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Elizabeth Warren, in detailed attack on private equity, unveils plan to stop ‘looting’ of U.S. companies

Sen. Elizabeth Warren (D-Mass.) speaks during a Senate Armed Services Committee confirmation hearing for secretary of defense nominee Mark Esper on July 16. (Sarah Silbiger/Bloomberg News)

Sen. Elizabeth Warren (D-Mass.) on Thursday released a plan to attack some of the most controversial methods of private equity firms, the financiers who buy and sell companies for profit.

The plan from the 2020 Democratic presidential contender would take several significant steps to rein in the industry, including measures to block the private equity firms from stripping cash, real estate and other assets from the companies they take over.

Most critically, however, the plan would hold private equity firms responsible for the large debts that they use to buy companies. These debts, a hallmark of private equity investment, typically wind up as a burden to the targeted company, not the private equity firm, and have precipitated many bankruptcies.

Private equity firms invest a half-trillion dollars in U.S. companies every year, according to the American Investment Council, but their role in the U.S. economy has drawn increasing resentment from economic populists.

The role of private of equity in the companies they control is often invisible to consumers and workers, but their big profits and their participation in the bankruptcies of major U.S. companies such as Toys R Us, the HCR ManorCare nursing home empire, Friendly’s restaurants — and many others — have highlighted their importance.

“For far too long, Washington has looked the other way while private equity firms take over companies, load them with debt, strip them of their wealth, and walk away scot-free — leaving workers, consumers, and whole communities to pick up the pieces, ” Warren said in a statement announcing the proposal, which is also a bill that has the support of a number of other Democratic lawmakers in the House and Senate.

The plan is Warren’s latest effort to make the U.S. economy fairer, but it will also draw pushback from industry boosters, who say such proposals would stifle investments that have made the economy more productive and prosperous.

Private equity firms make money by pooling from investors, then buying companies, revamping them and selling at a profit. Their advocates say that private equity managers make the businesses more efficient and spur growth. Moreover, the profits private equity firms make are shared with their investors, and while some investors are wealthy financial firms or individuals, some are worker pension funds.

“Private equity is an engine for American growth and innovation — especially in Senator Warren’s home state of Massachusetts,” said Drew Maloney, president and CEO of the American Investment Council. “Extreme political plans only hurt workers, investment, and our economy.”

Others, however, have called private equity investment “capitalism on steroids” and say it distorts normal economic incentives.

Private equity methods are typically geared toward generating returns for investors within a matter of years and critics say that as a result they too often merely plunder a company’s assets while neglecting its employees, customers and long-term prospects.

Moreover, one of the curiosities of private equity investment is that a firm can make money even when it drives a company it has purchased into bankruptcy.

The Warren proposal takes aim at several methods that private equity firms commonly use to take money out of the companies they purchase.

For example, private equity firms often sell off a company’s real estate — and then lease it back from the new owners. While this may seem an odd maneuver, the practice allows the private equity firm to distribute a quick real estate profit to their investors. The Warren proposal would block such a maneuver for the first two years after a company is purchased.

Another piece of the legislation would essentially block companies from taking “monitoring fees” or “transaction fees” out of the companies they buy. These fees simply force companies to turn over money to the private equity firms.

Finally, what may be the most critical piece of the proposal would rein in one of private equity’s characteristic methods of investment: They use a lot of debt to buy companies. That debt often becomes a burden to the company and has played a key role in many bankruptcies. The proposal would make the use of debt far less attractive for private equity firms because it would hold the private equity firms — and not just the company — responsible for its repayment.

“Private equity firms have been playing with other people’s money,” said Eileen Appelbaum, senior economist at the Center for Economic and Policy Research, whose research helped shape Warren’s proposal. Forcing the private equity firms to repay those debts is “the really big thing in this bill.”