The Looting of the Corporation: The Overlooked Role of Equity/Hedge Funds in the Destruction of Bed Bath and Beyond

The first in a series on how equity/hedge funds loot corporations

The Board of Directors of Bed Bath and Beyond did something incompetent to the point of self-destruction. In 2014, the business was clear of debt, but the Board aggressively increased a buyback campaign, not just stripping out every cent of yearly profit, but borrowing to the tune of $2 billion that year to pump up a program that had begun in 2004.

By April 2023, the month of its bankruptcy, the company had spent $11.1 billion on buyback since 2004. The debt that forced it into bankruptcy was less than half that amount at $5.2 billion. In addition to paying that debt, that $11.2 billion could have provided the cash needed to purchase inventory to return the business to profitability with a corrected marketing strategy.

Why would a Board of Directors do something that even a fool would understand was harmful to the long-term health of the business? .

Most analysts were quick to point out that BBB had changed marketing strategy from national brands to private label brands that caused the slump in sales. If it had retained some earnings, it could have done a turn around. But it had no cushion to do a change in marketing strategy, a basic risk management requirement. Most analysts ignored why it did not.

However, writing for CNN, Chris Isidore tells us that shareholder activists pushed the Board to do the buybacks: “Bed Bath & Beyond grew particularly active share repurchases in July 2014, taking on $2 billion in debt to finance share buybacks, as it started to face pressure from activist shareholders to improve the stock’s performance (my emphasis).”

What These Dangerous ‘Shareholder Activists’ Are

‘Activist shareholders’ are the equity/hedge funds. The wealthy combine their multi millions into a single mega-pool under the control of a money manager to have the clout of billions. The money managers get a share of the profit, so they want immediate commissions and care nothing for the long-term health of the corporations they invest in.

They are often just called hedge funds. The term hedging comes from the hedge around the lawn that limits the boundary of a property and is used in a similar sense of limiting loss such as in hedging your bet. For example, the stock market and bond market historically have moved in opposite directions. If the stock market goes down, the bond market goes up. A common investment strategy recommends that you have some of your investment in stocks and some in bonds. While you may lose on the stock market, your bond investment will likely go up, hedging your loss.

The term equity fund might indicate that it invests in equities, i.e., shares; and a hedge fund in the bond market or shorting stocks (betting their value will go down), but there’s no regulation governing them. Both will do anything (and I use that term intentionally) that might turn a profit for their members. Once they were called corporate raiders, but bowing to pressure, the media now politely calls them activist investors.

We saw some colorful hedge fund managers in action in The Big Short. The unforgettable Gordon Gecko (Afrikaans for lizard) in the Michael Douglas movie, Wall Street, is another example of an equity/hedge fund money manager, Gecko made public every equity/hedge fund member’s private belief: Greed is good! A realistic movie, it was written by the son of a hedge fund manager, and is based on real life such managers, one of them being Carl Icahn- and real hedge fund practices.

The way that Gordon Gecko takes apart the airline in the movie is modelled on what Icahn did to TWA.

Economist Larry Summers describes Icahn’s profiting on the destruction of TWA as “essentially a transfer of wealth from its flight attendants to Icahn.”

It’s a standard move by equity hedge funds. If certain assets of the business are highly profitable, they will sell them off for the immediate profit. That profit is immediately stripped out by dividends and buybacks despite the long-term loss to the company and its eventual bankruptcy and the employees’ loss of jobs.

When I said that the movie was realistic, an unrealistic part is that this hedge fund manager went to jail-they don’t. Icahn didn’t because most of the hedge funds’ destructive, predatory actions, as he did, are legal and admired. Harvard now has a building sporting Icahn’s name on it. The elite students of the land have a role model to follow.

The BBB Style Looting Is a Regular Occurrence

In the article quoted above, Isidore remarks that: “Bed Bath & Beyond isn’t even the first retailer to spend billions of dollars repurchasing its own stock on its way to bankruptcy court. Sears Holdings, which owned the Sears and Kmart brands, repurchased $6Billion

of its stock between 2005 and its 2018 bankruptcy filing. You will recognize many other national brands that were bought out by PE firms and that ended in bankruptcy. Here are a few: Toys “R” Us, Sears, J.Crew, Neiman Marcus, Hertz and Chuck E. Cheese’s.

Special Tax Breaks

The money managers in these equity hedge funds get a special tax break. They don’t pay full income tax on the fees they get on the profits earned (usually 20%). They pay as if that income were a capital gain and taxed at 20% instead of 37% (Income rate. It’s by a provision called “carried interest”, a term that is completely obtuse so that be voting public will not understand it.

401k’s

Once companies were prohibited from investing in equity, hedge funds for their employee 401(k) plans. In 2020, the Trump administration removed that prohibition. Money managers may have reacted with glee at the thought that the retirement savings of employees would now be available to fund the job destroying ventures.

However, financial advisors are wary. Dan Houston of the Principal Financial Group warns that because of the high management fees (2% for managing, win or lose; 20% of profit), the fund would have to earn 40% return better than the market to breakeven.

Next, we will first look at more predatory tactics from the equity/hedge fund playbook and then see many of them at work that brought Sears to bankruptcy in the next chapters.

Originally published at https://jandweir.substack.com.