Is Private Equity a Job Killer?

Flickr / michaelaston.

Private equity buyouts are, depending on your perspective, dangerous, notorious, or a great way of unlocking "shareholder value." But for all the press, they're not terribly well studied.

Do they help employment by creating better companies, or do they only help shareholders -- at the expense of employees? 

A recent University of Chicago Booth School of Business working paper takes a look at 3,200 buyouts over 26 years to find out. The results? Private equity buyouts do, on average, cause a slight decline in employment, almost 1%; but the story is not so simple.  

Job losses and gains 
The researchers estimate that private equity firms controlled more than 7% of employment between 1998 and 2007. So the question of whether they're good or bad for employment is actually rather significant.

Taken comprehensively, the researchers found that employment tended to shrink by less than 1% in the two years after a buyout. But there was a significant amount of activity that led to that net number.

According to the paper, "Private equity buyouts catalyze the creative destruction process, as measured by job creation and destruction and by the transfer of production units between firms." That's because private equity firms don't just fire everyone and congratulate themselves on a job well done. They tend to move a lot of resources around, pushing businesses out of poorly performing areas, and investing in more productive ones.

All in all, there are both job losses and job gains. In fact, in the first year after a buyout, target firms ramp up employment 2% faster than their competitors. They slow down later on, which leads to lower employment over time.

The result is that there isn't a major loss of jobs in the wake of a buyout. However, in light of the hustle and bustle, if your firm goes through a buyout, you wouldn't be unwise to worry: "Jobs at target establishments are at greater risk post buyout than jobs at [other firms]."

The industry and type of buyout matters
Averages are useful, but the researchers find that there are also significant differences across industries when it comes to employment changes. In manufacturing, there tends to be a "modest" fall in employment after a buyout. In retail, target firms look like their competitors leading up to the buyout, then experience a nearly 12% drop in employment for the five years thereafter. Service industry firms, on the other hand, tend to grow much faster than their peers before a buyout, and then much slower afterwards.

Also, though public-to-private deals are much less common than private-to-private buyouts, they also have more dramatic and visible job losses: more than 10% losses over two years compared to peer firms, on average. On the other hand, companies undergoing private deals have an average employment expansion of more than 10% compared to competitors.

In that case, maybe you should worry more if your company is a public firm being taken private.

How do you judge if an individual private equity deal is good or not? 
The authors point out that not all deals follow the same pattern, and that, sometimes, a specific situation will look a lot different than the average one. Seems obvious, but it's the obvious things that are often the easiest to forget. 

For example, sometimes private equity firms simply fail at whatever their mission is (productivity improvement is a common one). Other times, they might focus on saving money through financial changes, like generating tax savings. In these cases, as the researchers put it, "There is no compelling reason to anticipate positive effects on productivity at target firms."

Other deals improve productivity simply through improving operations rather than investing in new areas. And finally, there are deals that make money by divesting unproductive business units. In both cases, you probably won't see a lot of new investment.

In the end, then, it's important to understand the reasoning behind a particular buyout decision. Sometimes, a buyout will build a stronger company that's better able to employ more people in the future; sometimes it will just change the financial structure without doing much else. On average, though, the changes to employment are modest.

Your credit card may soon be completely worthless
The plastic in your wallet is about to go the way of the typewriter, the VCR, and the 8-track tape player. When it does, a handful of investors could stand to get very rich. You can join them -- but you must act now. An eye-opening new presentation reveals the full story on why your credit card is about to be worthless -- and highlights one little-known company sitting at the epicenter of an earth-shaking movement that could hand early investors the kind of profits we haven't seen since the dot-com days. Click here to watch this stunning video.

Read/Post Comments (0) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 3069875, ~/Articles/ArticleHandler.aspx, 8/28/2015 5:49:27 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Anna Wroblewska

Anna began her career in finance as a college intern at a hedge fund, and she hasn’t been able to escape its siren song ever since. She’s done academic research at Harvard Business School and UCLA, was the COO of a wealth management firm, and now writes about finance, economics, behavior, and business.

Today's Market

updated 8 hours ago Sponsored by:
DOW 16,654.77 369.26 2.27%
S&P 500 1,987.66 47.15 2.43%
NASD 4,812.71 115.17 2.45%

Create My Watchlist

Go to My Watchlist

You don't seem to be following any stocks yet!

Better investing starts with a watchlist. Now you can create a personalized watchlist and get immediate access to the personalized information you need to make successful investing decisions.

Data delayed up to 5 minutes