Private equity firms use borrowed money to buy undervalued companies, suck the cash out of the companies in the form of special dividends and other fees, and then rake in more fees when they unload the damaged and desperate company to another private equity firm, which squeezes more value out of it, repeating the cycle until the company is bankrupt.
In the short video accompanying a New York Times article about the 133-year-old Simmons Bedding Company's fatal entanglement with the private equity industry, Charles Duhigg, a financial projects reporter, remarked, "When I was in business school, there was nothing sexier in this entire world than private equity. It's exactly where you went if you wanted to one day own an island — and one of my classmates just bought an island."
These private investors were able to buy companies like Simmons with borrowed money and put down relatively little of their own cash. Then, not long after, they often borrowed even more money, using the company's assets as collateral – just like home buyers who took out home equity loans on top of their first mortgages. For the financiers, the rewards were enormous.
Twice after buying Simmons, THL [Thomas H. Lee Partners of Boston] borrowed more. It used $375 million of that money to pay itself a dividend, thus recouping all of the cash it put down, and then some.
A result: THL was guaranteed a profit regardless of how Simmons performed. It did not matter that the company was left owing far more than it was worth, just as many people profited from the mortgage business while many homeowners found themselves underwater.