FEATURE // SPRING 2014
Leveraged Buyouts: The Full Story
New research by Professor Kyle Handley shows
there's more to private equity buyouts than the headlines.
took a beating during
the 2012 presidential campaign
— at the expense of Republican
candidate and former Bain Capital CEO Mitt
Romney — but the slings were nothing new.
Leveraged buyouts, or LBOs, have often
been blamed for unemployment and
excessive levels of corporate debt. But U-M
Ross Professor Kyle Handley suspected
there was more to the story, and his new
research digs deeper to get the full picture.
LBOs can be dramatic and traumatic — with
painful layoffs, plant closures, and major
transitions. However, Handley's new
research shows that there is another side to
the LBO story, including evidence of job
creation, acquisitions, and productivity
gains. Handley and his co-authors put
together a multitude of data in a new
way to give a more nuanced view of the
economic effects of LBOs. In the end, what
they discovered can better inform both
policymakers and those in the industry.
“Until now, it's been really difficult to
estimate the true effect of these leveraged
buyouts by private equity firms,” says
Handley, assistant professor of business
economics. “There's no question they
tend to cut jobs, but they also open new
operations. So unless you look at both of
those things relative to a control group,
you're not looking at the net effect.”
Handley was joined in researching
the paper “Private Equity, Jobs, and
Productivity” by Steven J. Davis of
the University of Chicago's Booth
School of Business, John C.
Haltiwanger of the University of
Maryland, Josh Lerner of Harvard
Business School, and Ron S. Jarmin and
Javier Miranda of the U.S. Bureau of the
Census Center for Economic Studies. The
paper has been accepted for publication in
The American Economic Review.
A Deeper Dive
Besides anecdotal evidence, past attempts
to study the phenomenon used surveys,
didn't have control groups, or didn't always
distinguish between companies backed by
venture capital and by private equity.
It also was hard to disentangle
pre- and post-acquisition data.
Handley and his co-authors overcame
that by using U.S. Census Bureau data
that tracks employment and earnings
before and after buyouts at specific
locations. They also used the Annual
Survey of Manufacturers and the Census
of Manufacturers to measure firm
performance, such as labor productivity.
They use data from Capital IQ and
others to track private equity deals.
They only looked at deals where private
equity firms took a controlling stake in
a company. Venture capital deals and
management-led buyouts were excluded.
The key was creating a control group of
companies so they could estimate what
would have happened at LBO companies
had they not been bought out. The large
number of firms and location-specific employment data the authors used
allowed them to compare buyout targets
matched to a set of control companies
that were in the same industry, the
same age, and the same size prior to
the buyout. After controlling for these
characteristics, they tracked the difference
in concurrent changes at both groups.
“You really need to know what would
have happened to the company in
the absence of a buyout to get any
sense of the true effect,” he says.
The Net Effect
There's no doubt that private equity
funds, in general, make fast changes when
they take over a company and some of
those changes are painful. Operations
shut down and people lose jobs.
Indeed, Handley's study found more job
loss – 3 percent more over two years – at
individual establishments, say a factory
or plant, for bought-out companies
compared to the control group. At five
years out, that grows to 6 percent.
But those same LBO target companies
created more “greenfield” jobs – 2
percent more – in new locations
than the control group. The numbers
indicate private equity buyouts are a
catalyst for creative destruction.
Bought-out firms also are more active
in making acquisitions and sales and
see more gains in productivity than the
control group. Since low performing
operations may be shut down at the same
time that a firm expands employment
elsewhere, it's important to account for
the total employment change at the firmlevel.
Summing across each firm's entire operation, the study says the difference
in job loss between LBO firms and
control group firms is less than 1 percent.
The study only follows firms for two
years after a buyout because numerous
ownership changes over longer horizons
would narrow the sample size and make
comparisons more difficult, a constraint
not imposed on the establishment analysis.
“Private equity firms come in with capital
and do things the previous management
wouldn't do, or didn't have the know-how
or resources to do,” he says. “There's a
lot of activity in a short amount of time
and some of it cuts jobs, and some of it
creates jobs. There's a lot going on and
not all of it is captured anecdotally.”
The new research shows some of the
arguments for and against leveraged
buyouts may be simplistic, and that
policymakers and practitioners
should take a wider view.
“I think in some respects the leveraged
buyout industry has gotten a bad rap
because when they do shut-down
operations — and the effects on the people
laid off are stark and real — it's front-page
news,” Handley says. “But everything else
that leads to the aggregate effect — opening
a new plant someplace else in the country
or making acquisitions — isn't in the news.”
“My conclusion is that it's not
causing substantial employment loss
when you look at the net effect.”
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