Here is our first example of how the abuse of innocently invested money can distort values in the stock markets as well as the cost of many products and services we use every day including homes. In this particular example the victim is a business.
Example 1:
A tycoon buys a company with private equity money borrowed from a bank with a loan that is being initially paid for by 100,000 individual pension plans.
A tycoon colleague with the help of another investment company could buy the same company later in exactly the same way. Only this time there are 120,000 individual pension funds. Even though the company may have changed little since the previous buy out, because the tycoon has as good as guaranteed the mortgage payments on a 20% higher amount (with the pension fund), the bank could be tempted into lending 20% more money.
All the major players in this deal can benefit from it.
i)The private equity management company selling will benefit from a good profit from the sale of the company which will allow them to pay off their own mortgage on the subject company and leave a large profit that will have been relatively easily achieved.
ii)Both banks involved will benefit on the selling side of the deal and the buying side. The bank on the selling side of the deal will receive there mortgage completely paid off as well as an early repayment charge which will no doubt give bankers bonuses a boost. The bank on the buying side of the deal will receive fees involved in a new mortgage, as well as the interest which will continue to flow in. These could actually be the same bank, which would add to its vested interest in making this deal happen as double the fees would be received. .. You can see exactly why banks and private equity companies have struck up such a good relationship in the years leading up to the economic crisis!
iii)Individual investors will benefit from interest on their investments which is paid by the private equity management company when successful.
So there are no losers in this situation?
Well, there are, but you can see all about that in depth elsewhere in Anti-Crisis Economics.
Those directly involved in the deal can all benefit from the buyout deal, but unfortunately there are constraints on the buyout business which can become more restrictive on this type of 'business' with the passing of time.
For the private equity buyout business to be successful, certain specific economic conditions are required. One condition is that there needs to be a growing amount of available money for investment into pension funds. If the total amount of money going into the financial system for these types of investments was to stop growing, it would affect the size of the loans that could be made available by the banks. This would make it difficult to sell big businesses at a profit. Basically when everyone who can afford a pension fund has one, and the rest of the population can not afford one, this business is likely to hit a wall. In this event pension funds invested in private equity buyouts would suffer. However, whilst this may happen, bankers and private equity company staff will continue to collect their salaries even though bad decisions have been made on how the pension funds were invested.
In the example explained above, a second pension fund has increased the value of the private equity subject company. The problem is the company does not have to actually improve its product or service or make any other changes to the business for this to happen. But in financial system that was based on reality, major changes in the purchased company would have been required for the value to grow this substantially. The first reason being that the company was in substantial debt after the first buyout, which should have de-valued it immediately.
Example 1:
A tycoon buys a company with private equity money borrowed from a bank with a loan that is being initially paid for by 100,000 individual pension plans.
A tycoon colleague with the help of another investment company could buy the same company later in exactly the same way. Only this time there are 120,000 individual pension funds. Even though the company may have changed little since the previous buy out, because the tycoon has as good as guaranteed the mortgage payments on a 20% higher amount (with the pension fund), the bank could be tempted into lending 20% more money.
All the major players in this deal can benefit from it.
i)The private equity management company selling will benefit from a good profit from the sale of the company which will allow them to pay off their own mortgage on the subject company and leave a large profit that will have been relatively easily achieved.
ii)Both banks involved will benefit on the selling side of the deal and the buying side. The bank on the selling side of the deal will receive there mortgage completely paid off as well as an early repayment charge which will no doubt give bankers bonuses a boost. The bank on the buying side of the deal will receive fees involved in a new mortgage, as well as the interest which will continue to flow in. These could actually be the same bank, which would add to its vested interest in making this deal happen as double the fees would be received. .. You can see exactly why banks and private equity companies have struck up such a good relationship in the years leading up to the economic crisis!
iii)Individual investors will benefit from interest on their investments which is paid by the private equity management company when successful.
So there are no losers in this situation?
Well, there are, but you can see all about that in depth elsewhere in Anti-Crisis Economics.
Those directly involved in the deal can all benefit from the buyout deal, but unfortunately there are constraints on the buyout business which can become more restrictive on this type of 'business' with the passing of time.
For the private equity buyout business to be successful, certain specific economic conditions are required. One condition is that there needs to be a growing amount of available money for investment into pension funds. If the total amount of money going into the financial system for these types of investments was to stop growing, it would affect the size of the loans that could be made available by the banks. This would make it difficult to sell big businesses at a profit. Basically when everyone who can afford a pension fund has one, and the rest of the population can not afford one, this business is likely to hit a wall. In this event pension funds invested in private equity buyouts would suffer. However, whilst this may happen, bankers and private equity company staff will continue to collect their salaries even though bad decisions have been made on how the pension funds were invested.
In the example explained above, a second pension fund has increased the value of the private equity subject company. The problem is the company does not have to actually improve its product or service or make any other changes to the business for this to happen. But in financial system that was based on reality, major changes in the purchased company would have been required for the value to grow this substantially. The first reason being that the company was in substantial debt after the first buyout, which should have de-valued it immediately.
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