Retail’s Biggest Existential Threat Is Private Equity

A “bust out” is a fraud tactic used in the organized crime world wherein a business’s assets and lines of credit are exploited and exhausted to the point of bankruptcy — Wikipedia.

By John E. McNellis, Principal at McNellis Partners,and cross posted from WOLF STREET:

Bleeding badly, Debenhams, a 200 year old British department store chain, died last week. The coroner trotted out the usual suspects — the internet, the oversupply of retail, rising rents, tighter margins and, at the end of the dreary line-up, private equity. As it happens, Debenhams had been purchased by a private equity consortium led by Texas Pacific Group (TPG) in 2003.

That group paid £1.8 billion for the company, using £600 million in equity and £1.2 billion in debt it forced Debenhams to assume. The private equiteers promptly began selling off assets, dramatically cutting costs (store refurbishments dropped 77%) and awarding themselves large dividends for their efforts. And, no surprise, consumers lost interest in the fraying stores.

Since I first wrote about private equity’s looting and ultimate devastation of Mervyn’s (“On Private Equity and Real Estate” September 2012, behind paywall), retailer after retailer has been similarly gutted. Payless ShoesToys ‘R’ UsGymboreeSears HoldingMattress Firm and Radio Shack — all companies at one point owned or controlled by private equity firms — have since filed Chapter 11. In fact, Debtwire, a financial news service, calculates that about forty percent of all US retail bankruptcies in the last three years were private equity backed.

How do the private equiteers do it? Simple, the leveraged buyout. The LBO is the financial world’s pick and roll, that is, a highly effective play that is difficult to counter, especially if the PE firm takes the prudent first step of bribing its intended victim’s CEO into going along with their acquisition

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