Who benefits from buyouts?

2014

Far from unlocking dormant capabilities and hidden value, private equity buyouts more often lead to job losses, wage cuts and reductions in productivity and profitability, new research from the UK has found.

The study into the employment consequences of institutional buy outs (IBO) found both a significant loss in employment in firms subject to an IBO immediately following the takeover and a tendency for wages to fall below the market rate.

“Our findings suggest IBOs and their impact on managerial practices do not appear to be an effective mechanism for turning round failing firms,” said Geoffrey Wood, Professor of International Business at Warwick Business School, one of the authors of the paper.

“I would argue, far from the notion they revitalise the acquired organisation and unlock dormant capabilities and value, our research suggests more often than not the opposite occurs.

“Perhaps this could be partly excused from a business perspective if there was an increase in productivity and profitability, but we found even in that regard there was no evidence to suggest such improvements subsequent to the takeover.”

Professor Wood, Marc Goergen, of Cardiff Business School, and Noel O’Sullivan, of Loughborough University’s School of Business and Economics, examined changes to employee numbers, employee productivity and employee remuneration as well as profitability in 106 UK IBOs over an 11-year period between 1997 and 2006. They defined an IBO as “a highly leveraged transaction where one or more institutional investors act together to initiate a buyout deal”.

They also analysed the firms’ performance and employment and wage figures six years before takeover through to four years afterwards. They compared these organisations against a group of firms with similar performance and another group from the same industry.

What they found was that the IBO companies’ median employment growth was 11 per cent five years before acquisition, falling to 4.8 per cent the year after the deal.

Figures on salary followed a similar trend with companies seeing a reduction from a mean of £29,460 before the IBO to £28,520 following it. But over the same period, industry and sized matched companies saw their mean salary increase from £30,170 to £38,430 while performance- matched companies saw their mean salary rise from £30,890 to £33,810. Four years after the IBO the mean salary was at £34,010, while in the control firms it was at £44,210 and £42,860 respectively, suggesting the mean workers’ salary at the IBO companies was as much as £10,000 less.

Productivity, measured in the research by calculating real turnover over employees, was also lower for the IBO firms than both industry and size-matched companies and performance-matched companies.

This drop in employment in the target firms post-takeover cannot be justified by differences in productivity and/or labour costs, the authors argue. “There is no equivalent drop in the control firms suggesting that the effect we observe is not an industry- or market-wide effect, but an effect which is limited to the target firms.”

“Despite - or because of - pay cuts and job losses, productivity in the sample firms remained significantly lower than in the control firms,” Professor Wood said. “This suggests that any supposed disciplinary benefits from job cuts, either in terms of ejecting the lowest strata of performers or incentivising surviving staff, have not resulted in material gains.

“Indeed, the productivity and profitability of the IBO firms remain lower than for the control firms during the four-year period following the takeover, suggesting that a climate of insecurity in tenure and reward reduces employee productivity and firm profitability.”

But as report co-author Marc Goergen, Professor of Finance at Cardiff Business School, pointed out, the findings shouldn’t be taken as implying that all private equity acquisitions are about short term gain for private equity shareholders that is achieved at the expense of employees and long-term organisational sustainability.

“This new study does indeed uncover several negative effects on employment from private equity acquisitions,” he said, “but it is important to note that this is for a particular type of acquisition, so called institutional buy-outs.

“While we can’t deny the research revealed a post-IBO drop in employment and wages, the debate on the effects of private equity acquisitions going forward needs to be much more nuanced, with a view to distinguishing between the types of private equity acquisition and the positive and negative impacts they generate.”

The employment consequences of private equity acquisitions: The case of institutional buy outs, is published in the European Economic Review.

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