The IUF's Private Equity Buyout Watch

Sunday March 4, 2007 The Observer
Nick Mathiason reports

Suddenly Britain has woken up to the power of private equity - clinically selling off assets, slashing costs and jobs to boost short-term profits and fuel massive windfalls. It now employs about one in five people in the private sector.

It took the potential £11bn bid for Sainsbury's, a company which is part of the fabric of British life, that forced publicity-shy financiers blinking into the political spotlight.

For one man, though, the relentless 'plague of locusts' comes as no surprise. As communications director for the IUF - an international union representing food, farm and hotel workers - Peter Rossman has been noting the industry's worst excesses since 1991.

He is arguably one of the most thoughtful critics of the sector. The 55-year-old Californian, now based in Geneva, charts the advent of aggressive buyout firms back to the Seventies when inflation and changing demographics slashed pension fund returns. The decline of the US rust belt manufacturing base forced a shift of investment to new sectors and a fundamental loosening of tax and investment rules unleashed huge capital flows to rampage round the world. And so, he says, was born a new breed of capitalism on steroids.

This wave of what Rossman terms 'financialisation' means previously unthinkable targets now appear on the takeover radar. As the financial community seeks ever-increasing returns - 15 per cent is now benchmark - failure by companies to deliver 'hyper' returns puts them at risk of annihilation.

'A company that returns 10 per cent to investors is now considered sub-par and private equity will converge on it. The whole notion of corporate health, the notion that long-term is three to five years is laughable. The only way they can get those returns is by cutting costs. To realise those returns you have to shave costs everywhere you can. There's been enormous pressure on workers.'

Employees across the world, says Rossman, are victims of what he calls 'stock market Stalinism'. As jobs are slashed and unions derecognised, he argues, workers' productivity is ratcheted ever tighter. The outsourcing drive means food companies employ third parties to pack goods where margins are super-thin and workers' rights are trampled underfoot.

But isn't this efficient and disciplined business practice - essentially capitalism at its best? 'In the hotel sector, for example, massive outsourcing is not necessarily efficient enterprise, but a general decline of the quality of service and more pressure on the directly employed workforce. In food and beverages it is one of the factors in the general degradation of the terms and conditions of employment.'

Like Britain, Germany is waking up to the giant strides buyout firms have made. Subtle changes to fiscal German federal tax policy - the abolition of capital gains on business sales - prompted private equity to swarm into Germany, A move that saw influential politicians label the firms 'locusts'.

'Locusts describes very well the way funds consume assets but it can obscure the fact it's not a biblical plague. It's a man made phenomenon,' he says.

Rossman highlights the example of a deal which saw Apax, at the time run by Labour donor Sir Ronald Cohen, buy the German federal publisher in 2001. Then it had 4,000 employees. It now, says Rossman, has less than 900 workers and there is talk that the German government may buy the firm back.

Rossman also points to how the German government sold off large chunks of residential housing to Terra Firma, controlled by UK financier Guy Hands. Rents have risen as aggressive funds seek steep returns, forcing the public sector to increase subsidies to help those on lower incomes. So any windfall for government has been largely eroded.

And then there is the question of tax. Private equity typically operates through a series of holding companies and eventually a target company merges with a holding company. This holding company is often a subsidiary of another holding company which is typically held in a low tax haven.

'The British Venture Capital Association says it paid so many millions in tax last year. The figure is irrelevant. The real question is on what volume of transactions and through what mechanisms. Given the offshore structures of firms, what would they have paid if tax in havens was imposed? These are serious issues.'

There are signs that a significant number of Labour MPs are waking up to private equity. Unions are mounting increasingly effective campaigns against a sector whose top brass receive stratospheric salaries.

'This is a hyper-political phenomenon that requires specific tax environment and specific regulation. The type of changes in the last 20 years to tax and regulation is a product of what I call 'reregulation' but what is generally known as deregulation.'

But is there appetite to unpick some of the tax advantages private equity has, especially when some high-profile proponents fund both main parties? 'I think it can be regulated back in place. I think society has to save itself from an operation that is sucking up important assets for short-term financial gain because they pose an enormous risk to the economy as a whole. Given that these funds are investing in everything from health care and education to food, sport and telecoms, there is no limit to the damage they can cause.'

If there is a communicator with a better perspective of how turbo-charged private equity has cut swathes through America and Europe than Rossman, he or she has yet to surface.