How Not to Negotiate a $6.1B Deal
bloomberg.com
bloomberg.com
They could just as easily cause the company to borrow from the fund or pay it a dividend. Ownership means control over how its assets are spent. (That said, one could encourage pay-outs via one way over another by tweaking the tax code.)
I can't imagine this is as common in Germany with employee elected board members.
1) Not allowing a purchaser to transfer debt from that purchase to the newly purchased entity.
2) Not allowing a company to pay fees for service to any corporate entity that has a conflict with a board member. The board members get paid to give advice...
Yes I'm aware these are imperfect solution, yes there are loopholes, yes these things rarely work...but those two practices seem to be particularly rife for abuse.
If an LBO is done properly, like Michael's, it's a win for everyone. Old shareholders don't lose their shirt due to an unsustainable valuation tanking, lenders get paid back, and new shareholders aren't tied to the same old valuation because they financed the acquisition and only invested a percentage of the sale price. The trick is identifying which poorly-performing companies are just overvalued and can be transformed into strong performers at a different price-point, and which companies are just headed for the gutters.
However, if it's a public company, (which is just one possible abstract entity) then there are all sorts of rules and complications when there are one or more large investors.* Given these rules and regulations exist, it's not unreasonable to consider whether they should be changed slightly in pursuit of the public good.
*I'm thinking of stuff I've read about CBS v. Redstone in Matt Levine's column, where the board of CBS was trying to get rid of its controlling shareholder. They seem to have failed, but it was a fight.
This is actually a very analogous situation to DRM/right to repair etc: when you've bought a device, you (should) have the right to do whatever you want with it, take it apart, modify it, use it in unintended ways and even destroy it. The seller should not have any legal rights to curtail any of these actions.
The same principles applies to buying a company.
Oh boy.
There's nothing wrong or strange about firms specializing in extracting what can be salvaged out of the these. It's not more short-term or long-term specific than any other decision owners make about companies -- carving out viable business units that can be spun off and sold is a fundamentally long-term proposition (for the buyer and society). It's not all Michael Douglas defrauding overfunded pensions.
The notion that that investors don't want their investments to spectacularly fail should really be self-evident.
As any corporate finance book will teach you, increasing leverage simply means returns to equity holders are more volatile.
It's like adding debt to a lemonade stand that generates $1 a day everyday for the chance of instead generating $5 or ($5) everyday.
People (managers, investors..) have varying appetites for risk, but at the end of the day, these are all consenting adults and they can do as they please within the limits of the law.
English translation: Leverage reduces equity value.
Not at all:
Equity = Assets - Liabilities
I'm pretty sure there are loans where it is, or at least a portion of it is, or at a bare minimum there's an early repayment fee. It would not surprise me to learn that in the world of business finance, these happen. It also wouldn't surprise me to learn that these are used creatively to shift money between entities.
Rather than going straight on the balance sheet, it goes on the income statements (which are change in balance sheet) a little bit each statement period.
This makes the company's performance look less spiky, making it easier to reason about (from a pure profit/loss perspective, not a cashflow one) and less scary to shareholders.
It also matches with the way the rest of the balance sheet is reported (current value). For example: if you have some aspect of the business which you believe will appreciate in value over time, you probably shouldn't immediately book the increase at the as-yet unrealized future value.
Taking on debt is always done with the purpose of creating value. Sometimes it fails, but that doesn't mean failure was the objective.
LBOs aren't evil.
Assets = Liabilities + Equity
The other way lends credence to the thought that an increase in liabilities requires a decrease in equity. Without knowing how journaling works, I think such an error would actually be quite logical.
What would you think of a person who confidently made erroneous assertions about the relationship between Volts and Amperes?
As V=IR is the most basic equation in electricity, A=L+E is the most basic equation in business. It's necessary to understand them in order to pontificate about them, instead of just making things up.
When you’re talking private equity LBO activity, all things are not equal.
No, they don't, unless they're small companies who are very risk-averse perhaps. I'd wager there isn't a single debt-free company in the Russell 2000 index.
Taxes are paid after interest, so leverage effectively creates a "tax shield" that can be very advantageous.
Even if that weren't the case, equity holders have limited liability. They are only liable up to the amount they invested. Naturally, their incentives are usually aligned with that of lenders, since nobody is better off in the event the company goes under.
But very risk-tolerant investors indeed take on leverage themselves, often in the form of what is called margin trading. It can bring outsized returns, but those investors are also potentially liable for more than they invested.
Second, there is massive survivorship bias (well, actually the literal opposite, I suppose) going on here. There is a massive bias towards hearing about the deals that go bad. There is little effort to chronicle the times this worked out well, and a LBO saved a sick company.
Obviously the people at the company need to be taken care of, but that is a larger societal issue about how we deal with people who lose their jobs in general, not about companies that go out of business.
If the people making the largest bid for a company want to close it down, then that is probably the best thing to do; if it was really worth it to turn the business around, then someone else would offer more money to keep it going (or at least the same amount).
Do you really think this?
What if hedge funds just happen to get larger than anyone else in the spaces they operate in, precisely by executing this technique, such that there's no "someone else" who would offer more money?
An analogy: you're essentially saying that it's "the best thing to do" to date a vampire and let them suck out all your blood, because if there were a better partner for you to date than a vampire, surely such a partner would be more attractive than the vampire is, and would try harder to date you than the vampire is.
Now that doesn't sound right, does it? These vampire[-corporations] are supernaturally attractive [to shareholders] and are driven by their bloodlust to seduce people [i.e. board-members] far more effectively than regular human[-corporations] can manage.
Companies buy companies all the time. Hedge funds, in the grand scheme of things, are not that incredibly large compared to other companies. Also, companies making acquisitions have effectively unlimited funds to do so by taking out loans in order to buy companies. They can also buy companies without even exchanging money by converting stock in a larger ratio, effectively inflating the company's value in order to buy it. So what you're saying doesn't make sense.
> An analogy: you're essentially saying that it's "the best thing to do" to date a vampire and let them suck out all your blood, because if there were a better partner for you to date than a vampire, surely such a partner would be more attractive than the vampire is, and would try harder to date you than the vampire is.
Companies aren't people. If the board of investors wants to sell to a vampire it means that they're actually gaining the most value by selling to that vampire themselves. People need to stop looking at companies as monolithic wholes and actually as the sum intentions of the owners of the companies, the investors.
This was my point. A vampire, mythologically, can compel a human to obey it: despite the human realizing that it'd really be a dumb idea to let something suck out all of your blood, it's still just really hard to resist letting the vampire do that. There is, I suppose, what might in modern language be called a "superstimulus"—something which causes some part of your brain to override the rest, despite the rest of the brain screaming "no."
Likewise, these hedge funds offer the ultimate opportunity to make a change that is good for investors at the expense of employees. The investors are the part of the brain that is compelled; the employees are the rest of the brain, screaming "no."
I've never heard of a co-op agreeing to be acquired by a hedge fund; have you?
> Likewise, these hedge funds offer the ultimate opportunity to make a change that is good for investors at the expense of employees.
Employees are often part shareholders at these companies. They gain as well.
> I've never heard of a co-op agreeing to be acquired by a hedge fund; have you?
Try a google search, http://www.bbc.com/news/business-41344946
That is true with or without hedge funds. Investors will always take actions that benefit themselves, no matter the cost to employees. Employees will always only benefit when that is a by-product of the investors benefiting.
Protecting employees is something that is important, but preventing hedge funds from buying companies is not how you protect them.
It's a depressing story about how doing something well year after year isn't good enough, so someone is found to strap rocket engines on and shoot for the moon, in an effort to please investors, and it turns out to be a fraud (litigation over which is still ongoing). The end result was a merger into Snyders-Lance.
This resonates with me, because Diamond brand shelled walnuts are what I always used for baking, but when they were pursuing growth they were expanding into snacks, and I presume their current owner is primarily concerned with that market.
What value does a corporation have beyond the economic value that it produces?
That's the real loss—not just in terms of human happiness, but also in terms of per-capita economic productivity. It's like rewriting software: by starting from scratch, even with the same libraries, you're throwing away all the hard-fought knowledge of the optimal arrangements of, and interactions between, those components.
And, since people find their own optimal arrangements/interactions over time, rather than being placed into such arrangements by some sort of "org-chart architect", there's no one with a top-down view who can salvage the most useful arrangements/interactions at the destination.
A hedge fund might take a particular gelled team and sell them off "as a unit" to some company; but what that company will be getting is a box of lego with no instruction manual for how it goes together.
A gelled team that works well together making obsolete copiers or film cameras is a waste of resources.
My point stands.
What is the difference between a natural death, physician assisted suicide, a government sanctioned execution, manslaughter, and murder?
If a company is on its last legs, what is wrong with extracting money from it before killing it? Trying to keep dead-companies-walking afloat would be even worse.
I think you maybe don't quite know exactly what a hedge fund is and what purpose it serves. Moreover, leveraged buyouts are more a tool of private equity firms.
There's some overlap, but you should probably get your basic terms right before you start suggesting new regulation.
Ahh, Olive Garden. I hope you won't mind a slight tangent involving Olive Garden, one of Paul Graham's essays, and a sneaky business deal:
In one of his essays[1], Paul Graham wrote, "I think most businesses that fail do it because they don't give customers what they want. Look at restaurants. A large percentage fail, about a quarter in the first year. But can you think of one restaurant that had really good food and went out of business?"
Yes, I can name a restaurant that had really good food and went out of business -- it was all of the Olive Garden locations in Ontario, Canada, about 15 years ago. They were always busy, always had a line-up to get in, and pretty much everyone I knew liked the food a lot. Then suddenly, without explanation, all of the Olive Gardens in Ontario shut down.
Much later I learned that Olive Garden USA had shifted some large debts to its Olive Garden Canada subsidiary, and allowed the Canadian subsidiary to go bankrupt, freeing the parent corporation of the debts. (So businesses fail for odd reasons even when they have excellent products and masses of loyal customers.)
It didn't die as a result of failure on its own part.
There is also a difference between a restaurant and a chain of restaurants - in any case the US component survived, so I would say that the (overall) business didn't "die off".
How does shit like that even work? It seems like it would clearly qualify under fraud. Even if it doesn't, how does it not send every potential future creditor running away as fast as possible?
You had a perfectly good house, but sometimes decisions have to be made.
Your creditor point is valid, but only if the creditors are paying deep attention because if they're not, these actions could give the appearance of profitability and stability.
That isn't what was described, to my understanding. What was described seems sort of like transferring all your unsecured debt to your spouse, and letting her go through some individual bankruptcy that doesn't affect you.
> You had a perfectly good house, but sometimes decisions have to be made.
If you're allowed to transfer debt around to related entities where negative repercussions don't affect you, the normal checks and balances of the system have failed.
I imagine a similar situation (even if not purposefully attempted) is why student loans are actually protected from bankruptcy. Parents used to pay for college, because students couldn't really afford it. Parents don't necessarily want to go into bankruptcy because they may have other assets affected. If the students take out the loan, if they go into bankruptcy in the few years after graduating, the parents aren't affected. Students are a risky bet because bankruptcy has fairly little cost for them that early in life, so the loans would be very hard to get. To incentivize lenders to give the loans, you have to protect them.
Yes. In fact I know a shitload of restaurants with excellent food, that went out of business. In the restaurant business your are more in the real estate business than in the food business. Location, Location, Location is everything. And how much you pay for it.
lol. That's not how it works. The business was successful. Certainly, if you put it intentionally under fire it is going to go under.
There are infinite ways to bankrupt successful businesses. The most common I saw/experienced was family businesses where the heirs could not agree to the terms and kept fighting.
It is especially dangerous in times of inflated multiples like we are seeing these days, where PE valuations are kind of bubbling. The demand for M&A transactions is so much bigger than the supply that prices growth quicker than the underlying business value - making it usually harder to justify through profitability improvements.
Yet the whole PE process does bring benefits to the underlying industries is buys, especially by providing investment capacities to businesses that usually don't have enough, and also by professionalization and by introducing sophisticated management standards to the companies (eg. in terms of strategic thinking, reporting, optimization, pricing, etc.).
Why? The company would not have been bought otherwise, apparently. The company had issues obviously. The buy felt there was value to be extracted just not by continuing the operations. So what.
https://www.bloomberg.com/view/articles/2018-05-29/xerox-ceo...
> Helping a merger along by offering the target CEO a good job at the combined company is … a fairly standard move, really; it’s the sort of thing that people grouse about in merger lawsuits but that happens a lot. Helping it along by offering the target CEO a good job at the combined company after he’d already been fired
If your top salesperson commits improprieties, well then.. you still have to keep him. Clients! Contacts! Secret Sauce!
If your CEO is AWFUL, then the board can tell him he's fired. But if he's in process to sell the company? Well... sales is tough, might as well let him stay to finish it out.
One success can also change everything for a salesperson. John Thain received a ton of criticism... but he was able to sell Merrill Lynch for $50bn during the crisis.
It's anything but. Good sales usually are driven by how much they make, and if there's any misalignment between your commission plan and what's good for the company they'll optimize their own revenue in a heart beat. It can be very hard to align your commission plan with what the company actually needs if the business you're into is non-trivial. (Think optimizing the use of existing work capacity, selling high profit products rather than easier to sell low profits ones, keeping sales more or less aligned with the company's capacity to hire staff that can deliver, etc. Selling too much too fast is not always a good thing.)
You can just read the near-infinite stream of blog posts from engineers who figured out how to peg their compensation to the value they generate and instantly went from being drones to consultants or executives.
If everyone had adequate sales skills, corporations wouldn't have any margins. Profits are literally the realization of market inefficiency.
The number #1, #2 and #3 things you can do to improve your compensation are:
#1> Figure out how much value you create
#2> Figure out how much value you create compared to your peers
#3> Ask for your fair share of the value that you create or find someone who will pay you that
Bonus> If your fair share is less than your compensation, congratulations but start looking...or maybe you're good at selling!But...it usually is trivial. Businesses sell widgets: a ream of paper, a car, a CRM.
Is there anyone whose instrinsic goals are more aligned with the company's than a commissioned salesman? (Alignment with the customer's goals...that's a whole other story.)
I see this a lot in my current company.
Low margin hard to maintain product being pushed over high margin easy to maintain because the pricing (and margin) calculations don't take into account the tech support burden.
Having proper understanding of this the cost to support different product lines is difficult for large companies and the comp structure is usually just straight up gross revenue. For those higher up margin begins to play a factor, but they usually doesn't account for where the "overhead" gets spent.
They could be positioning for some sort of exit, or are just trying to juggle the company afloat until they solve what seems to be an unsolvable problem.
If what your saying is really true though, that would be enough to motivate me to look for another job.
It would be much worse if they were just clueless about this.
- an "old way", which is more expensive, but more easily understood by sales and gives them more commission because it's base price is more expensive
- a "new way", which while cheaper and better from a "meta" business standpoint, doesn't bring in as much for an established sales person, because the overall sale would be smaller, and on top of that, they have to make the effort to understand how to sell the new way.
I've seen several higher-quality products get choked out because of this pattern happening, and sales being accidentally-incentivized to keep people in the old, pricier way of doing things.
Lower margin products carry lower commissions. (Or should, at least.)