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February 04, 2008

Illusion, Reality and Spin: Davos, LBOs and Job Destruction

Against a backdrop of financial meltdown and the specter of global recession, this year's World Economic Forum in Davos, Switzerland published a paper on the impact of private equity (PE) buyouts, part of which was devoted to their employment impact. While participants could get their minds off skyrocketing food prices and global hunger riots at the panel on "Food, Culture and Civilization" (which included celebrity chefs), or meditate on the implications of "Happiness - How Much Can You Take?", the WEF press department was charged with the thornier task of packaging the conclusions of the private equity study. Apparently they were hoping that few people were really paying attention.

The study deserves to be taken more seriously - to the point of actually being read carefully. Organized by Professor Josh Lerner of Harvard Business School, the section on employment impact marks a break with the ludicrous "studies" and "surveys" peddled by the PE funds' lobby associations, which have been based on dubious readings of highly selective data provided by their members. The employment section of the WEF study is serious, apart from the (seriously) limiting fact that the data derive exclusively from the United States and leveraged buyouts have long been global. The study examined some 5,000 private equity-backed firms involved with 300,000 enterprises, against a non-PE control group nearly 3 times larger of comparable size, industry and age, in order to assess changes in employment over a 5-year period before and after a leveraged buyout.

David Hall of the Business School at the UK's University of Greenwich, who has previously investigated the job-creation claims of the private equity lobby and found them to be worthless, has taken a careful look at the WEF paper, the results of which will be published in the framework of research he is currently conducting for the European Federation of Public Service Unions. Hall considers the WEF report to be "the soundest and most comprehensive study of the employment effects of PE" - yet points to a striking disjunction between the evidence, the conclusions, the WEF spin and the further adventures of the report as it made its way through the international press.

  • The Harvard study shows, in its own words, that "the net impact on existing establishments is negative." and arguably even greater than the authors conclude. Workplaces taken over by private equity have 3.6%-4.5% fewer employees after the takeover than workplaces in the comparable control group, even when the net impact of creating, buying, closing and selling workplaces is taken fully into account.

  • Workplaces taken over by PE have 7% fewer employees after 3 years and 10.3 % less 5 years following the takeover than in the control group.
  • Companies taken over by private equity have higher rates of closure, opening, acquisition, and disposal of workplaces.
  • PE-owned companies' relatively higher rate of creating "greenfield employment" does NOT offset the job losses from closures and other sources of job reduction.
  • The rate of acquisitions, sales, greenfield creation and closures are approximately double for PE firms as measured against non-PE companies. The WEF, borrowing from the Austrian economist Joseph Schumpeter (who was talking about something quite different), call this "creative destruction". Hall correctly labels this greater insecurity for employees. In the 2 years following a PE takeover, 24% of employees will have seen their workplace closed, sold or downsized.

So what happens when creative destruction does Davos? According to the WEF press release, "Employment has a J-curve pattern in the years pre-and post-buyout." Hall points out that the study doesn't mention or show a J-curve and the results don't resemble a J-curve. The press release completely fails to mention that the results of the study indicate that employment 5 years after a PE-takeover is shown to be 10% lower. The press release states that "Firms backed by private equity have 6% more greenfield job creation than the control group two years after the buyout" - but fails to mention PE's 8.6% greater job destruction through closures! The spin doctors thus falsified the results of the study, and encouraged successive falsifications…beginning with the US Private Equity Council (PEC), which wrote in its own press release "The studies demonstrate that PE firms are job savers and job growers." The BBC took this to mean that "Companies bought by private equity firms do not destroy jobs on a large scale, a study suggests." The International Herald Tribune imaginatively opined that "Companies owned by private equity shed, on average, about one percentage point more jobs than their peers", while three days later quoted the PEC as quoting the report that private equity created 8.4% more jobs than other investors!

The study also found - despite the media reports - that PE-owned firms are twice as likely to go bankrupt as publicly held companies.The highest financial failure results were recorded by LBOs in the UK and USA.

Hall's conclusions? The WEF study "shows beyond doubt that the employment impact of PE takeovers is negative. It supports both the assertions and the critiques published by the unions. It contains further interesting data on PE effects, e.g. the doubling of uncertainty of employment."