In Praise of Private Equity

Alex Tabarrok writes

Excellent piece by Reihan Salam on private equity. And how Bain Capital fit into the larger picture of a dynamic economy.

The difficult truth that virtually no politician is prepared to acknowledge is that the road to job creation runs through job destruction.

{snip}

What Mitt Romney discovered was that American corporations sometimes had to be dragged, wailing and whining, into a state of efficiency. As a management consultant at Bain & Company, Romney had studied successful firms and then told other firms how to replicate their strategies. But those firms had come of age in the fat years of American corporate dominance, when many believed that the Japanese could do little more than manufacture cheap toys and textiles, and many were reluctant to accept his newfangled advice. It eventually became clear that if Romney and his cohort were going to remake American business, they’d have to raise money to make their own investments. Spurred by the senior partners at Bain & Company, Romney and his merry band of consultants established Bain Capital.

I wish Romney were as eloquent in his defense as is Salam.

Sounds good, though I can’t vouch for the accuracy of the Salam analysis. I don’t have a dog in this hunt.

4 thoughts on “In Praise of Private Equity

  1. Frank Eggers

    In the 19th century, ONE reason that Andrew Carnegie’s steel mills were so profitable was that he did not hesitate to scrap obsolete machinery to replace it with new and more efficient machinery, even if the obsolete machinery were less than one year old. That proved to be a profitable approach.

    On the other hand, he worked his employees for 12 hours a day, 6 or 7 days a week, and treated them as disposable; obviously that would not be acceptable. The employees who wanted to improve their educational stati were unable to do so and the Carnegie libraries were of no use to them since they had time only to work, eat, and sleep. Because they were fatigued, that resulted in higher error and accident rates.

  2. Steve Darden Post author

    Thanks – very interesting. Your Carnegie history is 10x better than mine (embarrassing since Carnegie Mellon was an alma mater for me). Is there an online Carnegie history you recommend?

    Back to the private equity topic. Why did you connect Andrew Carnegie to current-day private equity?

    1. Frank Eggers

      It just happens that I am reading the biography of Andrew Carnegie by Wall; it’s about 1,000 pages long. I’ve also read the biography of John D. Rockefeller and Jay Gould. I’m reading the biographies of the industrial titans who lived during the “robber baron” era, i.e., the period from the Civil War to about 1900. I have several more to go, including J. P. Morgan, and others. I also happen to have the equivalent of a minor in economics along with my degree in business administration from the University of Minnesota (1971).

      Although our government was in theory democratic during that era (1864 – 1900), it tended to be a plutocracy. The Barons of Industry often got their way by spending huge amounts of money on political campaigns, owning newspapers to control what was published, and outright bribery of politicians and judges; they had the money to do it. And, from a number of standpoints, Andrew Carnegie’s performance was mixed. He was heavily involved in politics in both the U.S. and in England not by running for office, but by publishing articles and supporting extremely expensive political campaigns. For a while, he had controlling interest in several newspapers in England and Scotland. In England, he was referred to as “a star-spangled Scotsman.”

      Despite his faults, Andrew Carnegie probably significantly accelerated the industrialization of the U.S. Much of what he did has modern parallels, but of course history never repeats itself exactly. His approach to using the most modern and efficient machinery and production methods and his understanding that sunk costs often should be ignored when making investment decisions paid off. What he did was all done via private equity, with the highly beneficial significant exceptions to him of causing the U.S. to erect protective trade barriers to protect the domestic steel industry and using his influence to get favorable national and state legislation.

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