How the Corporate Media Obscure the Truth About Mitt Romney's 'Vulture Capitalism' at Bain
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Were it not such a sad statement about how superficial our political discourse has become, the indignant defenses of Bain Capital by self-flattering “centrists” in the media would be almost comical.
The simple reality that has been totally obscured in most of the coverage of what has been reduced to a “political flap,” is that finance is what's known as an “intermediary good” – it doesn't produce anything directly. It can -- and does -- stimulate the larger economy. But the financial sector can also extract wealth from the real economy, at a cost.
The lion's share of Mitt Romney's fortune was made doing the latter through leveraged buy-outs (LBOs), a reality that Romney doesn't like to talk about on the campaign trail. Instead, he wants to talk about Staples, or Sports Authority -- two among a small handful of his venture capital deals -- and just about every mainstream media report elides the distinction between those very different things.
Perhaps the media, like much of the American public, doesn’t understand what LBO artists like Romney really do. Here’s a quick refresher.
Venture capital deals represent a very basic free-market transaction. Investors put money into a company at its early stages in exchange for a share of the company. If the start-up doesn't pan out, the investors lose their stake; if it grows and matures, they make a healthy profit. In venture capital deals, investors only make a profit when the company they put their cash into does well.
Leveraged buy-outs are a different creature entirely. LBO firms also deal with risky companies – usually those struggling to stay afloat – but they don't actually take on much risk themselves as they structure the deals so that they profit whether the target company becomes healthy and grows, or collapses, often under the weight of debt piled onto it by the private equity firm itself.
Here's how the deal works. The leveraged buy-out firm will put down a fraction of the cost of buying an ailing company. The balance of the transaction is borrowed, but the debt goes onto the books of the target company, not the private equity firm – the struggling company basically finances the lion's share of its own sale.
The target company's debt payments then increase significantly, and that debt service is written off, reducing its tax burden a great deal. This subsidy increases short-term revenues (at the expense of long-term debt) and that, in turn, is paid out to the firm's investors along with a fat stream of management fees that Romney and his partners skimmed off the top.
(The industry-standard structure of these deals is known as “2 and 20.” Management gets 2 percent of the capital they invest as a fee, and 20 percent of the profits that the fund realizes. That 2 percent represents between two to four times what the average management fees for a mutual fund usually run, and is collected regardless of how the fund does.)
This is a win-win deal for the leveraged buyout firm. A recent study by researchers at the University of Chicago estimated that the average tax benefit of these companies' increased debt-loads in 1980s equaled “10 to 20 percent of ﬁrm value,” which, as Mike Konczai noted recently, “is value that comes from taxpayers to private equity as a result of the tax code.
Now look at how this story has been covered. Let's focus on CNN, which is supposedly the most “neutral” of the cable news outlets.
Consider a remarkably obtuse “ Letter to the President” penned by CNN political correspondent Tom Foreman – “an Emmy award-winning journalist whose experience spans more than three decades.” The thrust of it was that Newark Mayor Cory Booker “spoke truth to power” when he said he was “nauseated” by Democrats' criticism of Bain. Of course, nobody knows what was in Booker's heart, but we do know that he got $565,000 in campaign funds from Wall Street to get elected, with at least $36,000 coming from Bain and its employees, and in that context one has to be willfully naïve to jump to the conclusion that he was just speaking the truth as he sees it.