Steve Rattner, managing principal of the Quadrangle Partners, has a blunt warning for those riding the wave of easy credit in the private equity industry. It won’t last.
On FT.com’s View from the Top video, he says:”Those of us who are in private equity think we are unbelievably talented investors, masters of the universe, whatever you want to describe ourselves as, and many private equity guys are extremely talented investors, extremely talented managers. But when you cut though it all, what’s really going on here is that you have a credit-fuelled bubble driving private equity deals that would not happen in a normal credit market.
“You can borrow more money today, at lower rates relative to risk-free rate – the treasury rate – than ever before in history. And that has taken deals that would not have made any sense for private equity, and made them into very economically attractive private equity deals.
“Unless you believe that there is a new paradigm: that somehow we’ve reinvented the rules of history, and of finance, the music is going to stop…Once the default rate starts to rise, the lenders, who are now throwing money at all of us private equity guys at these incredibly low spreads, say, “What was I thinking? Why was I lending to this particular creditor at 296 basis points over treasuries? I wasn’t getting paid for the risk I’m taking.” And then we will go back to some sort of normalised existence.”
He also talks about a “confusion” about what private equity is, and what it does.
“Private equity is not the Holy Grail, private equity is not the solution to any company’s problems, it’s not the only way to run a company. There is absolutely nothing wrong with being a public company, with an institutional shareholder base, just as there have been for several hundred years now, there’s nothing wrong with any of that.
“What private equity brings to the party is the ability to do financial engineering in a more sophisticated way, and a focus really on driving shareholder value, as opposed to quarterly earnings, PR, going to Pebble Beach and playing golf. Whatever it is that some public companies’ CEOs like to think about.
“It’s just a single-minded focus on driving a successful investment.
“Some people don’t like that really. I think there are a couple of different criticisms of them. One is that it can often mean reductions in the labour force. Part of private equity’s mantra is to become very efficient and to do what you have to do to produce high profits.”
Mr Rattner agrees with Schumpeter that the “process of creative destruction is really critical to the success of capitalism, whether it’s private equity doing it, or a public company, or an individual, you have to really be willing to shed jobs that are no longer efficient because that, in my opinion, is what will ultimately lead to the creation of jobs that are productive.”
Creative destruction? That is not the sort of phrase that Damon Buffini wants bandied around, we suspect.
