Book Review: The Buyout of America

In December 2008, the Boston Consulting Group, which advises PE firms, predicted that almost 50 percent of PE-owned companies would probably default on their debt by the end of 2011.

Mr. Kosman, with a background as an editor at Mergermarket.com, former senior editor at The Deal, and reporter for Buyouts Newsletter, is presently a business reporter at the New York Post. He does a masterful job of recounting the history of private equity (PE); until the early '90s formerly referred to as LBO firms (Leveraged BuyOut), which first came to widespread attention during the age of the "junk bond" and the resultant S&L meltdown during the 1980s.

Many Americans first heard of credit derivatives during the last several years, with rising unemployment and the Wall Street meltdown and taxpayer rescue in the form of bailouts (although why federal funds should be used to rescue billionaires and millionaires still baffles many).

In Josh Kosman's outstanding book, The Buyout of America (subtitle: How Private Equity Will Cause the Next Credit Crisis), we get an inkling of the extent to which a category of credit derivatives, collateralized loan obligations (CLOs) will be involved in the next probable meltdown (CLOs and CDOs are fundamentally the same critter; simply substitute "corporate loans" for "mortgages").

The private equity firms' mighty funds of funds, their super-sized leveraged buyout funds, comprised of pooled investor loans from pension funds, insurance companies and other sources, are structured by banks as CLOs, which are sold and resold and multiple-tranched, with further derivatives based upon them (sound familiar?).

Their various individual funds are frequently structured in the same manner, as CLOs, with the occasional CFO (collateralized fund obligation).

Josh Kosman nicely details the plunder and pillage of companies by the PE bankers, profiting from tax interest deductibility and Wall Street's sole product, the peddling of debt.

As a member of Germany's Socialist Democratic Party described them, the PE firms swoop in like a plague of locusts, devouring everything, then moving on to another rich harvest.

They will put down a minimal amount of money on a leveraged buyout of a company, using the assets of their target as collateral for leveraged loans; thus saddling their targeted company with mountains of debt while taking out further loans against said company to reward themselves with handsome management fees and payouts to their chief investors.

Such a profit strategy invariably leads to destroyed companies, large-scale layoffs and has been a major contributing factor to the offshoring of American jobs and loss of America's manufacturing and production base.

An excellent vignette on the PE firms' (Blackstone Group and others) leveraged buyout of the Danish telecom operator, TDC, demonstrates the loss of corporate tax revenues which befell the Danish national tax base when these LBOs occur (20 percent down payment, 80 percent borrowed structured loans from JP Morgan, Credit Suisse, Deutsche Bank, Barclays and the Royal Bank of Scotland).

The book mentions that Denmark's Ministry of Taxation estimated a loss of "..3 percent of collected corporate tax.." (Reviewer's comment: I've read later reports which tracked the corporate tax loss to Denmark at over 12 percent.)

When a number of such LBOs occur in a country, be it Denmark or the U.S.A., a significant negative impact on that nation's GDP results.

Mr. Kosman also makes mention of the takeover of seven of the fifteen largest for-profit hospital chains by private-equity firms, to the detriment of their patients' health.

My sole criticism of Josh Kosman's book is that it may be too well-balanced; one wishes the author was granted unlimited time and unlimited resources to give a detailed description of the destruction of every company, every product and production cycle, every future amortization cycle, every R&D department, and each individual employee's economic life.

In the saga of the disassembly of the American economy over the preceding thirty years, the tale of the private equity firms and their leveraged buyouts should rate high alongside the rampant layers of securitizations, infinite generation of credit derivatives and credit default swaps and the resulting ultra-leveraging leading to the creation of debt-financed billionaires existing today.

There have been a number of excellent books published on the financial arena in 2009, but the two major standouts which should be on everyone's finance bookshelf are: It Takes a Pillage, by Nomi Prins and The Buyout of America, by Josh Kosman.

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I'll have to check it out!

Oh boy, this brings up an entire new topic, how to plain make illegal these sorts of numbers games where it's more profitable to destroy a company which is adding to GDP, employing people and adding to the national interest.....

I'm starting to really despize these sort of fictional money schemes which are getting rich real fast on pretty much nothing....

but on the other hand, it's our government, Congress, which sets up the rules which makes such nonsense possible.

Sounds like a real good find on the book must read list!

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And it gets even nastier.....

If you do happen on this book, while all of it is worthy of reading, please immediately turn to pp. 181-182, paying close attention to the first paragraph on p. 182.

Evidently there was a stealth provision in the 2009 stimulus bill which allowed PE firms to purchase their own debt back (which they had taken out on a leveraged loan) at discounted prices and allows them to defer paying taxes on the profit realized (on the difference of the discounted buyback) for five years.

This is yet another tax giveaway/profit maker for the private equity firms, ostensibly removing risk from the banks, but it is really far more involved than that.

They buy back those leveraged loans with yet another leveraged loan from the same originating banks, so they not only realize a profit on the buyback at discount, a profit from not having to be taxed (assuming they ever will be) for at least five years, but it should work out that if the LBO'ed company they originally purchased goes bankrupt, they own the entire thing at an enormous discount, thanks to the way they worked it.

But hold on....these layers of leveraged loans are correlated to existing economic conditions, so should the private equity firms run into trouble (per a number of predictions) then the fallout will be exponentially greater....and of course, all those writeoffs -- by the banks and the private equiteers -- will be transferred onto the national tax base, i.e., we the humble tax paying public.

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