The Buyout of America

A wise man once wrote: “You take the good, you take the bad, you take them both and there you have the facts of life.” Ok, it was Alan Thicke, but the message of balance served Jo and Tootie well for nine years. And it’s one that I wish NY Post reporter Josh Kosman had kept in mind when writing The Buyout of America, which hits book shelves next month.

Kosman’s basic thesis is that leveraged buyouts are bad news, and that their practitioners either don’t care or have deluded themselves otherwise. Moreover, he believes that around half of all PE-backed companies will collapse between now and 2015, triggering another economic meltdown and adding two million folks to the unemployment rolls. Pretty cataclysmic stuff.

To be clear, I don’t dismiss any of the above out of hand. After all, we heard some of these same warnings two and three years ago about collateralized mortgage obligations, and look where ignoring that got us. We keep hearing big-name PE execs talk about how most of their portfolio debt doesn’t come due until at least 2013, as if 2013 is some vortex into which loan obligations will somehow disappear. The bill always comes due, and the only thing that will prevent certain mega-LBOs from failing will be a bailout by their existing sponsors.

Moreover, I fully support Kosman’s distain for PE firms that charge various fees to their portfolio companies’ balance sheets, particularly transaction fees and monitoring fees (no matter the particular GP/LP split). A private equity firm simply should not be able to preemptively profit on a company it helps bankrupt. Just because you can, doesn’t mean you should.

That said, Kosman’s case is brutally undercut by his failure to include any balance or counterargument. The best debater acknowledges his opponent’s point of view, and then either: (a) Points out its flaws, or (b) Uses it as an exception to the rule.

Kosman, however, chooses to either ignore opposing points or dismiss them as PE industry propaganda. For example, he spends a bunch of time on PE involvement in the mattress market, where Sealy (KKR) and Simmons (most recently THL Partners) were leapfrogged by relative upstart Tempur-Pedic. He partially blames bad management decisions, but also cites leverage loads that caused Sealy and Simmons to cut costs (leading to no-flip, one-sided mattresses).

The irony, of course, is that Tempur-Pedic itself was private equity owned and highly-leveraged. Kosman mentions the first part exactly once, but never the second part – likely because it would have undercut the message about LBOs ultimately leading to ruin. If certain private equity strategies help improve businesses, lead to greater employment and economic prosperity – shouldn’t those be highlighted and contrasted with those that don’t?

Also getting short-shrift is the very existence of limited partners, whose role is described briefly and then forgotten (save for a brief piece on fundraising and a detailed explanation of the difference between gross returns and net returns). The book is clearly written for a general audience, but at times even I had to remind myself that when KKR gets $100 million in transaction fees, only $20 million of that goes to KKR personnel (although such a reminder is not required in some other cases, like with Bain Capital).

Finally, no mention at all of turnaround firms. The only one cited is Sun Capital Partners, and that is in reference to the disastrous Mervyn’s deal. You could say it’s irrelevant, except that turnaround firms – and many growth equity shops – are included in the performance benchmarks Kosman repeatedly cites.

Call me a sucker. Call me a suck-up. Call me a leveraged romantic. But I feel like I read half a book (or maybe 75% of one). Kosman is sounding a heartfelt cry, but he needs more nuanced notes to convince readers that wolves are at the precipice.