Elizabeth Warren Guns for Private Equity with Some Dangerous Proposals
What Warren is proposing may get her votes, but it won’t be good for the economy.
Democratic Senator Elizabeth Warren, who is running for president in 2020, is gunning for private equity firms. She believes they drain companies of cash and load them with debt, so they are more likely to become bankrupt. Her new bill, the Stop Wall Street Looting Act, is designed to curtail abuses but it could end up hurting the very people she’s trying to protect.
In a typical private equity deal, a fund takes equity capital from investors and combines it with borrowed money to buy a company. It may sell some non-core assets and restructure a company so that it can be sold back to public markets after some years. The main reward for this is a percentage of the total collected from the sale, minus the initial investment. Private equity firms also collect management fees and fees for the services they provide to the company they control.
Senator Warren believes that private equity firms sell too much of firms they acquire and leave behind an entity that’s less viable. She is proposing a 100% tax on the fees private equity funds collect from the companies they control. This creates an incentive for private equity funds to sell more assets. A fund would rather sell assets and businesses than incur the cost of managing them if they aren’t able to recoup those costs.
Warren also proposes making private equity funds personally responsible for the liabilities of a company they buy, such as debits, legal judgments and pension obligations. It doesn’t make sense to strip a doctor of all his assets if a patient dies – he’s highly likely to move into another career and it does nothing to improve health. Private equity firms would have no incentive at all to invest in struggling companies.
When companies file for bankruptcy, Warren believes private equity funds profit at the expense of workers, customers, investors, creditors and communities. She uses the Toys R Us scenario where the company went bankrupt and workers protested over severance pay, to reinforce her message. But it isn’t obvious that they would have been in any better situation under different management.
A 100% tax on fees and putting them on the hook for liabilities does not mean private equity firms will work for free – they won’t work at all. What Warren is proposing may get her votes, but it won’t be good for the economy, investors or workers.