Private Equity and Public Good

The collapse of the credit markets over the last year has hit more than just the homebuilding and mortgage sectors of the economy. As interest rates increased, private equity, or “PE,” an important new form of financial capital, was also rocked on its heels.

PE funds have grown substantially in size as well as political and financial significance in the last decade. The Blackstone Group, for example, one of a handful of top-tier PE funds, recently announced a takeover of the Hilton Hotels Corporation for $26 billion. Cerberus Capital, another major PE player, surprised many when it announced plans to buy the troubled Chrysler Group from DaimlerChrysler—a pioneering venture into the top ranks of industrial America. Kohlberg Kravis Roberts & Co. (KKR), one of the oldest PE funds, currently owns such a large number of independent businesses that it is, indirectly, the second largest employer in America, with 560,000 employees, twice as many as General Motors, ahead of McDonald’s and just behind Wal-Mart. Today’s PE fund managers have been hailed widely in the business press as the new “masters of the universe,” pushing aside bond traders and investment bankers, not to mention lowly chief executive officers. The managers of the largest funds are billionaires. Henry Kravis, the second “K” in KKR, has a wing named after him at New York’s Metropolitan Museum of Art.

But as liquidity dried up last summer, the major banks that had made billions of dollars in loans to PE funds to finance the buyouts of companies like Chrysler, Clear Channel, or the United Kingdom’s Alliance Boots retail pharmacy giant, were unable to resell those loans into the wider capital markets. In turn this caused the critical flow of capital to PE funds to seize up, leading some to predict a quick end to the recent leveraged buyout boom. Within a few months, however, evidence emerged that the PE sector was already shaking off the summer crisis. At the summer’s end, according to the Wall Street Journal, Blackstone announced it had closed the largest buyout fund in history “despite the recent red flags in the debt markets,” raising a total of $21.7 billion. This included a $1 billion commitment from the California State Teachers’ Retirement System “along with a host of other big public pension funds.” The Carlyle Group in early September announced that it had successfully raised 5.3 billion euros for its European-based buyout operations.

The PE Worldview

PE fund managers argue that they offer a potential solution to what many have long argued is the core problem of the modern corporation: the ability of insiders of public companies to take advantage of outside shareholders. This tension between corporate managers and public investors has become a key factor in post-Enron debates about corporate governance and finance on Wall Street and in Washington, D.C. The labor movement is playing a crucial role in ...