Debunking the private equity myth

Does the private equity boom mean that no company wants to be public anymore? Hardly. Fortune's Adam Lashinsky explodes the hype behind today's business buzz.

By Adam Lashinsky, Fortune senior writer

SAN FRANCISCO (Fortune) -- A series of laughable assertions is becoming vogue in business circles these days, regarding what a gosh-darn pain in the rear it is to run a publicly traded company.

Hot-shot CEOs would rather work for a company controlled by a private-equity firm than by public shareholders, as The New York Times asserted in a front-page story Monday. Entrepreneurs would rather sell out than go through the tedious process of an initial public offering. Companies that do plan to go public intend to do it outside the United States.

There's a word for this kind of thinking, but it's not the kind of word that Fortune writers use in print. So let's just say it's ridiculous.

CEOs who leave the world of public firms for the supposedly cushy realm of private-equity-controlled corporations know damn well that one day - soon, if all goes according to plan - their company will attempt again to go public. That's simply how the game is played. Similarly, high-quality companies can and do go public (Google (Charts), (Charts) and so on).

Finally, companies with any self-respect don't run to lightly regulated exchanges like London's AIM. According to the little understood rules there, eventually U.S. companies that list in London will come under the scrutiny of the U.S. Securities and Exchange Commission anyway. So running away from U.S. regulators is pointless.

What makes this going-private debate silly is that everyone knows the companies in question will be public again one day. They are so big that there is almost no buyer who can pass antitrust muster.

Moreover, the private-equity firms that help management take companies private aren't planning to make their annual bonuses from the dividends that the companies in their portfolio pay. Nine times out of ten, the way they'll make their haul is by conducting an IPO. Again. As the colorful CEO of Seagate (Charts), Bill Watkins, told Fortune's Jeff O'Brien recently: "When you go private, the only thing you think about is going public again."

It's true that private-equity investors are willing to out-pay public boards of directors, surprising though that may seem at first blush. That gives you some sense of who's losing out in a going-private transaction.

The private-equity firms are all about money. If they can make their money - which they achieve by buying low and selling high - they'll pay a CEO $100 million just as easily as they'll pay him $20. To the extent they are able to buy low, it's no mystery who's getting the raw end of the deal: the previous shareholders.

Alas, the private equity inflation of CEO salaries is merely the free market at work. For all the outrage over obscene CEO pay - and I share it - I've yet to see a good proposal for how to rein it in. New York magazine columnist Kurt Andersen suggests two solutions in a recent column: "limit tax deductibility of CEO pay" or "by making CEO pay subject to shareholder vote every year."

The former would make for interesting fights over which companies cannot count their CEO's salary as a business expense.

Limit deductibility for public companies and I'd have to re-visit my entire premise; impose deductibility caps on private companies and you're telling entrepreneurs what they can and cannot pay themselves.

The latter simply wouldn't work. Despite loud drum banging by a minority of rabble rousers, hedge funds and mutual fund managers don't have the spine or the interest in telling even modestly successful CEOs that they are pigs.

The public markets in the United States will continue to thrive because they hold the promise of making investors - along with avaricious, overpaid, under-talented CEOs - lots of money. The moment private companies can't go public is the moment CEOs no longer will run to work for them. It's that simple.


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