Wait. You Mean Private Equity Can Be the Good Guys?

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Private equity (PE) is the part of the investment world that everybody loves to demonize – except, of course, the people who work and invest in that sector, who typically do very well indeed.

PE refers to the financial firms that buy and sell whole companies, often closing plants and cutting jobs in the process. As we show in our new book, Ownership: Reinventing Companies, Capitalism, and Who Owns What, these firms have invented a host of different ways to make money, even when the companies they own wind up in bankruptcy court.

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PE firms also benefit from a peculiar law that treats their earnings as capital gains, thus taxing them at a lower rate than regular profits. Democrats tried to eliminate this break in the recently passed Inflation Reduction Act, only to see Republicans and Arizona Democrat Kyrsten Sinema block the change.

Could these financial windfalls ultimately be passed on to company workers? For some PE firms, the surprising answer is yes.

Private Equity's New Equitable Strategy

There’s a new idea afoot in the private equity world: When you buy a company, give some of that company’s stock to the people who work there. Not just the top executives—all of the employees. When you sell the company, these employee shareholders can wind up with sizable amounts of money.

In 2017, for example, the private equity firm KKR took a company called Gardner Denver public, selling its shares on Wall Street. Employees had been granted a total of $100 million in stock, an average of nearly five months’ worth of pay per person.

Similarly, in 2022, the 800 employees of C.H.I. Overhead Doors learned that they would receive an average of $175,000 each from the $3 billion sale of the company by KKR.

These windfalls may not be large by Wall Street standards, but they can be life-changing for blue-collar workers getting by on $20 or $25 an hour.

The idea of a PE firm sharing stock with all the employees is the brainchild of Pete Stavros, co-head of private equity in the Americas for KKR. Stavros has led about a dozen such deals over the years and recently founded an organization, Ownership Works, to promote the idea.

The 21 PE firms that have joined Ownership Works agree to follow the stock-sharing model in at least three deals a year. That’s still a distinct minority of PE firms, but it’s a good start.

Stavros argues that sharing stock is simply good business. It puts workers and owners on the same side. Everyone pulls together to increase the company’s value. He also points out that it puts a dent in the vast economic inequalities that plague the U.S.

So, what’s going on here? Is private equity, long seen as a symbol of capitalism run amok, suddenly becoming a champion of a fairer economy? Well, sort of.

Skeptics note that the PE model falls far short of the most common form of employee ownership in the U.S. In the roughly 6,500 companies with employee stock ownership plans, or ESOPs, workers typically own at least 30% and often 100% of their companies’ stock.

In the usual PE deal, they get less than 10%. Moreover, the ESOP is a kind of trust that holds stock on behalf of employees; individuals can’t sell their shares until they leave or retire, at which point the company buys them back.

Because of that structure, everyone in an ESOP-owned business has an interest in the company’s long-term prosperity. Some employees in a PE deal may decide to hold onto their stock, but most are likely to cash out their shares as soon as they can. Ownership reverts to “normal.”

But Stavros says the debate over which plan is better misses the point. Many companies will never set up an ESOP, he argues. Financing can be hard to come by, and many executives find the rules governing these trusts to be too restrictive.

He’s a fan of ESOPs, but he believes the KKR model gets at least some meaningful ownership into the hands of people who would otherwise have none.

A Positive Step Forward

Though we’ve long worked with and written about ESOP-owned companies, we’re with Stavros on this one. PE firms have vastly more money than the modest capital that’s available to ESOPs. Getting these firms to share ownership with employees is a big step forward: Workers come out ahead, and the idea of employee ownership gains currency.

Other owners of private companies may come to discover that selling to an ESOP is a better option for their businesses, their employees, and their communities than selling to a PE firm.

Employee ownership is a path toward a fairer economy. But that kind of transformation rarely occurs in leaps and bounds; much more common is a series of small steps. Stavros’s vision for private equity is just such a step.

Corey Rosen, Ph.D., is the founder and senior staff member of the National Center for Employee Ownership. He writes frequently on employee ownership and serves on several ESOP company boards.

John Case is a veteran observer and analyst of the business world and a nationally known writer on business and economics. Their new book is Ownership: Reinventing Companies, Capitalism, and Who Owns What.