January 12, 2012

For Mitt Romney, it’s the best of times and the worst of times. While his New Hampshire win brings him closer to the Republican nomination, his campaign narrative against President Obama may be unraveling. The plot is simple: With a comatose economy and stubbornly high unemployment, Romney’s private-sector experience makes him a better job creator than Obama. There are problems. Not only does the economy seem to be strengthening, but Romney’s business background is being turned against him. By Republicans, no less.

We understand the achievements of Bill Gates and Steve Jobs. They created enterprises that employ thousands and sell to millions. But private equity, Romney’s specialty? That’s more complex and confusing. Texas Gov. Rick Perry calls Romney a “vulture capitalist.” Former Utah governor Jon Huntsman says Romney “enjoys firing people.” Is Romney’s business experience a virtue or a vice?

Private equity refers to groups of investors buying the stock of an existing company, thereby “taking it private.” Because most purchases use borrowed money (“leverage”), these transactions are known as “leveraged buyouts.” Once the investor group has control, it tries to improve profitability by lowering costs and increasing sales. The hope is to resell the business at a huge gain; this usually takes three to 10 years. In 2010, private-equity firms invested $148 billion in 1,234 U.S. companies, says the Private Equity Growth Capital Council.

Private equity has spawned fabulous fortunes. Steve Schwarzman, a founder of the private-equity firm Blackstone, is listed at 66 on the Forbes list of the 400 wealthiest Americans, with a net worth of $4.7 billion. Henry Kravis and George Roberts, founders of KKR, are at 86 and 96 with $3.7 billion and $3.4 billion, respectively.

To supporters, private equity revitalizes companies by changing entrenched management, streamlining operations and jettisoning poorly performing products and plants. Detractors contend that gains arise from firing workers and overloading companies with debt. There have been some spectacular successes. An example is Dunkin’ Brands (Dunkin’ Donuts and Baskin-Robbins). Three private-equity firms bought it in 2006. Since then, it’s opened 1,600 U.S. outlets with an estimated 44,000 jobs.

But success is hardly guaranteed, as Romney’s experience shows. He headed Bain Capital from 1984 to 1999. A Wall Street Journal examination of 77 Bain investments under his leadership concluded that, although the group of companies was collectively highly profitable, 22 percent of them ultimately closed or filed for bankruptcy. Romney has said that Bain helped start or expand Staples, the Sports Authority, Domino’s and others, creating 100,000 jobs in the process. The Washington Post’s Fact Checker column disputes that figure, which is hard to verify or debunk.

The larger truth is that private equity doesn’t consciously strive to create jobs. The main aim is to improve a company’s profits and resale value.

But it’s also true that employment practices at companies backed by private equity don’t differ dramatically from other similar non-private-equity-owned companies. A study by five economists compared job changes at 3,200 private-equity-controlled companies from 1980 to 2003 with similar non-buyout companies. For the buyout firms, jobs fell about 1.8 percent over their first two years; for the non-buyout firms, there was a slight increase of 0.4 percent during the same period.

What’s instructive is that, in both cases, total job gains and losses dwarfed the net change. In the two years, private-equity-owned firms created new jobs equal to about a fifth of their workforces — and destroyed old jobs, often at closed locations, in similar numbers. For the non-private-equity controlled firms, the comparable proportion was about one-sixth. Job turnover is routinely high, but private-equity-controlled firms are quicker at “shrinking underperforming facilities and expanding productive and profitable facilities,” says University of Chicago economist Steven Davis, one of the study’s authors. These firms also had greater gains in efficiency, he says.

Compared with Obama, Romney better understands — and identifies with — business. Obama’s relationship is superficial and self-serving. He praises or condemns firms depending on his political need.

Indeed, Romney’s private-equity exposure probably gives him a better grasp of a broader array of industries than, say, a Bill Gates, whose success stems from one industry. But whether this becomes a political advantage is unclear.

It’s not just that a president’s job extends beyond bolstering business. Romney belongs to the class of the super-rich, and private equity — whatever its value — benefits from unjustifiably low taxes. Romney can easily be typecast as a coldblooded, numbers-crunching “Wall Street type” disconnected from most Americans’ hopes and frustrations.

That his Republican rivals, of all people, have brought this charge is actually an unintended gift. If Romney becomes the nominee, Democrats will escalate the assault. Romney now has the chance to defuse these attacks — or show that he can’t. Defending his economic views in today’s anti-Wall Street climate will test his political skills as little else.