The Invisible Handshake

I was telling someone earlier this week about my good friend Newt Gingrich. You didn’t know he was one of my friends? Neither did I, until I saw his television commercial attacking Mitt Romney for being a vulture capitalist. For at least five years, a lot of us in Leftist Blogoland have been decrying the equity extraction and asset stripping practices of people like Mitt Romney, the former CEO of Bain Capital. We’ve been joined in this crusade by writers with libertarian beliefs, and some of them, like Karl Denninger, are far more direct than we have ever been in calling a crime a crime, and demanding prison terms for the people who helped destroy America’s productive manufacturing base.

Now we have Newt Gingrich challenging Mitt Romney’s claim that he was a venture capitalist, creating jobs while he saved companies from certain bankruptcy. Newt sees it differently; he asks in his ad if it is acceptable for someone to come in to a community, manipulate people’s lives for the worse, and “walk off with the money.” Others have joined in on the Mitt Romney bashing. Ron Paul has said that the business practices of people like Mitt Romney have nothing to do with free market capitalism, and it was Rick Perry who has come up with the phrase “vulture capitalist”.

There are plenty of people in South Carolina, where Newt Gingrich’s ad is now running, who have wondered what happened to all the well-paying jobs, particularly in areas like textiles and furniture manufacturing that used to be mainstays of the local economy. Those jobs are gone, and people are much poorer for it, but wealthy individuals like Mitt Romney, who were temporary stewards of these declining companies for 18 – 24 months, are much richer. How did that happen?

The Leveraged Buyout Game

To understand how Mitt Romney and Bain Capital earned their money, it is best to hear what one of the insiders of the business has said about the way Mitt Romney operated. Steve Schwarzman is one of the principal founders and owners of Blackstone Group, Wall Street’s largest leveraged buyout firm.

“The first investment we made in private equity was a joint deal with Mitt Romney at Bain,” Steve Schwarzman, the co-founder and chairman of the Blackstone Group, told Bloomberg Television in November. “We made about 16 times profit. The second deal we did, Mitt led that one - we did that deal at Blackstone and we invited him to be the minority partner and we made 24 times our money. In finance, that’s a way to make friends.

The most important part of this statement is at the very end, where Mr. Schwarzman describes how to make friends on Wall Street. We’ll get to that in a minute. For the moment, let’s concentrate on investments that earn 16 times or 24 times profit. This means if you invest $100, you are going to receive $1,600 to $2,400 back, or in Mr. Schwarzman’s terms, $10,000,000 will get you at least $160,000,000 in return.

These are not the sort of investment returns you or I are familiar with. These are not even 16% or 24% returns on investment, which would be very generous in this day and age of zero percentage rates. These are 1,500% returns or more. You can’t earn these sorts of returns in a free market economy, at least not consistently. You might get lucky once or twice, but not deal after deal after deal, as Mitt Romney was able to do through Bain Capital. To earn this sort of wealth consistently, you have to game the system in some way. You have to operate outside of capitalism, and outside of free and open markets.

The pattern Mitt Romney and Steve Schwarzman followed evolved from the 1970s when leveraged buyouts were first developed by Michael Milken. In those days, the investors took over a company, retired all the public stock in order to make the company privately owned, used tremendous amounts of debt both to purchase the company and “fix it up”, and then after five years brought the company back into the public sphere by issuing common stock and cashing out their profits.

Nobody in the business today waits five years to get their money out; by 2000 the game had been transformed and the goal became to cash out as fast as possible and go on to the next deal. In order to accelerate the payout period, it is now necessary for the buyout specialists to guarantee they receive outsized profits, rather than risk waiting for the market to reward the “enhanced value” the leveraged buyout is supposedly bringing to the company in the first place.

Here are the basic steps Bain Capital and other leverage buyout firms take in order to get their guaranteed 1,500% return in 18 to 24 months:

1) Neutralize a possible battle with the board of directors of the target company by giving them preferential personal benefits from the buyout. Starting with the CEO, the buyout firm offers him a guaranteed role as CEO of the new, private company. He and his fellow executives receive a generous allotment of private ownership shares, which will make them very wealthy once the firm is brought back to public ownership. Similar arrangements are made with key members of the board of directors.

2) Buy up a majority of the common and voting stock of the company. Once 51% or more of the public stock is sold to the buyout firm, the game is over, and with management and the board intimately involved in the buyout, there is little chance that a shareholder revolt will erupt to prevent the takeover.

3) Install the new management team and make sure the buyout firm has a majority of the shares in the private company, and a majority of seats on the new board of directors, giving it full voting control.

4) Join the Globalization movement in a big way, by closing down as many manufacturing plants as possible and moving manufacturing to China, Thailand, Mexico, etc. Force unions to accept renegotiation of their contracts in order for the company to impose lower salaries, benefits, and retirement obligations on the workers. Impose these reductions automatically on non-union employees, firing as many of them as necessary, and cancelling benefit programs altogether where possible. When it comes to health care benefits, for example, the goal is to get as many workers on a 39 hour week so they are considered part time and not eligible for health care. The local emergency rooms can bear this burden rather than the company.

5) Take control over the pension plan and change the assumption of future annual returns from 8% to something like 10% or even 12%. Never mind that actual annual returns have been running at 3% at best – everyone knows the stock market produces at least 8% annual returns in the long run. With a much higher return assumption, you discover that the pension plan is now overfunded, so you can bring $250 million of the plan’s reserves back into retained earnings for the company.

6) Borrow at least $1.0 billion whether you need it or not. Say it is for a rainy day.

7) After about a year, with all these cuts in expenses, the company is beginning to show some profits. Therefore, declare a $500 million dividend for the owners, i.e., for the buyout fund. Take this money directly out of retained earnings, which means the $250 million pension plan savings are de facto transferred to the pockets of the leveraged buyout owners, and $250 million of the proceeds from the loan are given to the owners as well (debt which the company still has to pay back).

8) By 18 months, the profitability is respectable, but more important, the return on equity is looking great. This is because the equity in the company has been dramatically reduced through fat dividends to the owners. The leverage ratio – the amount of debt compared to equity – is looking horrible, but the stock market doesn’t look at leverage. The stock market only looks at profitability and the return on equity. Therefore, it is time to cash in and sell out. The buyout firm arranges for an IPO – an initial public offering of common stock. Wall Street firms like Goldman Sachs and JP Morgan get a very generous 7% of the proceeds of an IPO, so they have every incentive to get as much stock sold as possible at the highest price possible. They hype the new stock to the public, and the IPO is a big success. The leveraged buyout firm says “adios” to the employees, communities, customers and new shareholders of the company, which by now is financially much weaker than it was before and less able to survive in the market.

Mitt Romney’s Job Creation Myth

Given that an integral component of the leveraged buyout process is the elimination of jobs, how can Mitt Romney claim he created 100,000 jobs in his career at Bain Capital? The fact is, he can’t, and he’s not merely distorting his record, he is outright lying. Romney refers to such “clients” as Staples and Sports Authority as examples of his ability to help manufacturing expand and hire more people. Using very generous assumptions, and a very long time line, it is possible that some of the companies that survived the leveraged buyout process managed to turn into job-growth machines. Such companies are few and far between in the leveraged buyout world.

If you take into account all the people fired immediately after the company went private, and then add in all the people who lost their jobs after manufacturing was outsourced overseas, many hundreds of thousands of workers were unemployed as a result of Romney’s “assistance” in helping his clients become leaner and meaner. The Wall Street Journal did a study of Bain Capital’s buyout record when Mitt Romney was CEO, and found that fully 22% of the companies they bought went bankrupt within a few years of being brought back into public ownership. These companies alone represent hundreds of thousands of employees left without work.

The best that Mitt Romney can argue is that even more of his buyout clients would have gone bankrupt if he hadn’t intervened to help them. Here too, the record says otherwise. What killed the 22% of companies that did not survive was leverage – the heavy amounts of debt that Bain Capital left them with and that ultimately posed too great a burden for the company to bear. The companies that did survive turned out to be weak performers in the long run, precisely because they could not get out of the debt burden they were given at their rebirth.

All of these companies wished they had much more equity to help them survive in the marketplace, but the equity was gone – strip mined by Bain Capital and the investors that backed their leveraged buyout raids. This is the record of the leveraged buyout business, going way back to the 1970s when Michael Milken first began loading companies up with debt. It is easy to make a company look temporarily more efficient with lots of debt, but it takes a serious long term toll, as seen in the statistics on corporate debt over the past 40 years. Another way to look at this deterioration in corporate health is to chart the progressively fewer and fewer companies that receive high corporate bond ratings from Moody’s and Standard & Poor’s. Back in the 1970s, more than 65 corporations in the US were rated Aaa; today there are five. Today the majority of corporations carry what is known as a junk debt rating – they are so loaded up with debt that their default risk is three to four times greater than it was forty years ago. No wonder so many companies are constantly looking for ways to squeeze their workers and cut expenses – it’s the only way they can raise the cash to service their enormous debt burden.

The debt binge the US has been on, which has certainly involved not just corporations but government and private individuals, did not happen by accident. It was a result of deliberate policy choices by government and specific actions by financiers. Newt Gingrinch himself says he was part of the original “cabal” of advisers to Ronald Reagan that convinced him there was a pain-free way to cut taxes without increasing the deficit. Gingrich says Romney would never had enjoyed the business success he has had in leveraged buyouts if Gingrich and others hadn’t successfully turned the country away from tax and spend politics to borrow and spend politics.

Gingrich is exactly right in this. Tax and spend politics is at least honest – politicians spend what money they can raise in taxes, and they lose office if they tax too much. Borrow and spend politics is completely corrupt and dishonest. It has fed off the Aaa credit rating of the United States, built over 100 years, and now lost as America comes face to face with the economic abyss it is about to plunge into. Borrow and spend politics strips the federal government of its credit-worthiness, just as leverage buyouts strip the hapless corporate victims of their hard-earned equity. Banks took a lesson from all this equity extraction, by stripping homeowners of the equity they had built up over time in their residences.

It’s hard to say which players were the worst of the worst in this game, but the Mitt Romney’s of the world rank very high up there. They didn’t wait for the free market to reward their efforts – they subverted the free market by deliberately plundering corporate equity, thereby destroying companies and destroying jobs. Adam Smith’s invisible hand wasn’t allowed to work here. What took its place was an invisible handshake, or, as Steve Schwarzman put it, people like Mitt Romney created friendships on Wall Street because they could produce 1,500% returns on investment. Other wealthy investors came rushing to shake their hands; banks came rushing to lend them money for the buyout activity; CEOs came rushing to sell out their companies and employees in order to get in on the wealth train that Mitt Romney was engineering; regulators rushed in to approve these transactions or turn a blind eye, because jobs awaited them in the business when their regulatory career ended.

Mitt Romney ranks among the 3,000 wealthiest Americans, a small minority among the 1%. How he got there had nothing to do with capitalism, with free markets, with his ability to create jobs, or his love for America. He got there not as a buccaneer of capitalism, but as a pirate, raping and pillaging his way across the corporate landscape, pulling equity out of one firm after another, and leaving the debt-laden hulks to survive if possible, while thousands of workers were left poorer.

He is going to outright lie about his record. He is already claiming that the “politics of envy” are at work in the attacks being levied against him. He can certainly suggest that people like Newt Gingrich are being hypocritical – Newt, after all, lusts after the presidency more than he lusts for yet another trophy wife, and he is willing to bare his hypocritical soul for all to see by denouncing the debauched form of capitalism he helped create. Mitt Romney is going to invoke rugged individualism and Ayn Rand, and why not? Wasn’t Dagny Taggart raped by John Galt, as a literary example of the sort of relations between humans that Ayn Rand wanted to glorify?

It is not too much to say that, very much within the philosophy of Ayn Rand, Mitt Romney has spent his business career raping companies, raping employees, and raping communities. Now he has his eyes on the presidency. He has extended an invisible handshake to dozens if not hundreds of donors from the financial industry who have supported his campaign with millions of dollars in donations. These are names Romney has refused to reveal.

What do you think Mitt Romney and his invisible supporters are going to do to America if he wins the presidency?

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Comments

LBO the U.S.!

All of the GOP would do this and already have, that's the problem. Every single one of them. The real problem is so is Obama. We're truly stuck with least worst.

Don't help that Romney is the only sane guy onstage. (yes, sociopaths are sane). Gingrich is truly calling the Kettle black, he'd sell his own grandmother for food scrap if he could make a profit, IMHO, just as bad.

Normally I don't focus on gotchas. Usually focusing in on policy statistics, agendas, legislation and especially the money behind candidates.

But Mitt Romney, I cannot get that image of that family putting their dog in a travel crate and strapping it the top of their car, going 70 mph down the highway. But I can't stand people who leave their dogs in their truck beds either (to potentially fall out), much less kids. But that one just somehow illustrates everything to me, strapping the family pet, crated, on top of the car for a long trip.

They are all sociopaths, immoral, vampires, out to dismantle what's left of America and sell it off to the highest bidder for profit though, including team Obama though, so for equal time we'll have to expose all of them.

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Why didn't Obama run that ad?

It's been four years now since the credit collapse started and not one Democrat has made as forceful a case against the Republicans and their love affair with Wall Street as Newt Gingrinch has made in the past week. Of course Newt's motives are hypocritical and suspect, but his critique is devastating. As Digby pointed out on Hullaballoo, the Republicans excel at making emotional arguments and reaching for the lizard brain of the voters. That's how they win campaigns. The Democrats would rather ignore the issue if there is any hope the people responsible for the problem will give them money.

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Goldman Sachs et al.

I'm pretty sure Goldman Sachs has bought both Romney and Obama. JPMorgan Chase has both too. So, they can't lose and we're guaranteed to lose. How can Obama run any ad on anything since they utterly failed to even implement Dodd-Frank, never mind regulate the actual problem, such as TBTF and my favorite, derivatives?

One thing I think few are paying attention to is primary rhetoric is almost always dropped the minute the "candidate" wins. Right now Romney is railing on China, rightly so, but probably just like Obama dropped anything on offshore outsourcing, trade and John Kerry also dropped anything about "Benedict Arnold CEOs" as soon as primary season is over, I imagine this will be the same.

To me, we don't have a choice. If I were voting in a GOP primary, I'd vote for Buddy Roemer. Ron Paul has some points, but he's too plain crazy to me. If he really reads economics texts then I have to wonder about his comprehension level. ;)

So, no choice and perhaps the focus should be if there are any good, not corrupt, bought and paid fors running for Senate and Congress. I'm sure Elizabeth Warren is someone we all can approve of as an example.

Except those mesmerized by media snake oil economic fictional spin.

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The author's worldview

This author clearly takes the class-warfare view of the world. What is that view? That the strong victimize the weak, the talented keep the un-talented down, ambition is bad and wealth is really a rapacious greed and somehow a threat. Why if it weren't for the beautiful people, the ugly ones would have a chance. In the class-warfare world view, there is only a pie that can get divided and unless that is somehow divided "fairly", well, it just isn't fair. If this view were true, the pie would be the same pie that was here when the pilgrims landed at Plymouth Rock. We would be dividing that same pie into smaller and smaller pieces. In other words, the class-warfare worldview hates the good, the better, the more, for no reason other than it is the good, the strong, the rich, the vibrant, the fully alive. The class-warfare person, rather than placing himself on a path of creating value, instead finds himself on a path of the victim and seeks to destroy other's value and somehow get it mandated into his pocket. Or, at least try because he must somehow make right this terrible metaphysical inequality.

This is a very ancient and tribal belief - one before political freedom was on the scene. It bonded tribes together in an attitude of fear and hatred of their neighbors so they could fight them (and so the rulers could keep the run-of-the-mill tribesmen subservient to them). A free society holds each individual as having powers available to him for his living and that it is up to him to move out into the world and make the best of it. There is no God, no benevolent hand that is going to save him from the requirements of living, and he is not a victim of anything except his own mindset.

And, no, John Galt did not rape Dagny Taggart. You may want to read Atlas Shrugged to get yourself on solid ground.

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we do statistics here

and if you want to believe there are not classes and massive income inequality, keep drinkin' that kool-aid, put your head in the sand and keep spinning your tales to deny it. The statistics show there are.

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One of us is projecting

You see the critics of Romney and the leveraged buyout business engaging in class warfare, because we are unable to create value, and therefore we try to destroy other people's value so that we can line our own pockets.

We see Romney engaged in exactly the same thing, only the class he is warring on is the business class. And the activity he is engaging in is tantamount to theft. One of the consequences of his activity is that income distribution is skewed heavily to his group of "entrepreneurs" and away from everybody else. He's not out to war on the middle class - he's out to get wealthy. It just so happens what he does hurts the middle class.

Of those adjectives you use to describe Romney - "the good, the strong, the rich, the vibrant, the fully alive" - I'll grant you that he is rich. The other descriptors seem straight out of a farce, or an Ayn Rand novel, whichever you prefer.

Luckily for Romney what he did was not technically illegal. Someday it will be. Even now Mitt Romney says he regrets taking the dividends out of these companies when there hadn't been the performance by the company to justify such a drain on equity. What we're left with, therefore, is equity extraction plain and simple, which lined the pockets of people not worthy of calling themselves capitalists or entrepreneurs. People who really care about capitalism and the free markets are disgusted by this sort of destructive behavior.

Here's a thought experiment. Let's have all the leveraged buyout "entrepreneurs" go John Galt on us, and disappear. Let them withhold their goodness, their vibrancy, and all their other superior qualities from the economy. I guarantee you they would not be missed.

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strawman bullshit

The author explained in a factual way the reality of how firms like Romney's make their fortunes by essentially stealing the wealth produced by others. You arbitrarily and rather bizarrely equate this destructive behavior with "the good, the strong, the rich, the vibrant, the fully alive." Then you jump to the strawman nonsense that the author "hates the good, the better, the more, for no reason other than it is the good, the strong, the rich, the vibrant, the fully alive." No, he hates people who destroy lives and communities by stealing wealth produced by others. Hating "the good, the better, the more, for no reason other than it is the good, the strong, the rich, the vibrant, the fully alive" is simply made up bullshit that exists only in your feeble mind and the minds of your fellow Ayn Rand fanboys. Grow up.

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The Strawman

The strawman here is that there is such a thing as "vulture capitalism". There is not. The only vulture is the government that interferes in the economy and uses strawmen like "vulture capitalism" in order to justify regulation and theft. The idea of "raiding" a company is also a strawman. Another strawman is the idea of a corporate raider. All of these strawmen are created by leftists in order to vilify the actual good that is taking place in the activity of trying to preserve capital which is what the Bain's of the world do. They are not there to raid or kill jobs or put communities out of business. On behalf of their clients, their goal is to preserve capital so that a failing firm can be replaced by another productive firm. "Making a profit" by "raiding" a company assumess that once the "profit" is made, that's the end of it. That is not true. The "profits" are invested again. The strawman argument that capitalism is about "profits" misses the full picture. Capitalism is about capital creation, wealth creation and when it is allowed to happen, the entire society is lifted up and life is improved. To see only part of the picture, as most leftists do, is truly hating the good. The problem on this thread is that the leftists here think all they have to do is create strawmen and they will, therefore, have an argument against capitalism. All they are doing is talking to themselves. Their moral ferver is totally misplaced and makes them immoral because the end result of leftist policies is poverty and loss of innovation and destruction of wealth. Once they realize that you can't morally take from the rich and give to the poor, they will realize that their desire to destroy the rich is immoral. They can vilify and create all the strawmen they want. They can't change the fact that wealth has to be created and once created it belongs to the creators. If you have a problem with that, solve it with your own money, not someone elses.

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the only reason this comment was let out of moderation

was to show a prime example of someone hypnotized to the point of bat shit crazy by quite an illogical story to get them believe bad policies, which corporate lobbyists want, are somehow good.

One has to wonder how a person like the above gets brain washed into set an obviously fictitious set of beliefs.

Beyond clear hatred for some mythological creature "the leftie", the post is devoid of fact.

Supposedly a person cannot be hypnotized to do something they would not want to do, like put a gun to their heads and pull the trigger. But with insanity like the above, I'm not so sure.

Anyway, somewhere, somehow people are being brainwashed 24/7 to write stuff like the above.

Very sad and frightening.

Ok, folks let's get back to statistics and data. I'd bother to put up an increased since 1980 U.S. poverty graph but I think it would be lost on this person because it requires a rational mind to read statistics, facts and history.

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