the concern: - company is bought in a LBO by a PE company - PE company has onerous fees as a part of the buyout agree (which the target company agrees to) - the victim are institutional investors who pay these high fees, but were willing partners to the LBO I mean it sounds like one group of people from Wall Street trying to rip off another group from Wall Street. Can't the institutional investors just pull their investment if they think it's a bad deal? Can't they read the fine print on the LBO deal? Do we need to somehow protect institutional investors who manage tens of billions of dollars? Are they a victim that needs protection? How is it all that different from a company owned by a majority shareholder who makes bad business deals? What do institutional investors do then? Presumably they use their voting power to stop it, or else just exit their position?
- erostrate 3y ago
  > Can't the institutional investors just pull their investment if they think it's a bad deal? Can't they read the fine print on the LBO deal? I can think of a few reasons why they don't. They need 'uncorrelated returns' which PE provides, and it might be worth paying extra fees for this. That does not mean the fees are fair, it just means there is not enough competition. Also institutional investors might not perfectly rational and informed, as the article notes some of these fees are somewhat obscured and investors might be looking more at direct management fees. Relatedly, there is probably an asymmetry of skills and power, as institutional investors are second or third tier firms whereas PE firms are top tier. Finally, there is the usual agency problem, institutional investors are not sufficiently incentivised to reduce fees, because the fees are effectively paid by people who put the money in the funds, namely you and I, via pension funds or sovereign wealth funds. > Do we need to somehow protect institutional investors who manage tens of billions of dollars? Are they a victim that needs protection? We need to protect the people who ultimately put the money in the funds, not the chain of asset managers extracting their rents on top of it. Historically for PE these were high net worth individuals, so nobody cared, but nowadays they are California's teachers and Japanese pensioners. > How is it all that different from a company owned by a majority shareholder who makes bad business deals? What do institutional investors do then? Presumably they use their voting power to stop it, or else just exit their position? It is a similar agency problem I think. It's easier if you're investing directly in companies, because there are many companies competing with each other to attract institutional investors' money, so they care more about making investors happy. The underlying question is why aren't PE firms competing with each other to provide lower management fees to attract more institutional money. This has happened in public market funds, with Vanguard for example providing very low fees. But for some reason it doesn't seem to happen in private markets. PE firms compete on where to put the money, trying to win deals against each other, but do not seem to compete that much on where they get the money. I don't know why. It could be that quantitative easing made money so abundant that they had more money than deals to spend it on, so there was no reason to compete. Edit: to be fair this seems to be happening somewhat now [1] [1] https://www.ft.com/content/05b0d935-678b-418c-8a86-b1a99bb045ea https://www.ft.com/content/05b0d935-678b-418c-8a86-b1a99bb04...
multicast 3y ago
When an entity buys a business (majority ownership) it can do whatever it pleases to do. Outcries and discussions about fees they charge and other things they allegedly do is completely illogical. This article is unbelievable hopeless. People have to understand that a 'PE' fund and also other alternatives like a 'hedge fund' is simply a private partnership / specific legal vehicle. The term 'Private Equity' and 'Hedge fund' does not even exist in legal terms, it is market jargon. Not only will there never be any regulation but there can't be any. You can't just regulate a certain field of activity that operates solely in the legal world. The private partnership has an agreement to acquire companies, but it could also be about anything else! Giving the fund enough freedom to buy companies, buy land, buy art etc. A PE fund and a hedge fund are NOT REGULATED by the SEC, they are REGISTERED with the SEC. Their filings are also never checked for correctness, thus only accredited investors (wealthy - e.g. income above 200K) are allowed under law to invest in such private entities if the fund markets itself! You can not regulate a private investment vehicle in a country takes certain economic and free-market principles and incentives halfway serious. And if the public goes on the nerve of these management companies they just rebrand 'Private equity' to something else. And don't forget, they OWN the portfolio company. There is no serious argument for regulation that prohibits a legit owner of a company to do a certain activity.
TrackerFF 3y ago
It is crazy how much money the PE folks have made by making a company worse off. In far too many cases, it's been like the anti-thesis of business: Instead of getting paid by improving a business, and thus delivering better service/products to the customer, the businesses have been optimized for debt - which in turn has been funneled back via dividends. In the end the business is worse off, and the customers are paying more for less (or exactly the same before PE stepped in). Luckily the days of cheap/free debt are over, but some few earned billions.
- monero-xmr 3y ago
  If I worked 20 years building my business, and PE comes knocking and is willing to overpay as some sort of roll-em-up play (very common), then that benefits me - the owner. Everyone always forgets the other side of PE which is that they provide tons of liquidity for non-public companies, and also overpay to public shareholders.
A_Duck 3y ago
Here's the paywalled FT link: https://www.ft.com/content/9dd43216-0857-11e4-9afc-00144feab7de https://www.ft.com/content/9dd43216-0857-11e4-9afc-00144feab... The original article formatting is a bit easier to read on mobile if you do subscribe

61 points by luu 3y ago

The article is from 2014. Does anybody know if there's been any regulatory movement on this since then?

I am sorry but this bothers me to no end. (Why is nobody seeing it as i do :) > One issue the regulatory agency raised was conflict of interest [… between managers and stakeholders] combined with > Mr Sudarskis argues that the most vulnerable parties are not the investors, who recieve a share of the fees and willingly sign a contract with their fund managers, _but portfolio companies._ This conflict of interest goes far beyond the monetary aristocracy! Am i the only one who sees it between the interest of individuals vs society?! Is this question so darn complex or am i the crazy one here? This article dares to speak about "extraction" but does not reflect one key metric: reinvestment/saving rate (down to the individual/per income). A household with small margins is much more impacted by greedflation and much more unlikely to not spend and hand down absurd wealth. So i humbly cannot contain another dull question: Extracting from and to whom in general? The reason why it bothers me so much is, you can see this elefant everywhere ... and the guys standing around, arguing what snake its tail might be.

DarkNova6 3y ago
Some people even claim that this is a natural process. But this phenomenon is most visible in the US and UK. It is the logical result of privatization and market liberalization from past decades. Power and wealth has shifted from the commons to private ownership and this is only going to continue. Of course this would be a different story if private actors had to play by the same rules, but if you amass enough capital, you are „too big to fail“ for capitalism and your losses are paid by the public. Too big to fail should nowadays be called „too big to exist“.
- boppo1 3y ago
  >you are „too big to fail“ for capitalism Isn't market intervention more like corporate socialism though? I mean that's literally not capitalism.
  - ceejayoz 3y ago
    If the market intervention is driven by and for the benefit of the people, you might call it socialism. "Too big to fail" is crony capitalism.
  - RoseRose 3y ago
    > Isn't market intervention more like corporate socialism though? I mean that's literally not capitalism. I mean I'd argue the "too big to fail bailots" are a particularly ineffective bit of market intervention in the long term, but generally speaking "market intervention to save the health of the economy" is bog-standard neoliberal, capitalist ideology. The only whiff of socialism comes from recognizing that without guardrails the fully freed economy will destabilize, possibly from angry with pitchforks, angry they can't afford food, shelter, and the basics. So—it is still serving the ultimate needs of the capitalists who run society by not ousting them when they do destabilizing things. Plus, if this weren't capitalism, no society in history would have been capitalist making it a bit of a useless word for sticking to extant political movements.
  - dfxm12 3y ago
    "Corporate socialism" is the privatization of the profits and socializing the risks. Who owns the banks that were bailed out by the US government in 08? hint: they weren't nationalized; they're still private. Capitalism comes in many forms. If market intervention enforces private ownership of capital, it is still a feature of Captialism.
    - Phiwise_ 3y ago
      Didn't think I'd run into the Department of Housing and Urban Development on HN today. Call me crazy, but I'm not sure they're the best party to be asking for capitalist definitions in this dispute.
whall6 3y ago
What exactly is the issue you’re seeing?
- throwawayqqq11 3y ago
  Ignorance. You can only solve problems that you see and with my conspiratorial hat on, i would say it is deliberate.
  - whall6 3y ago
    What is the ignorance you’re seeing here?
    - throwawayqqq11 3y ago
      In case of this article: > Mr Sudarskis argues that the most vulnerable parties are not the investors, who recieve a share of the fees and willingly sign a contract with their fund managers, _but portfolio companies._ In terms of effected people, i would not call investors the "most vulnerable". Have-nots can't spread risk to the degree a fund manager can and are bound much more to local monopolies. "The most vulnerable ones to powerful individuals abusing their power to enrich themselfes, are portfolios." Sounds weird, doesn't it.
      - whall6 3y ago
        Sorry I’m still not following. What’s weird about that? Sounds like you’re trying to imply something but I’m not getting it.

LatteLazy 3y ago

If someone wants to buy a company and liquidate it, that's up to them. If they make a profit then they're actually adding value. If they don't they will soon stop. Doing it via fees and loans is no different to just a straight liquidation as far as I can see. And since all the owners/investors are willingly taking part of they lose their money, that's on them. It's sad that people's jobs get eliminated. But we have accepted (for good reason) that jobs are never guaranteed. So that's life. Everything else here is basically just fear-mongering.

throwawayqqq11 3y ago
The main point of this article is the conflicting interests of greedy managers. > If they make a profit then they're actually adding value. Martin Skrelli. [0] Please tell me what and where his added value is. And please no fear mongering about the rich getting poorer. [0] https://en.m.wikipedia.org/wiki/Martin_Shkreli https://en.m.wikipedia.org/wiki/Martin_Shkreli
- LatteLazy 3y ago
  The value is in the resources of the company being liquidated. Right now, those resources are being used to produce $X per year in profit. But if we sold them all, and just put the cash in a bank we could get $Y in interest. Make sense? If Y>X then the best thing to do is liquidate the company. An example might help: imagine you have a steel mill, and it makes just $1000 a year. Someone from Canada comes to you and says "I'll give you 50m for the mill, I want to take all the equipment to Canada where there is a shortage of steel". He will fulfil more demand at a better price by doing that (hence he will offer 50m for a steel mill that only makes a pittance in the USA). And you can't ake the 50mil and build something people actually need (like a refinery since gas prices are really high etc). Does that make sense? It's about allocating resources. And stopping them being allocated to things people won't actually pay for (steel production when no one wants steel) so that they can be allocated to things people do want (more gas during a gas shortage). Resource allocation is actually really really critical both in general and in high efficiency, capital intensive economies like ours. Doing this well is basically why capitalism beats communism in terms of growth. Obviously profit is not everything. And we should help people made unemployed. But continuing to waste resources just makes everyone poorer. It's just quite an oblique way of doing what amounts to central planning but with no need for a single centre and doing it faster and smarter...

refurb 3y ago

I'm not sure I understand the concern: - company is bought in a LBO by a PE company - PE company has onerous fees as a part of the buyout agree (which the target company agrees to) - the victim are institutional investors who pay these high fees, but were willing partners to the LBO I mean it sounds like one group of people from Wall Street trying to rip off another group from Wall Street. Can't the institutional investors just pull their investment if they think it's a bad deal? Can't they read the fine print on the LBO deal? Do we need to somehow protect institutional investors who manage tens of billions of dollars? Are they a victim that needs protection? How is it all that different from a company owned by a majority shareholder who makes bad business deals? What do institutional investors do then? Presumably they use their voting power to stop it, or else just exit their position?

erostrate 3y ago
> Can't the institutional investors just pull their investment if they think it's a bad deal? Can't they read the fine print on the LBO deal? I can think of a few reasons why they don't. They need 'uncorrelated returns' which PE provides, and it might be worth paying extra fees for this. That does not mean the fees are fair, it just means there is not enough competition. Also institutional investors might not perfectly rational and informed, as the article notes some of these fees are somewhat obscured and investors might be looking more at direct management fees. Relatedly, there is probably an asymmetry of skills and power, as institutional investors are second or third tier firms whereas PE firms are top tier. Finally, there is the usual agency problem, institutional investors are not sufficiently incentivised to reduce fees, because the fees are effectively paid by people who put the money in the funds, namely you and I, via pension funds or sovereign wealth funds. > Do we need to somehow protect institutional investors who manage tens of billions of dollars? Are they a victim that needs protection? We need to protect the people who ultimately put the money in the funds, not the chain of asset managers extracting their rents on top of it. Historically for PE these were high net worth individuals, so nobody cared, but nowadays they are California's teachers and Japanese pensioners. > How is it all that different from a company owned by a majority shareholder who makes bad business deals? What do institutional investors do then? Presumably they use their voting power to stop it, or else just exit their position? It is a similar agency problem I think. It's easier if you're investing directly in companies, because there are many companies competing with each other to attract institutional investors' money, so they care more about making investors happy. The underlying question is why aren't PE firms competing with each other to provide lower management fees to attract more institutional money. This has happened in public market funds, with Vanguard for example providing very low fees. But for some reason it doesn't seem to happen in private markets. PE firms compete on where to put the money, trying to win deals against each other, but do not seem to compete that much on where they get the money. I don't know why. It could be that quantitative easing made money so abundant that they had more money than deals to spend it on, so there was no reason to compete. Edit: to be fair this seems to be happening somewhat now [1] [1] https://www.ft.com/content/05b0d935-678b-418c-8a86-b1a99bb045ea https://www.ft.com/content/05b0d935-678b-418c-8a86-b1a99bb04...

multicast 3y ago

When an entity buys a business (majority ownership) it can do whatever it pleases to do. Outcries and discussions about fees they charge and other things they allegedly do is completely illogical. This article is unbelievable hopeless. People have to understand that a 'PE' fund and also other alternatives like a 'hedge fund' is simply a private partnership / specific legal vehicle. The term 'Private Equity' and 'Hedge fund' does not even exist in legal terms, it is market jargon. Not only will there never be any regulation but there can't be any. You can't just regulate a certain field of activity that operates solely in the legal world. The private partnership has an agreement to acquire companies, but it could also be about anything else! Giving the fund enough freedom to buy companies, buy land, buy art etc. A PE fund and a hedge fund are NOT REGULATED by the SEC, they are REGISTERED with the SEC. Their filings are also never checked for correctness, thus only accredited investors (wealthy - e.g. income above 200K) are allowed under law to invest in such private entities if the fund markets itself! You can not regulate a private investment vehicle in a country takes certain economic and free-market principles and incentives halfway serious. And if the public goes on the nerve of these management companies they just rebrand 'Private equity' to something else. And don't forget, they OWN the portfolio company. There is no serious argument for regulation that prohibits a legit owner of a company to do a certain activity.

TrackerFF 3y ago

It is crazy how much money the PE folks have made by making a company worse off. In far too many cases, it's been like the anti-thesis of business: Instead of getting paid by improving a business, and thus delivering better service/products to the customer, the businesses have been optimized for debt - which in turn has been funneled back via dividends. In the end the business is worse off, and the customers are paying more for less (or exactly the same before PE stepped in). Luckily the days of cheap/free debt are over, but some few earned billions.

monero-xmr 3y ago
If I worked 20 years building my business, and PE comes knocking and is willing to overpay as some sort of roll-em-up play (very common), then that benefits me - the owner. Everyone always forgets the other side of PE which is that they provide tons of liquidity for non-public companies, and also overpay to public shareholders.

A_Duck 3y ago

Here's the paywalled FT link: https://www.ft.com/content/9dd43216-0857-11e4-9afc-00144feab7de https://www.ft.com/content/9dd43216-0857-11e4-9afc-00144feab... The original article formatting is a bit easier to read on mobile if you do subscribe