[fairity]

So, if I’m following: Banks are lending to private equity firms to fund purchases of businesses.

Many of these businesses are SaaS which means their valuations are tumbling.

It seems possible that valuations tumble so much that the private equity owner no longer has any incentive to operate the business, bc all future cash flows will belong to the bank. What happens in practice then? Will banks actually step in and take operational control? Will the banks renegotiate terms such that the private equity owners are incentivized to continue as stewards? Or, will they prefer to force a business sale immediately?

[o-o-]

> Banks are lending to private equity firms to fund purchases of businesses.

Yes some businesses are SaaS but here's the real problem: Many businesses' sole purpose is _leveraged buy-outs_ which really is the devil in disguise.

It goes like this: A VC specialising in veterinary clinics finds a nice, privately owned town clinic with regular customers and "fair" prices, approach the owners saying "we love the clinic you've built! We'll buy your clinic for $2,500,000! You've really earned your exit!".

So now the VC lends the money from the bank, buys the clinic, and here's the important part: _they push the debt onto the clinic's books_. So all of a sudden the nice town clinic has $2,500,000 in debt, raise prices accordingly, ~~burn out personnel~~ slim operations accordingly, and any surplus that doesn't go to interest and amortization goes straight to the VC.

Debt and collateral on the veterinary clinics.

Risk free revenue to the VC.

[JumpCrisscross]

> now the VC lends the money from the bank, buys the clinic, and here's the important part: _they push the debt onto the clinic's books

This mostly correctly describes a leveraged buyout (LBO). LBOs are done by LBO shops, a type of private equity (PE) firm. Not VCs. (VCS do venture capital, a different type of PE.) And LBO debt isn’t “pushed” onto the company’s books, it’s never on the sponsor’s (LBO shop’s) books in the first place to any material extent.

Private credit, on the other hand, involves e.g. Blue Owl borrowing from a bank to lend to software businesses, usually without any taking control or equity. It’s fundamentally different from both LBOs and VC or any private equity inasmuch as it doesn’t have anything to do with the equity, just the debt. (Though some private credit firms will turn around and lend into a merger or LBO. And I’m sure some of them get equity kickers. But in that capacity they’re competing with banks. Not PE. Certainly not VC, though growth capital muddles the line between what is VC and other kinds of PE or even project financing.)

[codethief]

> And LBO debt isn’t “pushed” onto the company’s books, it’s never on the sponsor’s (LBO shop’s) books in the first place to any material extent.

Doesn't the LBO shop still need to pay off the debt, technically speaking? AFAIU the company's assets (hospital in OP's example) are used as collateral in a credit agreement between the LBO shop (as the hospital's new shareholder) and the bank. But unless I'm mistaken, this is not exactly the same as the debt being on the hospital's books and the hospital having a credit agreement with the bank. (For an increase in debt on the liabilities side of the balance sheet there would have to be an equal increase of assets on the other side. The hospital didn't receive the cash, though, nor does the hospital suddenly own itself.)

[appleiigs]

LBO firm will create a new company called Acquisition Co. ("AcqCo") and put $500K of cash into it (equity). The Blue Owl will lend $2M to AcqCo (debt). AcqCo uses the $2.5M to buy the vet clinic. AcqCo will use cash flow from vet clinic to pay Blue Owl loan interest. If AI makes vet clinic lose revenue because customers treat Fluffy's ear infection at home, then Blue Owl and LBO firm are in trouble.

So the debt isn't "pushed" and it's not risk-free as the original comment said... also not Venture Capital. Lots wrong in that comment.

[throwawayqqq11]

It's not risk free for the companies involved. Limited liability protects private assets which is the original motivator behind all of this. And yes, there could be alot of book cooking going on to extracting liquidity. Over here, we call them locusts, not PE and externalizing risk is kind of their job.

This is the general leap, wealthy dynasties do. They scale up from a regular (family) business that provides services (eg. the clinic) to eventually transition into investors with lesser or indirect motivation of providing services/goods.

[nyeah]

Sure, it should say PE not VC. But it was pretty accurate. The PE firm won't be on the hook for much of the debt. The nano-debate over the word "push" is probably obscuring more than it's revealing.

[JumpCrisscross]

It sort of accurately described something, with the wrong terminology, that is orthogonal to the headline issue.

[mbesto]

Guy who works in the PE market here (not a PE shop myself) - this comment is correct.

[meetingthrower]

Correct. One niggle in that PE can access private credit as part of the capital stack. One flavor of debt in the ice cream store.

[refurb]

If you work in a PE shop you’d know it’s not riskfree and that the PE firm also puts their own money up plus money raised through LPs (hence “leveraged”)

[csa]

> And LBO debt isn’t “pushed” onto the company’s books, it’s never on the sponsor’s (LBO shop’s) books in the first place to any material extent.

Could you please explain the how and why of the mechanics of this process (edit: from the perspective of the lender)?

It seems like the lender is taking a massive sucker bet.

Or is the reality that the lender gets repaid the vast majority of the time, and we only hear about the bad outcomes?

[Tuna-Fish]

The lender generally has a positive EV, but variability is high. The interest rates on leveraged buyouts are high, and the lender has priority over everything but taxes. If the company can stay afloat for a while, the lender probably got made whole and then some, even if the full loan never got paid back.

[silverlake]

It’s the same as buying a house. I want to buy a house for $1.2m. I put down $200k and borrow $1m. The bank determines the value of the house. My equity absorbs a 20% drop in prices, so the bank is fairly protected. Businesses are different because they really can go to $0. Banks will need more collateral and/or make many different types of loans to dilute the risk.

[mathattack]

Any one loan may be risky, but in aggregate the rates compensate for it.

They pay you 0-4% for the money in your checking account and lend it at 1-3% points higher. As long as they have a big enough uncorrelated portfolio, they make easy money.

And if the whole portfolio tanks all at once, the whole industry gets bailed out.

[s1artibartfast]

The latter. Big Banks lend to private equity because the profit is good and they are large enough to absorb the variability.

The public hates it because they see highly visible bankruptcies. They don't see the success stories, or the businesses successfully carved up for more value than the sum of their parts

[gowld]

Why does Blue Owl borrow from a bank to lend? Why would it need investors if it borrows from a bank?

[JumpCrisscross]

> Why does Blue Owl borrow from a bank to lend? Why would it need investors if it borrows from a bank?

Leverage. They raise money in their public funds. And then they borrow, typically around 50% of their capital, to amplify returns.

Note: “Private credit lenders won’t lose money before private equity firms do. That’s how the capital stack of companies work: Equity is the first in line for losses. Before lenders like Apollo Global Management, Blue Owl Capital or Ares Management lose a dollar on their loans if a portfolio company fails, the private equity owners will already have been hit” [1]. Leveraging the senior debt is actually less risky than leveraging the underlying equity. (Though obviously they compound when done together.)

[1] https://www.nytimes.com/2026/03/12/business/dealbook/private...

[donavanm]

For the gp: the other side of the risk/reward coin is that private credit has limited upside. They're going to get the margin between the private 6/7/8/9/10% loan and their funding source + admin. Whereas PE can go “to the moon” if things work out.

morningstar had a nice writeup of the changing winds https://dbrs.morningstar.com/research/469893/2026-private-cr...

[ehnto]

I think the free market response is that another vet with fair prices will show up, but A) that's a waste of everyones time and very inefficient and B) a real grass roots business takes time and passion, somebody to start it, buy in from the community etc.

That work had already been done. To throw it all away for VC or PE to squeeze the life out of it and by extension the community, that's just sad, and a net negative for society. I don't really care about who to blame, the PE or the business owner who sold, the process is destructive.

[NegativeK]

The business owner is in a job that takes a huge amount of their life, with a suicide rate four times higher than average.

People accuse veterinarians of being in it for the money, the same day another owner decides to euthanize their dog because they don't want it anymore. While an angry owner on social media is rallying pitchforks over something that the vet can't even respond to due to privacy standards.

I have no sympathy for PE that's wandering around our lives, destroying the actual purpose of businesses to extract profit from everyone they can.

[ambicapter]

There's only one way to combat this, which is to make it unprofitable.

[jellyroll42]

...by regulating the practice to extinction

[gradus_ad]

Waste and inefficiency is real. As unpalatable as it is, cleaning up the mess of decay often requires brutal methods. That begs the question, is waste and inefficiency socially undesirable? Maybe not. Maybe not on certain scales or in isolation. But waste compounds.

[pocksuppet]

A certain amount of inefficiency or slack is necessary buffer in any system to reduce brittleness. When a problem occurs, a system that is running with 50% slack can recover more easily than a system with 5% slack.

See Germany's rail network, where almost every time-slot is occupied by a train, and then one train is delayed, and the system collapses with nobody getting to their destination on time for the rest of the day, until the overnight buffer.

In queuing problems, queue length (which means latency) is inversely proportional to slack time. If a network link is running a 90% capacity, on average there are 10 packets queued up and a packet that arrives will have to wait for 10 packet transmission times. At 99%, 100. At 99.99%, 10000. And if you try to use exactly 100% of your network link, the expected queue length is infinity, and the expected latency is infinity, which will not occur in practice because sometimes it will exceed available memory and packets will be dropped, even though utilization never exceeded 99.9999...%.

[ahoka]

"That begs the question, is waste and inefficiency socially undesirable? Maybe not."

Organic farming is one example.

[WorkerBee28474]

> So all of a sudden the nice town clinic has $2,500,000 in debt, raise prices accordingly...

From a financial engineering perspective this is wrong.

Both equity and debt have costs of capital. Debtholders expect interest, capital holders expect RoE. The money going to debt interest is money that would previously have gone to equity, but now does not because the equity is replaced with debt.

Crucially, the costs of debt is lower than the cost of equity because of the interest tax shield. Therefore, the vet clinic now requires less revenue to maintain or even increase its return to equity.

[t0mas88]

Technically true, but RoE expectations from a PE firm are typically a lot higher than from the original owners of a small business.

And the LBO model is much less resilient to economic headwind. Let's assume a 25% EBITDA margin business, with most costs fixed (like the clinic example). Unfortunately revenue drops 20% because of external factors. It would maybe have a tiny profit left, tax would also be tiny and there is no interest to pay. The shareholders receive near zero, absorbing most of the problem for a year waiting for times to get better.

Now the same business, same reported EBITDA, but paying a large interest sum every year to the bank. If revenue drops 20% they can't pay their interest, and banks don't just wait for next year. Now the business has the restructure, agree with the banks what that looks like, or face a bankruptcy risk.

While the new PE shareholder has a better RoE due to leverage in the upside scenario, the business (and the PE) could be completely cooked in a downside scenario. For the PE this is a calculated risk, they optimise the overall portfolio. But for the employees and customers this isn't a great scenario.

[JumpCrisscross]

> the vet clinic now requires less revenue to maintain or even increase its return to equity

The small-town vet would have probably accepted a lower RoE. More critically, they’d have been more willing to absorb shocks to said RoE than a lender will to their debt payments.

[bombcar]

Small businesses are notoriously bad about calculating RoE; bookstores that own a building that would rent for way more than they ever make in a month, etc.

[Buttons840]

The free market solution to this seems to be making it easy / easier for competitors to arise. Then, when private equity does this, the customers, and workers, just hop ship to a competitor that's better managed and the original clinic goes under.

I don't expect this happens in reality though. In general the things that happen in a healthy free market are NOT happening in our society.

[yoyohello13]

This completely discounts the work involved to find service providers you trust. I spent a long time finding a Doctor I trust, finding a Vet I trust, etc. I don't want a "free market" solution where I need to switch providers every 6 months because some rich dude is being a dick.

This is the problem with so many market focused solutions. They discount the burden put on the consumer.

[lotsofpulp]

Participating in a market is work, the only way a market (or life in general) works is if you hold your counterparties accountable.

> I don't want a "free market" solution where I need to switch providers every 6 months because some rich dude is being a dick.

Nature does not have a mandate that good quality services and products be available at low prices at all times. The rich dude being a “dick” was a tired vet owner who wanted to sell their equity, just like anyone else who sells their SP500 shares or their house.

The only thing that can be done is encourage government policies to ensure more sellers exist.

[schubidubiduba]

Nature doesn't have a mandate for anything. It's up to us to shape the world we want to have as a society

[rootusrootus]

If the market is healthy, there will already be two or three providers in town instead of one that has any sort of monopoly, and the LBO won't be lucrative to begin with.

[sarchertech]

Unless the PE firm comes in and buys up all of the vet practices in town (or enough of them), which is a tactic they like to employ.

[whatevaa]

They buy all of them.

[rootusrootus]

In a perfect world we'd have antitrust enforcement all the way from the top of government down to the municipality, so that this kind of behavior could be curbed. But I bet few cities bother to try at all.

[s1artibartfast]

I think the idea is that you'd have to switch less often.

People can scam you and jerk you around because you don't have options.

If you had options, they might be less inclined

[Buttons840]

You're complaining about healthcare being tied to employment. That sucks. Yeah, we should get rid of that.

Coupling healthcare and employment makes it harder for agents to move and trade "freely" in the "free market".

So, I say again. The things that happen in a healthy free market are not happening in our society.

[sarchertech]

The original poster was talking about vets, which don’t have that issue.

[Spooky23]

You’re confused because you are treating free-market and capitalism as the same thing.

Capitalism is about who owns the assets, free markets are about how they are transferred. They don’t require each other. State owned enterprises can participate in the free market, an example are municipal utility companies. Private enterprises can operate without a free market, an example would be Lockheed Martin, whose defense business is mostly cost plus contracts.

The US hobbled the free market with deregulation since the 1980s. We encourage monopolies with strange reactionary legal precedent, use tax and other policy to establish price floors on residential units and health procedures.

The behavior that these firms are able to carry on with in veterinary, dental, dermatology, hvac and plumbing is anti-competitive and predatory.

[WalterBright]

A business owner lamented to me recently that it wasn't the taxes that were crushing his business, but the costly regulations that keep on coming.

The harder the government makes it to operate a business, the less businesses there will be.

[joquarky]

One alternative is to educate the population so that regulations are less necessary. But having an educated population has become unpopular.

[dboreham]

Fewer businesses. But that aside when people say regulations are costly without providing specifics typically they are upset they can't rip off the public, pollute the environment or perform other acts to the disadvantage of the population.

[meta_gunslinger]

Very nuanced take, thank you for your insight.

[ambicapter]

Free markets are a fiction, the real world contains a lot of friction.

[koolba]

> Risk free revenue to the VC.

How is that risk free? If the clinic goes bankrupt the VC will be on the hook for the rest of the loan. It’s not free money.

[jaggederest]

They're not so silly as to have any personal or professional liability, they probably spin up a special purpose vehicle or llc to hold the bag if it all goes south

[edgyquant]

No bank would agree to such nonsense

[JumpCrisscross]

It’s analogous to a mortgage in a non-recourse state. If the borrower defaults the bank (or non-bank lender) gets the leveraged company, but can’t usually go upstream.

[estimator7292]

It's called "financial engineering" and banks and courts agree to it on the daily.

[xenadu02]

> No bank would agree to such nonsense

Ohhhh a live one! Sir do I have a wonderful bridge in Brooklyn to sell you! :)

Fun fact: banks fund this sort of nonsense constantly. I've asked about this before: why they do it. They must be making money I just don't know how. The LBO guys pay themselves massive management fees and dump the debt on the company so they walk away scott free.

My wild guess was the banks offload the eventual IPO onto investors and so make their money on the IPO fees and funneling their own clients the dead-man-walking shares. But I honestly don't know.

[JumpCrisscross]

> wild guess was the banks offload the eventual IPO onto investors and so make their money on the IPO fees and funneling their own clients the dead-man-walking shares

The banks get paid back their debt when the next PE fund buys the company or the company pays it off. Unless an IPO is being done to pay off debt, which it never is, the mechanism you describe doesn’t occur.

[CapitalistCartr]

The usual arrangement for an LBO is to saddle the bought company, the vet in this example, with the debt,or spin off a secondary company from the vet with the poorest assets and most to all of the debt. It's all a scummy business.

[gowld]

Then why is everyone complaining "my vet sucks now" and not "my vet went out of business"?

[Buttons840]

Because the vet does suck now, and yet is still profitable because there's not enough competition.

[pseudosavant]

This is exactly what happened at a SaaS company I previously worked at. It was an awesome company with ~1500 employees, turning a small profit. Private Equity comes along, buys it with ~$2B in debt. Sticks the SaaS company with a $100M+ annual interest payment. Round after round after round of layoffs ensued. Then interest rates went up... and it got even worse.

I think they are under 500 employees now. They basically laid off almost all of engineering and hired 100 new contractors in India to completely rebuild the entire platform in Node.js, as if the language it was written in was the problem. So glad to be far from that dumpster fire.

Really disappointing to see a great company gutted by some private equity people who almost certainly got their bonuses before the shit hit the fan.

[chubs]

I don't understand: Who's lending the $2B in situations like this? Wouldn't they be worried that the above situation (company gutted, then going down the drain) is going to play out and they won't get their $2B back? Or is that the root problem with this whole YC submission: banks are being hit by defaults because of this exact problem?

[stuartjohnson12]

It's from the rapid exploitation of an asset. If I have a cow, I can milk the cow or kill the cow. If a cow costs $1, maybe I can get $5 worth of milk over the cow's lifespan, or I can kill the cow immediately and get $2 of meat. The man with $100 who buys all the cows in town and kills all of them doubles his money in a short timespan, but now there's a shortage of both meat and milk next season.

[iamflimflam1]

That is the exact problem. The people who put up the $2B thought they were safe - after all they were putting up money to buy a successful profitable business.

Problem is they didn’t really understand the business and trusted the PE guys to keep running it well…

[skeeter2020]

This was driven home to me at SaaS company with > $80M ARR when the new CEO was parachuted in by the PE owner said in an all-hands "and we're close to cashflow positive when we account for our interest payments..." How can a software company generating this much subscription revenue NOT be making money? When it's servicing the > $500M the PE firm used to buy it. The rest of the playbook was boringly predictable: cut costs, sign multi-year enterprise deals, sell before the current fund's horizon and hope the music doesn't end.

As a result I prefer the naked greed of VCs where everybody - VC, owners, employees - knows the plan is IPO because at least it's transparent compared to the dirty lies a lot of PE pushes.

[matheusmoreira]

It's the destructiveness that gets me. It's a perfectly good company, employees are happy, consumers are happy, profit is being made, it's sustaining itself... Then they come and just literally destroy all that.

This can't be good for society. I wonder why it's just not criminalized somehow.

[Terr_]

> It's a perfectly good company [...] I wonder why it's just not criminalized somehow.

Not-an-expert here, but I think part of the problem is that it's hard to draw a nice legally-enforceable line that would distinguish when it's a "perfectly good" company versus one crying out for intervention.

For example, suppose a company is floundering because of executive mismanagement, outrageous compensation to the C-suite, etc. In that case, someone could LBO in, fix things up, and then sell the revitalized thing later and make a modest profit while improving the world.

It's... less likely, but they could.

[creamyhorror]

The way I see it, it's literally simply the PE paying the existing owner for the privilege of squeezing the value out of the business and its customers in the short term (or in the ideal/theoretical case, running it more sustainably and making higher profits). Management's job becomes to extract high profit in the short term, not to keep the company running profitably.

So, logically, selling to PEs/operators who are known to do this is basically the owners selling out and taking the cash. The consequences are clear to anyone who's been watching.

[thijson]

I saw another model where the PE buys a hospital. They sell the land under the hospital, everyone gets a cut, then they spin out the hospital. Now the hospital has to pay rent on the land it sits on.

It seems like almost every decision made is for short term gain, at the cost of long term viability.

[chrisweekly]

"So now the VC lends the money from the bank"

"lends" -> "borrows", right?

[mbrumlow]

No dude. Read it again.

The VC lends (the money from the bank) which the vc borrowed, to the clinic.

They are a sort of middle man. It the clinic is on the hook to the bank and the Vc takes fist cut before playing the bank.

Eg. The vc only risked the company they were buying, and gets paid first.

[NoboruWataya]

If the VC borrows money from the bank and lends it to the clinic, the clinic is not on the hook to the bank. The clinic is on the hook to the VC and the VC is on the hook to the bank. Which means that if the clinic goes under, the VC takes the loss because it still has to repay the bank.

(Edit: To be clear, I agree with the other commenters that none of this is what VCs do. I'm just pointing out that the way this is being described doesn't even work on its own terms. Needless to say, LBOs are not "risk free".)

[mbrumlow]

Nope. The clinic is the collateral to the bank. VC stand to loose nothing.

It does not happen overnight. But what happens is after they take control of the clinic or company they change the sales model to boost reoccurring revenue, this then allows the clinic or target company to take loans out. Because they look good on paper. The company then pays VC back when then pays bank back.

This can be done in about 6mo to 1 year process with some companies. The initial out of pocket expense is small and paid back very quickly.

I also forgot. Sometimes they will take the newly owned company and merge it. During that process they extract more money and load more debt onto the remaining entities, again making the VC money.

In some cases they can even get huge tax benefits by loading the company with debt which offsets the tax bill of the final entity.

When these transactions are done, within the span of a day multiple companies are created and merged and absolved.

There is little to no risk for the VC

[JumpCrisscross]

> The clinic is the collateral to the bank. VC stand to loose nothing

This is actually a case where using the correct terminology clarifies.

VCs don’t do LBOs. Private equity firms do. When their deals go bust they lose the equity they invested. That equity is the first layer to take a loss. When that happens, the lenders—whether they be banks or private credit firms—take over the company, often converting some of their previous debt into equity.

There is a lot of risk in LBOs. It’s why they have such a mixed record.

[hrimfaxi]

> It does not happen overnight. But what happens is after they take control of the clinic or company they change the sales model to boost reoccurring revenue, this then allows the clinic or target company to take loans out. Because they look good on paper. The company then pays VC back when then pays bank back.

This was the missing bit for me. Thanks for taking the time to explain!

[fireflash38]

Who are the bagholders in these scenarios?

[axus]

If hours of preparation for college testing taught me anything, it's the difference between lend and borrow.

[8note]

why wouldnt the previous owners just open a new vet clinic, and hore all the same people back?

or some manager at it? it must be easy enough to raise that starting money, if the PE firm could get the loan

[t0mas88]

An acquisition like that would have non-compete restrictions. And often the previous owners don't get 100% cash, they would receive part as shares in the new holding company.

[tartoran]

Yeah, they thought about it well on how to shackle, extract and leave a husk behind. What about the clinic's long term success? Not in their plans, they just want to extract cash from the customers as fast as they can. I'm sure that if people organized well enough and change their mindset they'd find workarounds to these financial engineering scums.

[refurb]

I mean, just getting new management, improving efficiency and raising prices of any business is… normal business?

Whether a PE firm decides to buy it and do the same isn’t some nefarious act or special in any way, it’s just new owners.

Let’s say your neighbor has a lawn mowing business but wants to retire, says they’ll sell for $50,000. You think great! You could run the business better, plus the old man hasn’t raised prices since 1990! But you don’t have $50k, only $30k, so you borrow $20k from your brother. Congrats, you just did a leveraged buyout.

And no, it’s not risk free revenue (I think you mean profit?) because it clearly might go under and PE firms need to pony up some of their own cash too plus money raised through LPs.

[ludicrousdispla]

About eight years ago I had a chat with a physician in Texas, who had a several year old private clinic that he was planning to sell within a year to an investment firm, and it wasn't the first time he had done this. I expect all those urgent health care clinics that show up follow a similar path.

[pembrook]

So yes, PE funds are probably overvalued right now and there are a lot of PE funds getting rich off management fees while not providing promised returns...but this comment is so wrong I don't know where to begin.

First, VC stands for venture capital, which is a subset of private equity that does zero LBOs and doesn't even acquire any businesses. VC funds buy equity in startups, and take on zero debt to do so. You have your boogiemen totally confused.

Second, the entire point of a PE fund that uses a leveraged buyout strategy is that they need to sell the acquired firm at a profit to make any returns to the fund. LBO funds don't 'cashflow' businesses, and saddling a business with a bunch of debt is antithetical to that purpose anyways.

Third, this is not "risk free revenue." It's a high risk strategy to use the debt to increase the value of the business by improving operations enough that you can sell it for a profit to the fund. If you saddle a company with debt and DON'T increase the value of the business beyond the debt you took on, the PE fund will not be in business for fund 2.

The risk-free revenue while the fund is alive comes from the management fees that investors in the fund pay (usually 2%, which is way too high IMO, but has nothing to do with the debt or the acquired businesses).

Please do not write confident sounding comments about things you don't understand, it spread misinformation and makes the internet a worse place.

[superxpro12]

As someone who's life is currently being affected directly by PE middle-manning something I spend a LOT of time on, I am sensitive to this issue.

IF you have problems with the vocab and terms, fine. But I have seen personally this issue in my life, that is affecting my bank account.

And we have seen example after example of these LBO's ruining otherwise functioning businesses. It's happening. All over the place.

[mbesto]

> And we have seen example after example of these LBO's ruining otherwise functioning businesses. It's happening. All over the place.

Your anecdotes and the anecdotes in media are no statistical evidence for "this is happening all over the place".

Yes, PEs/LBOs deserves criticism, but "PE" and "LBO" isn't a one size fits all situation.

[pembrook]

It is absolutely possible (and even likely!) that a bad PE fund was the cause of the issue you're talking about. But there is also a media hysteria around PE, and a lack of understanding among the general public of what it is.

It's just as likely the business that was acquired was already failing or unsustainable to begin with (hence why the owner wanted out at low multiples). LBO funds don't acquire promising businesses at 5-10X revenue like tech companies do, they usually buy businesses at low multiples that are past their prime or failing in an attempt to revitalize them (with debt, since you can't raise capital by selling equity in a failing business).

Obviously this will not always work out great, given the trajectory of target companies was already not great to begin with. Momentum is the strongest factor in all markets.

The problem is, Private Equity has become a conspiratorial catchall boogieman and scapegoat for every problem under the sun, so it's hard for me to assess without further details of the situation.

[maest]

> Momentum is the strongest factor in all markets

Nit: beta is the strongest factor in all markets. Which is actually relevant for the success for PE funds in general, as a rising tide lifts all boats and people taking on debt to finance equity generally post outsized returns in bull markets.

Anyway, the rest of the stuff you're saying I agree with.

[pembrook]

Yes, beta is the overwhelming source of returns. I was referring to factors in the sense of the University of Chicago research on market inefficiencies (where momentum is the strongest factor for inefficiency).

If you buy a “factor-weighted” etf the idea is it’s tilting you into those “factors” away from pure beta like buying whole market.

PE you could argue is largely just leverage plus an illiquidity factor play, since if PE just returned beta (which these days it might!) you’d be smarter to buy the S&P500 with equivalent leverage and not pay crazy fees.

[financltravsty]

Background: I work for a PE-owned company and I have friends in PE (associates up to MDs).

On your second point: LBOs aren't the only tool in the toolkit, and it's not as popular as it was decades ago, so I would lean towards the parent simply conflating "buying an ownership stake in a business in some capacity using other people's money" with the strict definition. Regardless, yes PE firms need to figure out how to get 20%+ IRR throughout a short timeframe (usually a 5 year holding/funding cycle) -- however this is through any means necessary. Philosophically, it's about increasing efficiency of operations and growing the business. In practice, it's financial engineering because PE firms do not have the operational skills to make any value-added changes to firms besides driving costs down.

Saddling a business with debt is reductionist. I've seen absolutely nonsensical financial structures that make no sense for a layman, but in practice end up "using the business' finances to 'own' (beneficially) the business" (see: at the most vanilla, the strategy of seller financing in SMBs). No this is not technically "putting debt on the books" but it is in all practical respects a novation/loan transfer that can leave the purchased co financially responsible for servicing any debt that was used in its purchase.

On your third point: what I wrote above can be used as context. It's not risk free revenue, frankly it's very risky unless you're in an inflationary environment where your assets will grow regardless of your business operations solely because the overarching economy is growing and you're riding a tailwind. However, it again boils down to financial engineering. It's not as simple as assets - liabilities = equity. The calculations used to determine valuations are so ridiculously convoluted. The amount of work that goes into financially analyzing businesses and finding "loop holes" that can justify higher prices is the core business model. The debt factors into it, but there's ways to maneuver around it through various avenues.

For example:

* debt-to-equity conversions (reclassification of debt as equity)

* refinancing

* sale-leaseback (selling company's assets to a 3rd party and using that money to pay down the debt, then leasing the equipment back)

* creative interpretations of what is actually debt (e.g. reclassifying real debt as a working capital adjustment or a "debt-like")

* dividend recapitalization (a nasty trick of loading the company with debt, paying that out as a dividend to the holdco, then selling the company at lower enterprise value. They still extracted value for their LPs/investors, despite the exit being lower)

* separating the debt from the operating company into a different holding company that services the debt

[newsclues]

The Mars family is doing that with the vets.

[at_compile_time]

They also own a large part of the pet food industry. Given how much health is affected by diet, that's a huge conflict of interest.

[joquarky]

Why can't they find something more interesting to do with their lives? They are wealthy enough to do anything and they choose to keep hoarding more and more.

[infecto]

This is just wrong. VC is not PE. The Vet example is really a bad trope. For every bad deal there are many others you never hear about. PE firms are not making money by simply buying everything up. The business still has to maintain and grow.

[skeeter2020]

VC is most definitely a form of Private Equity, though it's not the limited-partnership deal model that we often see in SaaS, or Vet Clinics, or Housing, etc. Yes, they need to grow but PE firms don't invest directly. They have funds with relatively short time horizons that want 2 things: 1. cashflow during the fund lifetime and 2. equity growth so they can sell the assets in the fund prior to the end. PE firms will sometime flip portfolio companies to their next fund but this is frowned upon because the investors are sophisticated and recognize the valuation conflict of interest. The PE business depends on repeat business for selling their funds; the best are always over subscribed and never go shopping for investors, while the rest are marginal forever.

[infecto]

Did not read all of it. Yes, it is a form of private equity. Of course. You missed the context. The post kept saying VC is buying a vet shop. In that context they meant private equity. VC is not the same as what they meant to say, PE.

[mbrumlow]

True.

[4d4m]

Sure there are differences between tigers and vultures, but they both eat things till they're dead.

[gspr]

I absolutely believe you on the facts, and it all sounds very disgusting, but here's what I don't understand: customers and staff alike no longer like the clinic. Won't that be a huge boon to competitors, essentially ruining the VC's investment?

I get that it's not so clean cut with something as equipment- and licensing heavy as the veterinarian sector. But I've heard the same story exemplified with pizza parlors instead. Won't all the good staff take all the loyal customers and go elsewhere very easily in that case?

[elevation]

Private equity is a huge inflation driver. I'm thrifty, and for years I enjoyed a $10/mo phone provider, ~$12.39 with taxes. I even evangelized this carrier with some young parents who were struggling to get financial traction while paying off student loans.

Our affordable plan came to an end when the rates tripled! Turns out a private equity firm bought the company, jacked the rates on every customer, and sold it off again. This was not a fundamental cost being passed on in slightly increased fees -- it was private equity extracting millions from the people who can afford it the least. Across my financially optimized life, I see this happening repeatedly.

Personally, I can afford a more expensive cell phone bill. But I would imagine that many who have a $10/mo plan do not have many other options. I would like to punish the banks who are funding attacks on consumers. If by no other means, then by letting them fail.

[twoodfin]

Why did the phone provider sell to a private equity firm?

[lobf]

for the money presumably? This questions feels like you're actually making a cryptic statement but I don't understand what it is.

[twoodfin]

Usually companies that have a fantastic, growing business model don’t sell to PE.

I also don’t like it when a money-losing business stops giving me below-market pricing.

[athrowaway3z]

- Phone subscriptions is a price competitive market in most places, not some growth-hacking industry.

- Not every business has a growth story. Not every business needs a growth story.

PE can offer a business owner more than they expect it to make by:

- being ignorant about the business (Which we are seeing repeatedly)

- intend to run it hot to juice the numbers and resell it for their profit.

[alex43578]

It’s not private equity’s fault, it’s the continued imposition of increasing taxes and government-mandated fees:

“The wireless market has become increasingly competitive. The result has been steady declines in the average price for wireless services. Over the last decade, the average monthly revenue per wireless line has fallen from $47.00 per month to $34.56 per month. Unfortunately, this price reduction for consumers has been partially offset by higher taxes.” - Tax Foundation (2023)

[kdheiwns]

Taxes coincidentally causing a 3x price change right when private equity buys a company is quite unlikely. Especially since I doubt every other company has tripled their prices.

[alex43578]

Every other carrier hasn't tripled their prices - this one unnamed and unsourced company did. You can get a $10 or $15 cellphone plan right now, so his claim is false, or that PE company has magical powers to completely outprice the otherwise competitive mobile phone market.

However, "Taxes, fees, and government surcharges make up a record-high 27.60 percent of the average wireless services bill... Since 2012, the average charge from wireless providers decreased by 29 percent, from $47.00 per line per month to $33.36 per line. However, during this same time, wireless taxes, fees, and government surcharges increased from 17.18 percent to 27.60 percent of the average bill, resulting in consumer benefits from lower wireless prices being offset by higher taxes and fees".

[JumpCrisscross]

> Banks are lending to private equity firms to fund purchases of businesses

Not quite. Private credit is to debt what private equity is to equity. (Technically, any non-bank originated debt that isn't publicly traded is private credit. Conventionally, it's restricted to corporate borrowers.)

So bank exposure to private credit generally means banks lending to non-banks who then lend to corporate borrowers.

[jmalicki]

What does this typically look like? Who is the intermediary here between the bank and corporate borrowers - are these buy side created SPVs?

[JumpCrisscross]

> Who is the intermediary

Business development companies [0]. Blue Owl. BlackRock [1].

> are these buy side created SPVs?

Great question! Not always [2].

[0] https://www.reuters.com/business/finance/private-credit-fund...

[1] https://www.blackrock.com/corporate/newsroom/press-releases/...

[2] https://www.datacenterdynamics.com/en/news/meta-secures-30bn...

[vondur]

Am I wrong thinking this is similar to the housing loan crisis of 2008? This is just another form of that "shadow banking" system isn't it?

[_heimdall]

You'll find plenty of talking heads on YouTube right noe claiming exactly this. Time will tell if private equity is actually wound up as tight as housing was in the GFC.

[harmmonica]

I don't think you're wrong if the following holds true: Before the housing bubble burst, banks lent funds to countless borrowers who couldn't, ultimately, afford their mortgage payments (because the banks didn't do their due diligence when underwriting the loans). This was widespread across pretty much every bank and mortgage banker. Not sure of the actual percentage of borrowers who, when all was said and done, had no business getting a mortgage for a house or condo, but suffice it to say it was well into the double digits percentage-wise (there's much more to this than simply banks and borrowers with Wall St. playing a major role in the collapse, but just keeping things simple).

In this private credit situation the analog for the banks are these private credit funds that have raised the capital they've lent from institutions and high-net-worth individuals (as opposed to banks, which have funds from consumer deposits). The analog to the individual mortgage borrowers from 2008 are actual companies.

To connect the dots, if the private credit funds were like the banks pre-2008, where due diligence was an afterthought, then this could turn out to be similar. So the real question is: are the borrowers (businesses in this case) swimming naked? Or do you believe the private credit funds when they say they actually conducted a good amount of due diligence when extending their loans? Once you know the percent of the companies that are naked you can evaluate whether this could/would end up similar to 2008. Nobody knows that yet, even, I suspect, the private credit funds themselves.

[Rury]

Yes, instead of banks lending sub prime mortgages directly, it's as if they are lending to private equity groups who are then lending rather undiscerningly. Within the last week, we now have Blackstone, Blackrock, Owl, and Morgan Stanely limiting withdrawals on private credit funds. Not a good look...

[paganel]

Even the best due diligence can't do anything if a crisis (not necessarily banking-related, a Middle East might just do the trick) starts manifesting itself and now many of those businesses have issues in paying down the debt they owe.

[JumpCrisscross]

> This is just another form of that "shadow banking" system isn't it?

Private-credit lenders are literally shadow banks [1]. But I'd be cautious about linking any shadow banking with crisis. Tons of useful finance occurs outside banks (and governments). One could argue a classic VC buying convertible debt met the definition.

That said, the parallel to 2008 is this sector of shadow banking has a unique set of transmission channels to our banks. The unexpected one being purely psychological–when a bank-affiliated shadow bank gates redemptions, investors are punishing the bank per se.

[1] https://en.wikipedia.org/wiki/Non-bank_financial_institution

[paganel]

> So bank exposure to private credit generally means banks lending to non-banks who then lend to corporate borrowers.

Isn't this similar in spirit to the infamous (according to Western media) Chinese shadow banking market? There are articles [1] more than 10 years old talking about the collapse of China because of that practice, but it looks like the US is all too happy to do a very similar thing. I also wonder how big of a market we're talking here, as I was too lazy to check. A few hundred billions? $1 trillion? $2 trillion? More?

[1] https://www.cnbc.com/2014/12/03/china-shadow-bank-collapse-e...

[spamizbad]

Banks have zero appetite for taking any operating responsibility for these firms and will work tirelessly to get them off their books ASAP.

[giraffe_lady]

In at least the US and EU but probably elsewhere, the asset categories of banks are tightly regulated as well. They can have transient ownership of anything but there are hard limits on what portion of their assets can be indefinitely tied up in nonbanking businesses that they are operating on their own behalf.

[bryanrasmussen]

Wouldn't they still owe interest to the banks on the money they borrowed, as well as the money they borrowed? I mean if all the money I make goes to the bank to pay off my mortgage my solution is not quitting my job, even though life is not very good under that situation.

[klodolph]

The analogy has a lot of problems.

Imagine you got a loan to buy a bunch of laundry machines to run a laundromat. But your laundromat earns $8,000 a month, and the loan payment is $10,000.

You can decide to sink $2,000 of your personal money into the laundromat every month, or you can give up.

[miketery]

The business owes the money or the fund. In any case the individuals do not unless they backed it with personal collateral.

[bryanrasmussen]

hmm, yeah ok so the collateral is the business they are buying, I forgot that one.

[sharts]

Why would banks take control? If they had that skillset or interest they wouldn't be lending to middle men to begin with.