[earnesti]

What I know about PE firms in Europe, they mostly operate the same way as in the US. There are plenty of PE firms and in general to me it feels like they are more popular here than US actually, as with LP's they are perceived as lower risk.

What I don't understand from the article, is how the PE firm is able to shift the debt from the buyer to the firm. That shouldn't be possible in any jurisdiction I know a little bit of, and I highly doubt that it is easy to do in US.

[Veliladon]

Debt can be acquired so long as there's a counterparty willing to lend it. Banks can be convinced to pony up a lot the cash because the business will often have scrap value if all else fails and they can secure themselves a very senior tranche to get that scrap value if everything goes belly up. The unsecured tranches are often marketed directly by PE firms to suckers otherwise known as investors. They like to do lots of little things to make the investor feel better like being able to convert debt to equity at highly attractive rates ("if we IPO you'll make squillions!") but for the investor they might as well be buying a lottery ticket.

[garbagecoder]

>I highly doubt that it is easy to do in US.

There are many such cases. The book in the article "Barbarians at the Gate" was probably the most famous instance until AOL took over Time Warner.

[coastermug]

Leveraged buyouts. I’ve seen them explained like a mortgage, except that doesn’t work in my head either.

[lazerpants]

I am not a PE expert but I will try to explain using the mortgage analogy. This is drastically simplified. The shoehorned part of the analogy is that a bank won't exactly lend as described below.

You take out a mortgage for a property you intend to cashflow by posting it on AirBnB. You open an LLC to do so. You put down a fraction of the price of the home, let's say 5-10% and then you do some upgrades, but you borrow against the price of the home for the upgrades, not against your own credit. Now, you start AirBnBing this very nice house out for absolute top dollar. It's nice and people love it, you have great reviews. Every time you get a payment from AirBnB, you take most of the money and move it to your personal bank account as a "management fee" or a "bonus" and you put the smallest amount possible into the mortgage and the second mortgage (the one you used to upgrade the house). Now, as the house gets more use, or you cut costs, say on having the pool cleaned, or on yard maintenance, the house goes down in quality pretty significantly, but your original AirBnB ratings are there and people are willing to pay significant sums so you continue to rake in cash, and you try to avoid maintenance as much as possible.

Eventually, the place is a run down heap, and people are leaving terrible reviews, so you stop having bookings/cashflow. Okay, now you just send the keys to the bank and say "it's your problem". They get a rundown house that has barely repaid its mortgage, and you get to keep the cash. The trick is to have moved a lot more cash into your account than you lose in the mortgage down payment.

Edit: I should add that PE firms aren't always trying to extract value at the cost of the business (sometimes they absolutely are). However, they are always incentivized to make cash flow and take maximum business risk for potentially even larger payout.

[JumpCrisscross]

> Every time you get a payment from AirBnB, you take most of the money and move it to your personal bank account as a "management fee" or a "bonus" and you put the smallest amount possible into the mortgage and the second mortgage

Correction: you pay your debt first. Then you take the money and spend it on yourself versus investing in the business, upgrading the home.

[ahzhou]

It’s basically the acquisition (buying out) a company using debt-financing (leverage). The typical plan is usually to use business revenue to finance the interest payments, optimize the business via cost-cuts or roll-ups, and flip it for a profit in 5-7 years. Like most things, PE can be helpful or destructive depending on the execution and the exact strategy for flipping.

At its best, it’s bringing in experienced operators and maturing a company into something that is stable, before selling it to an acquirer or IPO.

At its worst, it’s saddling a weak business with debt, hiring terrible execs, and making unsustainable cost cuts to stave off an implosion.

The strategy matters a lot. Some funds specialize in “distressed assets”, for example and are very good at carving up dying company and selling it for parts.

[coastermug]

Thank you, this is a balanced and detailed response. I don’t personally “buy” the narrative that all LBOs are destructive. After all there are entire funds devoted to LBOs and how would these PE outfits carry on getting loans if their companies constantly defaulted?

[ahzhou]

Thats right. At the end of the day, PE investors need to make their returns and blow-ups like Toys-R-Us did not make good returns. That said, there are systematic problems with the incentives involved.

1. PE investors tend to be VERY financially savvy, but sell to less skilled investors. If they see that they have the chance to sell one of their assets at a great price, they don't have any issue with anyone holding the bag. There were at least a few IPOs/SPACs that left the (relatively less-savvy) public holding the bag.

2. PE investors tend to be be finance-minded, not operations-focused. That means that their planned optimizations think about the financial health of a company, not the "real" health. Culture can suffer because of this, for example.

3. PE is very interest rate dependent, and low interest rates / bad investors can (and probably did) make the tech bubble worse.

[greesil]

I'm very interested to see what's going to happen to private equity now that interest rates are above zero. At the very least I have to imagine some of the loony schemes like buying up houses are going to stall.