Stopping Hedge Fund Predators
This is the sixth in a series on the predstory tactics of equity/hedge funds. The series begins here.
Why isn’t there greater awareness that the Private Equities are destroying so many American businesses? Every report on the demise of a PE controlled retail company will emphasize poor management strategy and focus on Amazon, as if those two factors were the critical ones. Most analysts totally ignore the role of the PE funds.
In his article in the New Republic, The Real Retail Killer, Alex Shepherd notes that it is not Amazon that is killing retailers, but PE funds that are loading target companies with massive debt. He points out that certainly Amazon is a factor, but, surprisingly, e-commerce only accounts for 10% of the retail market.
Taking Toys “R” Us for an example, he points out that in 2004 when the PE funds acquired it, it had $2.2 billion in cash. The PE funds offloaded their acquisition loan onto Toys “R” Us, which then had to pay between $425-$517 billion each year. By 2017, the year of its bankruptcy, it had a debt of $5.2 billion. It was still profitable but could not pay its debt. Toys “R” Us never had the revenue to pay an extra half $1 billion a year for a debt that did not offer any corresponding benefit to its business — 33,000 jobs were lost.
Thus, the first step in any solution is to make the public aware of the predatory role some equity/hedge funds play in the demise of many businesses in America and that the media is being fooled by superficial analyses.
There are examples of corporate turnarounds without pension pilfering. Take the case of Starboard Value LP that revived The 800 restaurant chain Olive Garden. The question we now face is of the baby and bathwater type. How to curb the excesses but not the successes. The restrictions proposed are not aimed at restricting the activity of these funds when they add value to a company, but only to restrict their harmful tactics.
A Special Tax Break for Fund Managers
For a part of their fee that is related to performance, and even though it is clearly income, fund managers are allowed to claim the fee as a capital gain rather than income. It is therefore taxed at a much lower rate. As with so many breaks for the rich, this one is camouflaged, here by the term ‘carried interest’.
What Can Be Done
The best way to combat equity/hedge funds is to make their model less profitable.
• Change the tax code so that their money managers pay tax on their income the same as a regular wage earner. Eliminate the carried interest provision that allows them to pay tax on income as if it were a capital gain.
• Prohibit the leveraged buyout. Prevent equity/hedge funds from making a corporation that they have acquired assume the debt incurred to buy the shares of that corporation. The hedge fund must repay that amount out of its own earnings as with every other type of investment.
• Alternatively, prohibit deduction of all the interest on a leveraged buyout from income
Stop the PE funds from abusing the bankruptcy process:
● If in a bankruptcy, the workers’ pension is not fully funded, then order that all funds paid to the equity/hedge fund, including, but not limited to: management or advisory fees, dividends, and share purchases, are clawed back to the date of acquisition until the workers’ pension is fully funded. These deficiencies can be traced through to the members of the equity/hedge funds and the money managers’ commissions.
● Enact the same provision regarding workers severance pay. If it is not fully funded, claw back all the payments to the equity/hedge funds and their members and money managers, but also include executive compensation for the past five years.
● If the target corporation has given a lien on its assets to the equity/hedge fund for a loan, and if there is a bankruptcy, that lien is void, and the equity/hedge fund is an unsecured creditor for any money advanced.
The mainstream media and our educational institutions cannot, or do not, help in getting this vital information to the public. Universities do have courses that give the necessary background to understand these issues in finance and law, but they’re only designed for those who want to become part of the system, and never for those who want to reform it. Likely any faculty, who would be interested in reform, have no background or experience to develop a course for those interested in reform.
Absent any educational courses, we can ask ourselves, what can we do to make this information available? It will have to be a grassroots effort.
