Private equity, an infection that is eating the world

In an amazing and terrifying essay called How to get beyond the parasite economy, Eric Garland describes how private equity infects industry after industry, sucking all productive capacity out of it through complex and fraudulent financial engineering, and abandoning the drained husk as it moves onto its next meal. Garland uses the case of Guitar Center as his example of this process in action, describing how Bain Capital bought and gutted Guitar Center, turning it into a financially complex, debt-riddled zombie that exists to float high-risk junk bonds to fill out the portfolios of the hyper-rich, without any connection to the real world of guitars, amplifiers and musicians.

Complexity: the financial structure of this operation seems absurdly complex given their business of selling guitar amps. To truly understand the structure of the Guitar Center business, I have had to consult professionals with a much deeper expertise – CEOs, CFOs, people with masters degrees in finance. Almost every one has looked at various details of the company and said, “That’s a pink zebra right there,” or, “Wow, I’ve maybe heard of that kind of thing one other time.” To understand some of their SEC filings, I had to drag up papers from the finance department of the Wharton School of Business. When you look up the corporate structure from which Bain Capital invested in Guitar Center, you find it (as of 2009) located as 3.34% of a billion-dollar investment corporation based offshore in the Cayman Islands, wedged into a financial partnership structure with a dozen other corporations.

In my experience, complexity of this sort is meant to keep casual analysts, regulators and journalists guessing – not unlike what we saw with the mortgage market eight years ago. And just so I had a good active comparator, I pulled the annual report for ExxonMobil, a company with a $290 billion market cap. Compared to GC, its filings are a relative oasis of simplicity and clarity, with the whole business laid out and finances making basic sense without enormous leaps of logic. Then again, it’s easier when you’re profitable.

Risk: None of the guys behind this deal have what Nassim Nicholas Taleb calls “skin in the game.” Nobody making decisions will lose their family fortune if it goes badly, and everybody in management stands to make substantial fees, bonuses and salaries. You see, Guitar Center used to be a musical instrument company, but now it is just one more imperial outpost for the spare financial capital of the top 0.1% of the population. For the people now supplying GC with liquidity, risk is a tool for cash flow, not a concern for survival.

How to get beyond the parasite economy [Eric Garland]

(via Naked Capitalism)

(Image: Wall of Over priced vintage guitars with rusty strings and twisted necks. Guitar Center, Bryan, CC-BY)

Notable Replies

  1. Ygret says:

    Oh stop it. The point isn't Guitar Center in particular, the point is this can and does happen to all sorts of businesses (and also how the larger economy is parasitized in general). This is another facet of neoliberalism: if it earns money for a big player, its good, regardless of its real world consequences -- people losing jobs, solidly profitable companies gutted for short term profit, leverage used to purchase companies on credit and then loot them (the looting itself looks very much like what the mob does to businesses it takes over).

    Anyone interested in this subject should check Yves Smith's blog. She's been analyzing the PE world for years now, and it ain't pretty. One of the things they do to lure investors is shroud their operations in secrecy and pump up the appearance of profit. So now we have the perverse situation where pension funds designed to support retired workers invest in PE schemes that hurt other workers, and then the funds themselves get shortchanged on their investments anyway. This comes down to the perverse and corrupt incentives of pension fund managers as well as the lies of the PE industry.

  2. Bain is also doing this to Clear Channel, home to Rush Limbaugh and other conservative voices. They've have lost money every year since they were bought and have been loaded with impossible-to-pay debt due in 2016.

    So sometimes the destruction of a business for profit is funny.

  3. So you did read the article partially. That's a start.

  4. In other words, do you have constructive ideas on how to attack the problems within the USA and can perhaps cite examples from your home country?

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