When Senator Elizabeth Warren released her plan to rein in Wall Street earlier this year, she said she wanted to stop investors from “bleeding the company dry and walking away enriched even as the company succumbs.”
Warren, of course, leans to the far left and has been on the attack against Big Business for years. But conservatives also voice similar concerns. In a segment last week, Fox News host Tucker Carlson lambasted a model of “ruthless economic efficiency: buy a distressed company, outsource the jobs, liquidate the valuable assets, fire middle management, and once the smoke has cleared, dump what remains to the highest bidder, often in Asia.”
While Warren and Carlson are correct to worry about the excesses of business—and there are bad actors—populist CliffsNotes about business overlook some of the major reasons business decisions are made.
Warren cherry picks a few examples of where private equity investors have failed to turn around struggling companies, and her solution is to change the tax code and force partners and investors to be liable for debt and pension costs—measures that threaten the entire existence of the private equity industry.
But private equity is an overall positive for the economy, often serving as a last resort to save struggling companies that could otherwise shut down entirely. Research has shown that private equity-backed businesses were better equipped to weather the last financial crisis. Another recent study demonstrated that while jobs are often lost in the immediate aftermath of a private equity acquisition, companies eventually add jobs and increase productivity.
Meanwhile, Carlson’s TV segment focused on outdoor retailer Cabela’s. He blames a hedge fund, Elliott Management, for wrecking the company and destroying the small town of Sidney, Nebraska where Cabela’s had its headquarters. Carlson paints Cabela’s as a healthy company making $1 billion per year, and if it hadn’t been for a hedge fund forcing a merger with rival Bass Pro Shops, the company would have continued its success.
The rosy picture painted doesn’t match with reality. In the three years leading up to the sale, Cabela’s operating income — a company’s key profitability measure — was down 24 percent and falling. The company’s founder, Dick Cabela, had passed away in 2014, and the Cabela family was not significantly involved in management. In fact, members of the family had been steadily selling stock on the open market and were already considering the more efficient path of selling the entire company. At the time, a sale was looking increasingly like a good strategic move to keep the company running and maintain as many as possible of its nearly 20,000 jobs.
The sale to Bass Pro was not the best outcome. I wrote in 2016 of the tragedy that would occur if Bass Pro was the buyer. Mergers can create efficiencies and streamline operations, but they can also devastate local communities. In this case, I explained prior to the sale of Cabela’s that merging with Bass Pro Shops would devastate Sidney and cost a town of 6,800 people 2,000 jobs.
What would have presented a better alternative was a sale to a private equity fund. The acquirer would have retooled how the company did business and some jobs would have been lost, but importantly, Sidney would have assumed far less of the burden.
Private equity is often very eager to take over retailers in distress, and while it was doing poorly, Cabela’s was healthier than a lot of other retailers seeking private equity buyouts. The big buyout firms should have been eager to put in bids for Cabela’s. Many of them had shown interest when Cabela’s first began to consider a sale, but that dried up.
Why? Anti-gun sentiment scared them away. According to the New York Times, the New York City employee pension fund was threatening to withdraw its money from any private equity fund that purchased Cabela’s. This was part of a larger push by anti-gun advocates to divest of any company associated with firearms. Other large public pension funds were likely to follow suit. While Cabela’s could have been a profitable investment for private equity, pension funds pulling their capital would have been too costly to bear.
It’s unfortunate that gun divestment activists, and anti-private equity politicians for that matter, fail to understand the consequences of their policies. How many guns were taken off the market as a result of New York City’s divestment threats? None. Markets will still allocate capital, but that allocation will be less efficient. In this case, Bass Pro was still there to make the purchase. But without the divestment campaign, it is likely that a private equity firm would have purchased Cabela’s and preserved jobs in Sidney.
The bigger lesson to consider here is what happens to an economy when politicians try to change how capital is allocated. If Warren forces a massive rollback of the private equity industry, other businesses will face the same fate as Cabela’s. Private equity won’t be there to buy struggling companies. So instead, less efficient capital allocations will cost jobs and economic growth.
