Stewardship

The Obama campaign is going after Romney’s qualification as a businessman, portraying his career at Bain as heartless looting, extracting wealth like pensions and health care from blue-collar workers rather than creating value and sharing.  The new video is posted here (at the end of the story text), and it’s pretty heartrending.   It also suggests (visually only) another line of attack:  Romney may have hosed off the dog and the car, but he doesn’t clean up after himself, like the rich people in The Great Gatsby who create chaos and then retreat behind their wealth leaving a mess behind for others. Or like W’s Iraq, and US economy, after he and his pals finished trampling around in them.

Bain bought a steel mill, not a thing of beauty but something that worked and made stuff.  After they turned it off and put its people on the street, they left behind a landscape that looks like something Bashar Al Assad’s artillery worked over. Not a park, not a cleaned-up site for new enterprise, not some tidy piles of parts and materials for recycling:  a field of wreckage, decay and almost certainly lots of ground contamination with nasty stuff.  The video lingers on the broken fences, rusting gates, and askew signs Bain left behind to face the street and the neighbors; it’s an honest picture of what they did to the workers and the company, but can anyone be proud to turn a factory into a junkyard?

Perhaps this is a liability of being raised by a family with servants, but I know lots of former rich kids, now rich grownups, who don’t leave dirty dishes and piles of socks about for others to deal with. They either hire people to wash up, or they deal with their own coffee mugs in the office kitchen; they don’t just leave  a trail of messes.

No class, Mr. Romney.

Author: Michael O'Hare

Professor of Public Policy at the Goldman School of Public Policy, University of California, Berkeley, Michael O'Hare was raised in New York City and trained at Harvard as an architect and structural engineer. Diverted from an honest career designing buildings by the offer of a job in which he could think about anything he wanted to and spend his time with very smart and curious young people, he fell among economists and such like, and continues to benefit from their generosity with on-the-job social science training. He has followed the process and principles of design into "nonphysical environments" such as production processes in organizations, regulation, and information management and published a variety of research in environmental policy, government policy towards the arts, and management, with special interests in energy, facility siting, information and perceptions in public choice and work environments, and policy design. His current research is focused on transportation biofuels and their effects on global land use, food security, and international trade; regulatory policy in the face of scientific uncertainty; and, after a three-decade hiatus, on NIMBY conflicts afflicting high speed rail right-of-way and nuclear waste disposal sites. He is also a regular writer on pedagogy, especially teaching in professional education, and co-edited the "Curriculum and Case Notes" section of the Journal of Policy Analysis and Management. Between faculty appointments at the MIT Department of Urban Studies and Planning and the John F. Kennedy School of Government at Harvard, he was director of policy analysis at the Massachusetts Executive Office of Environmental Affairs. He has had visiting appointments at Università Bocconi in Milan and the National University of Singapore and teaches regularly in the Goldman School's executive (mid-career) programs. At GSPP, O'Hare has taught a studio course in Program and Policy Design, Arts and Cultural Policy, Public Management, the pedagogy course for graduate student instructors, Quantitative Methods, Environmental Policy, and the introduction to public policy for its undergraduate minor, which he supervises. Generally, he considers himself the school's resident expert in any subject in which there is no such thing as real expertise (a recent project concerned the governance and design of California county fairs), but is secure in the distinction of being the only faculty member with a metal lathe in his basement and a 4×5 Ebony view camera. At the moment, he would rather be making something with his hands than writing this blurb.

26 thoughts on “Stewardship”

  1. Powerful stuff. As I’ve said before, Romney reminds me of a hybrid of Ward Cleaver, Gordon Gekko, and the Winkelvoss Twins.

  2. As I’ve said in a previous comment section, the idea of bankruptcy only works when it is a catastrophic event for those who enter it. We release them from their debts because they’ve been wiped out.

    Limited liability and corporate personhood challenges this, but generally not in a way that breaks the system. Usually those stakeholders who are involved in decision making are sufficiently invested in the company that bankruptcy really hurts and so it provides a disincentive.

    A private equity fund is one of the mechanisms that does break the system. Because it has spread its investments around, Bain doesn’t see bankruptcy as a catastrophic event. It’s just the price of doing business. Moreover, it’s an expense that’s capped at the level of the equity investment.

    Even if we set aside the question of whether or not a private equity firm finds a way to profit directly on a deal that involves bankruptcy, the option is a tremendous aid in making money overall. The profits they make on a successful turn around are not capped. Every extra dollar of profit flows to the firm, less its marginal tax rate.

    This is not the case on the downside. Since Bain’s liability is capped, that derelict factory becomes someone else’s problem once the steel company goes belly up. If there are not enough assets inside that company to pay for a cleanup, Bain gets to wash its hands and dump the wreckage into the community’s lap.

    Bain doesn’t mind so much. With the way they have their deals structured, they only need a minority of them to work out to clear a large profit on the whole operation. They’re in the risk taking business (again setting aside the question of fee extraction) and it’s just a question of expected returns averaged over a lot of investments. As you have more of them, the variance of the outcomes starts to matter a lot less than if you only have one or two. No bankruptcy can cause Bain to lose enough money for it to really hurt.

    So they have effectively gamed the system. This sort of approach perverts the reasons why we have limited liability and bankruptcy.

    1. There is almost nothing in your comment that doesn’t apply equally to investors in publicly owned firms (like for example, every single private and public pension fund, mutual fund, non-profit organization endowment, etc.).

      They too have unlimited upside but capped downside (people who bought Apple stock in 2001 have done quite well for themselves relative to their downside risk). They too are not overly exposed to the failure of a single business (a typical mutual fund holds shares in lots of companies that go under in any given 3 year period). They too are not on the hook for cleanup and beautification costs when a holding of theirs shuts down a plant*.

      *Its easy enough for communities to pass laws requiring that any industrial facility that locates in their jurisdiction would be required to set aside funds for site cleanup in the event of a shutdown. The fact that this isn’t common should probably tell you something about the ultimate appetite for jobs-producing investment vs. pretty vistas.

      1. You are ignoring an important distinction between private equity firms and mutual funds: mutual funds do not set out to own and restructure businesses. They take an equity position, but do not typically try to control the business.

        So, call me when mutual funds start playing Mitt’s so-called creative destruction game.

        It is true (and disturbing to me as a vested member of a public pension fund) that pension funds generally (and public funds particularly) are big players with the private equity firms. In the case of my pension fund, Bain is one we play with. I was not aware of this until recently. I am not especially happy about it today. Investment with private equity firms is one of the ways pension funds are trying to get their annualized rate of return into the 7.5% range. High rates of return is one of the ways pension funds are using to reduce their actuarial liability (or increase their funding life, it amounts to the same thing) to an acceptable level.

        This bothers, but it’s not particularly clear what I can do about it, except to make my displeasure known to the Board of Trustees. I have done this, and the response was, “Are you ready for your contribution to go to 20%?”

        1. “You are ignoring an important distinction between private equity firms and mutual funds: mutual funds do not set out to own and restructure businesses. They take an equity position, but do not typically try to control the business. So, call me when mutual funds start playing Mitt’s so-called creative destruction game.”

          It certainly is true that concentrated ownership (as is typical in private equity owned companies and atypical in public companies) allows for faster and more direct control, but one would have to be hopelessly naive to think that those public equity mutual funds, pension funds, etc. don’t exert enormous indirect pressure on their holdings. When a company does things that maximize free cash flow to shareholders, public equity funds drive the price of the shares up, which richly rewards senior management. When a company does things that inhibit free cash flow, those same funds drive the price of shares down, which punishes senior management and (if continued over extended periods of time) generally causes the Board to consider firing management. And the things that maximize free cash flow are the same for publicly and privately held companies. Which is of course why plenty of publicly traded companies fire workers, under-fund pension plans, dump toxins in rivers and make stupid investment decisions. But of course plenty of them also hire workers, create wealth and opportunity, fund socially beneficial R&D and make super smart investment decisions. You takes the good with the bad, as it were. Same with private companies.

          Again, the control/pressure is more direct and immediate with private equity owners. But its hardly a point in favor of the inherent social utility of public ownership that it slows down and complicates corporate governance.

          “This bothers, but it’s not particularly clear what I can do about it, except to make my displeasure known to the Board of Trustees. I have done this, and the response was, “Are you ready for your contribution to go to 20%?””

          It seems you want to retire with many years left in your life, have a comfortable income throughout your retired years, contribute less rtaher than more to the funding of that income, and only invest in assets that you don;t find distasteful. Bully for you, but wishing won;t make it so.

      2. You are correct. It is a more widespread problem than just private equity firms. That’s why I use words like “generally” and one of the mechanisms.” However, all of these exist on a continuum, and mutual funds, in practice, aren’t nearly as problematic as private equity firms. Much of that is due to the amount of control each has. A private equity firm usually owns a high percentage of the equity, if not an outright majority. That gives it a level of decision making power that mutual funds just don’t have.

        But, yes, it is generally a problem when you have unlimited upside but the downside is capped artificially. Sometimes, it’s worth paying that price to gain other benefits. Other times it’s not. With private equity firms, I come down on the side of it not being worth it. I have not spent enough time thinking about it to know if there is a solution to the problem that would confine its effects to just the instances where the drawbacks of bankruptcy outweigh the benefits. However, that shouldn’t stop us from recognizing private equity firms as being parasites that take advantage of a public subsidy and it shouldn’t prevent us from calling those who run private equity firms who do this exactly what they are.

  3. What the hell? You’re now attacking Romney because an industrial site looks ugly 11 years* after it was shut down? This is a business that was running an antiquated, high cost blast furnace physical plant**, hence its inability to compete with lower cost imported steel and steel from more modern US-based electric furnace “Mini Mills” as that product started flooding the market in the 1990s. As I drive past Gary, Indiana (which I do a few times a year) I can easily see plenty of abandoned industrial sites, many of them steel mills that ran the same kind of blast furnace production processes as did GST Steel. They ain’t pretty. And most of them were run and eventually shuttered in the heydey of mid-century capitalism, when unions were strong and large companies were almost always publicly listed. It turns out that the making of stuff leaves landscapes slightly less physically appealing than say, Westwood. Ever been to Flint? Detroit? The big auto companies that administration supporters seem so fond of these days aren’t exactly in the habit of planting fields of lavender and honeysuckle when they shut down a plant.

    *As was pointed out when Rick Perry first started running ads featuring this particular company, GST Steel went bankrupt and was closed down in 2001, 2 years AFTER Mitt Romney left Bain Capital. The business itself was in distress when it was bought by Bain Capital, and was re-structured and combined with other businesses multiple times during the time that it was owned by them. Which would be logical if Bain Capital were trying to figure out a way to make a going concern of it, but not if the plan were to strip it out going in. Indeed, while Bain Capital did indeed make money on the deal, it would have been made much MORE had they been able to figure out a way to keep it in business and turn it around. The fact that they were unable to do so could mean that it was un-savable, or that the Bain Capital team simply failed (a question which I have no faith in the ability of the peanut gallery here to answer). But I’m confident that it wasn’t from a lack of trying. If there would have been another “owner,” public or private, willing to pay for the equity in the business in 2001 then ‘Dem Greedy Bastards at Bain Capital would have been more than happy to sell their stake. However just as cardiologists sometimes have patients die of heart disease, sometimes private equity funds that occasionally buy distressed asset see those assets evaporate.

    **Anyone care to guess how many small scale steel mills utilizing the same blast furnace technology as was in use at GST Steel (as opposed to larger scale blast furnace mills with greater fixed cost leverage or small mills using electric furnace technology) are still operating in the United State today? Yes indeed.

    1. I’ll partially agree with sd here. However, there is no reason to believe that Bain was trying to make a going concern of GST, or any of their victims–oops, I mean portfolio companies. Bain was in the business of buying cheap and selling dear. To do this, they were slimy at both the purchase end and at the sale end. Their purchasing strategy involved negotiating a price and then chiselling it down after the documents were signed–Mitt was a master at this. The slime at the sale end usually involved various forms of financial engineering that made the firms look real purty on their financials, but often did nothing for the firm. Hence, the large numbers of porfolio companies that went broke after they were sold. This requires dumb investors–but what’s new? Maybe no investor was dumb enough to take on GST.

      (If you believe that investors have half a brain, talk to the folk at Costco. They can show you all the numbers in the world that show they are at least as profitable as their peers despite paying a decent wage–lost shrinkage and increased productivity. But investors’ lizard brains go: “Ugh! Screwing line employees good!” “Grunt! US managers are the best in the world because they are paid the most!”)

      1. “To do this, they were slimy at both the purchase end and at the sale end. Their purchasing strategy involved negotiating a price and then chiselling it down after the documents were signed–Mitt was a master at this.”

        Do you have a source for this other than a single NYT article from a few months back (endlessly passed around on the internets), by a disgruntled former sell side banker who was angry that Bain Capital called his bullshit too many times on bad assets he was peddling? Because the “evidence” typically cited for this point has been excepted without the least bit of critical thinking by people who are desperate to find more things they can not like about Mitt Romney.

        The idea that its somehow “slimy” to lower a bid price after gaining access to more detailed data about a company and finding out that the snake-oil peddling sell-side investment bankers “marketing” the deal have papered over flaws in the business through gimmicking accounting is laughable. There are a lot of things that a reasonable person can criticize Bain Capital for but this ain;t one of them. In fact, this was arguably a public service.

        “The slime at the sale end usually involved various forms of financial engineering that made the firms look real purty on their financials, but often did nothing for the firm. Hence, the large numbers of porfolio companies that went broke after they were sold. This requires dumb investors–but what’s new? Maybe no investor was dumb enough to take on GST.”

        The exit events for private equity holdings are almost always an IPO or a sale to another PE fund. In both cases a fund that routinely packaged up shitty businesses with deceptive accounting would find the market for its assets considerably depressed. PE funds in particular apply enormous scrutiny to businesses before they buy them (weeks if not months of in-depth due diligence assisted by hired legal, accounting, market research and consulting professionals with zero incentive to issue a rosy opinion where the reality is otherwise) and no fund that I’m aware of shys away from businesses being offered for sale by Bain Capital one little bit.

        It is simply not factually accurate to say that “large numbers of (Bain Capital portfolio companies… wennt broke after they were sold.” Bain Capital has invested in dozens of companies since its inception. The vast majority have been successful investments and the relevant companies are still strong, healthy businesses. A few high profile blow-ups have attracted a ton of press attention since Mitt Romney entered politics. But I don;pt know how you could invest in dozens of companies, often pursuing assets with considerable financial or operating distress, and not lose a few patients on the operating table.

        1. It is slimy to make a business practice of overbidding for assets, secure in the knowledge that you are going to knock the price down after the ink is dry. And that’s what the Times article was alleging, not that Bain was “surprised” by the new information. You’re painting Bain as virgins who believe whatever a sell-side banker tells them. I doubt it.

          It’s really no different than the asshole who comes to a real estate closing with a check for 90% of the negotiated purchase price, saying “take it or leave it.”

          1. But in these situations the ink isn’t dry. The NYT article in question referred to Bain’s activities in the Letter-of-Intent period. An LOI is just that a letter of “intent,” not “commitment.” They are always worded such that the intent is dependent on the uncovering of no further material adverse information, as the putative buyer has access to a much greater level of detail on the company’s performance, assets and liabilities after signing an LOI.

            Every single savvy buyer scrutinizes assets more closely in the LOI period and knocks down their bid price if they find flaws that were not apparent in the initial due diligence period when they had access to a much less extensive set of company data. To the extent that Bain Capital drove to greater spreads between their initial and final bid prices (which is an assertion to which no actual data has been provided, BTW) it is likely because they asked deeper, more probing and more detailed questions in the LOI period. Which is exactly what you would expect of a firm whose value proposition was not that they employed a bunch of ex-bankers with world class financial engineering skills but that they employed a bunch of ex-consultants with world class root-cause analysis skills.

            Again, if Bain Capital were systematically engaging in unscrupulous tactics then they quickly would have found that they received fewer pitchbooks, got invited to fewer management presentations, got access to company management in the pre-LOI period less frequently and had their initial pre-LOI bids advised against by sell-side bankers. All of which would have dried up their deal flow. Sell-side bankers may be oily, but they’re certainly not stupid. The fact that none of this ever happened suggests that the NYT piece in question was a distortive hit job by an ex-banker who found that his own schemes were not as lucrative in a world in which buyers were starting to ask hard questions.

            It’s not a situation of coming to a closing with a check for 90% of the negotiated purchase price. It’s a situation of knocking your purchase price down 10% when the house inspection uncovers water damage in the basement, a leak in the roof, mold in the bathroom and out-of-code wiring on a bunch of DIY projects (none of which, wonder-of-wonders, was referenced in the listing agent’s glossy brochure).

    2. Yes, I am. You think 11 years is not nearly enough time to clean up their dreck? I’m happy for others equally irresponsible to accept blame for landscapes that you smirkingly call “slightly less physically appealing than, say, Westwood”, and I don’t concede an ounce of justification for this disgusting behavior to your correct observation that it’s widespread. I have no problem with creative destruction whereby resources are redirected to more productive uses, and I’m happy the old steel industry is no longer schmutzing its company towns. It doesn’t “turn out that” industry necessarily leaves wastelands, though, any more than wood products just naturally make deserts out of forests, or that sports just naturally leaves brain-damaged retired players. Bain bought an enterprise, and among the moral and reasonable liabilities of that enterprise were the pensions it had contracted with its workers and restoration of its land to usable, decent conditions. Nice to buy a business whose assets and liabilities together can make money for you, but how much nicer for you to just shed the latter. Do you skip out on restaurant tabs whenever you can get away with it because you can make it “turn out that” your dinner makes unpaid waitstaff?

    3. In a way, your comments are beside the point. The video piece and O’Hare’s commentary on it have to do with Romney’s fitness to be a leader of an entire nation–to in essence feel empathy for the people of the nation we are entrusting him to lead. It’s not a commentary on whether steel was a growth industry in the 1990s. In fact, your response demonstrates some of the bottom line, dollars-only thinking that Romney is accused of.

      While at Bain Capital (and, oh, at Cranbrook Academy) Romney showed a basic insensitivity to the lives of real people. As with many finance geeks, he had a slightly sociopathic streak, privileging his investors over the health and livelihood of companies he gutted and their employees. I’d argue that fundamentally Romney has a mindset of people as blips or numbers on a spreadsheet. He seems America as an “optimizable” business–fire a few people here, gut a few agencies there, send in the wrecking crew, and reap the profits. But countries don’t work that way.

      Even Reagan, the great saint of the conservative right, had a populist touch. Romney, on the other hand, has $600,000 dressage horses and an awkward manner.

    4. All your argument proves is that we need to change our laws so people can’t get away with this anymore. Aren’t conservatives the ones always telling the rest of us that there’s no free lunch?

  4. The problem is that this line of attack would logically lead to opposition to capitalism as such. The reason that Bain was able to make money by shutting down the steel mill is that marginal revenue was not enough to meet marginal cost (including cost of capital). We could decide that we are going to sustain declining industries anyway, but if that was a blanket rule you would quickly have the Brezhnevite Soviet Union. If it’s not a blanket rule, then it requires government action and tradeoffs have to be made somewhere. Yes, democratic governments keep industries going for decades for social reasons, but a price has to be paid. In any event, there is no reason that private sector actors should be demonized for not being subsidizing social-democratic governments.

      1. I see you say, “I have no problem with creative destruction whereby resources are redirected to more productive uses, and I’m happy the old steel industry is no longer schmutzing its company towns. ” Maybe you should take that up with the makers of the ad, then, because the whole point seems to be that it is wrong to make a profit by shutting down a steel mill. Of course, they don’t really endorse the logic of that position, but politics is politics.

        1. It may not be wrong to make a profit shutting down a steel mill. What may be wrong however, or at least suspect, is running for president and trying to convey empathy for the American people when you built your fortune screwing them over–firing them, wrecking their pensions, etc.

        2. It’s wrong to make a profit by shutting down a steel mill, *depriving the workers of their contracted pensions*, and *leaving a mess behind*. Cleaning up after yourself is a kindergarten lesson, and this kind of abuse-of-externalities gives capitalism a bad smell.

    1. The reason that Bain was able to make money by shutting down the steel mill is that marginal revenue was not enough to meet marginal cost (including cost of capital).

      I don’t understand this argument. I understand that businesses that are unprofitable are often best shut down. But usually the buyer of a business that gets shut down that way normally loses money, rather than making a bundle. The exception might be some hidden asset – a patent, real estate value, etc., – but that doesn’t seem to have been the case here. What’s bizarre is buying a business, having it go broke, and having the investors walk away with big gains.

      I’m no big PE guy, but I have a bit of experience in this sort of thing, and the particular sequence of events here smells.

  5. Sadly, lots of companies leave messes behind when they go belly-up. That’s why we have brownsfield programs and such. Would I prefer that Bain had cleaned up this site? Yes, obviously.

    To be fair, however, the mess and any significant contamination would almost entirely pre-date Bain’s involvement. If had never been a Bain, the mess would still be there.

    1. Well, not exactly. If we had our act together, either corporations would save for pollution cleanup as they go, or not pollute in the first place. Thus, there should not have been a huge mess left behind for/by Bain. It is no different from when they do clawbacks in bankruptcy court — if people took profits out of a corporation that left a big pile of pollution for the rest of us to clean, this money should be retrieved from the owners.

  6. Byomtov above hit on the crux of the problem: our economic/financial system went awry at the moment that it became profitable to destroy a company, its employees and sell off its remains. Obviously, this is legal under US law, but that doesn’t make it ethical. In the old days, if you bought something, you were obliged to make it work, to invest in it, and to clean up your messes. But with the rise of private equity and hedging, smart but fundamentally unethical people can profit enormously off of destroying things.

    1. This had to have been legal and profitable in 1990. That’s when Julia Roberts hooked up with Richard Gere. So our economic system was awry throughout the Bush I and Clinton years?

      1. I was saying that this has been a problem in general and for all time, even pre-1990.

        The very act of hedging and most of private equity strikes me as highly ethically suspect. But whatever. Our country’s about making money, right? Free reign of capitalism and all that, at any human cost. Ayn Rand forever, etc etc.

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