Private equity rips off its investors, too
Remorseless, greedy scumbags are — unsurprisingly — also disloyal.
I’m coming to DEFCON! TOMORROW (Aug 9), I’m emceeing the EFF Poker Tournament (noon at the Horseshoe Poker Room), and appearing on the Bricked and Abandoned panel (5PM, LVCC — L1 — HW1–11–01). On SATURDAY (Aug 10), I’m giving a keynote called “Disenshittify or die! How hackers can seize the means of computation and build a new, good internet that is hardened against our asshole bosses’ insatiable horniness for enshittification” (noon, LVCC — L1 — HW1–11–01).
It’s amazing how many of the scams that have devastated our economy and everyday people owe their success to the fact that we assume that rich people know what they’re doing, so if they’re doing something, it must be real.
Think of how many people lost everything by gambling on junk bonds, exotic mortgage derivatives, cryptocurrency and web3, because they saw that the largest financial institutions in the world were going all-in on these weird, incomprehensible bets.
Then there are the people who are convinced that online advertising is built around a mind-control ray, because tech companies claim that’s what they have (“I am an evil dopamine-loop-hacking wizard and I can sell anything to anyone!”), and because huge, sober blue-chip companies hand billions to these soi dissant svengalis. Sure, online ads are a swamp of clickfraud and garbage, but would these super smart captains of industry spend so much on online advertising if it didn’t work super-well?
http://pluralistic.net/HowToDestroySurveillanceCapitalism
From our worms’-eye-view here on the ground, it’s easy to assume that rich people and the people who sell them stuff are all on the same side. “If you’re not paying for the product, you’re the product,” right? If Facebook is tormenting you with surveillance advertising, it must be doing so on behalf of the surveillance advertisers, for whom Mark Zuckerberg has bottomless reservoirs of honest, forthright impulses.
The reality is simultaneously weirder, and obvious in hindsight. The reason Zuck is tormenting you is that he’s a remorseless sociopath who doesn’t care who he hurts. He rips off everyone he can rip off, and that includes advertisers, who have seen steady price-hikes and lower-fidelity targeting, even as ad-fraud has skyrocketed while Facebook draws down its anti-fraud spending:
https://www.404media.co/where-facebooks-ai-slop-comes-from/
This is not to say that Facebook advertisers have your best interests at heart, that they aren’t engaged in active deception in order to better themselves at your expense. Rather, it’s to say that there’s no honor among thieves, and Zuck is an equal-opportunity predator. Moreover, both Zuck and his advertisers are credulous dolts, so the mere fact that they are pouring money into something (advertisers: FB ads; Zuck: metaverse) it doesn’t follow that these are real or important or the coming thing.
For me, the Ur-example of “rich people are dumb, even when it comes to money” is the private equity sector. I’ve written a lot about PE, and how destructive it is to the real economy, from Toys R Us to pet grooming:
https://pluralistic.net/2024/08/05/rugged-individuals/#misleading-by-analogy
How they killed Red Lobster:
https://pluralistic.net/2024/05/23/spineless/#invertebrates
And how they actually created the death panels that Sarah Palin warned us about (it’s OK, though: these death panels are run by the efficient private sector, not government bureaucrats):
https://pluralistic.net/2023/04/26/death-panels/#what-the-heck-is-going-on-with-CMS
The devastating effect of private equity on the real economy is increasingly well understood, and a curious side-effect of this is that people assume that if PE is destroying their lives, they must be doing so on behalf of their investors, who are making bank.
But — like Zuck — PE bosses are just as happy to steal from their investors as they are to to steal from the workers and customers of the businesses they acquire on those investors’ behalf. They swaddle this theft in performative complexity and specialized jargon, but when you strip all that away, you find more fraud.
All the misery that PE inflicts on workers, communities and customers are just a convincer in a Big Store con, a bid to make the scam seem credible. For a certain kind of investor, any economic activity that destroys communities and workers’ livelihoods must be a good bet. This is the dynamic at work in the pitch of AI image-generator companies, who spend tens of billions on technology that there is no substantial market for:
https://pluralistic.net/2024/07/25/accountability-sinks/#work-harder-not-smarter
AI image generators represent a high-profile, extremely visible example of “a job that AI can do.” Nevermind that AI illustration went from a novelty to a tired cliche in less than a year. Even if you think that AI illustrations are a perfect substitute for commercial illustrations, that still won’t come anywhere near making AI companies a profit. Add up the entire wage bill for every commercial illustrator in the world, hand it to Open AI, and you’re not even gonna cover the kombucha budget for Open AI’s staff kitchens.
Hell, all the wages of every commercial illustrator that ever lived won’t pay back even a fraction of the money the AI companies spent on image generators. The pauperization of an entire class of creative workers is just a canned demo, a way to fool investors into thinking that there is a whole universe of similarly situated workers whose wages can be diverted to AI companies. This is the logic of small-time spammers, scaled up to the scale of the entire S&P 500. Smalltime spammers looked at AI and thought, “OK, I can generate as much botshit as I want on demand for free. Science fiction magazines pay $0.10/word. So if I generate a billion words, I’ll get $100 million.” But that’s not how any of that works: sf magazines don’t buy botshit, and even if they did, the entire market for short fiction adds up to what Sam Altman spends on a single designer t-shirt. The point of destroying these beloved, useful things isn’t to make a lot of money by taking their markets — it’s to convince dopey, panicked rich people to give you lots of money you can steal, because they think you can do this to every market and they don’t want to miss out on the opportunity of a lifetime:
https://pluralistic.net/2024/01/15/passive-income-brainworms/#four-hour-work-week
Take “divi recaps”: after a private equity firm acquires a company (by borrowing money against its assets), it typically declares a “special dividend,” emptying out the company’s cash reserves and pocketing them. A “divi recap” is when PE then takes out another massive loan against the company’s (remaining) assets and pockets that:
https://pluralistic.net/2020/09/17/divi-recaps/#graebers-ghost
All of this happens under an opaque cloud, thanks to the light-to-nonexistent disclosure rules for PE. A public company has to open its books for the SEC, its investors, and the world. PE is private — and so are its finances. It is absolutely routine for PE bosses to put their spouses, kids, and pals on the payroll and hand them millions for doing little to nothing, all at the expense of their investors:
PE bosses charge huge fees to their investors — not merely the usual 2-and-20 (2% of the funds under management and 20% of any profits) — but also a wide variety of special one-off fees that pile to the sky. They also dip into their investors’ funds to issue themselves massive loans that they use to make side-bets, without telling the investors about it:
https://pluralistic.net/2022/02/10/monopoly-begets-monopoly/#gary-gensler
PE investors are chickens ripe for the plucking: take “continuation funds,” which allow PE bosses to soak the rich people and pension funds who supply them with billions:
Remember 2-and-20? 2% of all the money you manage, every year, and 20% of all the profits. You’d think that these would be somewhat zero sum, right? If you use some of your investors’ cash to buy a company, and then sell off that company for a profit, you get the 20%, but now the pot of money you’re managing has gone down by the amount you used to buy the company, and so your 2% carry goes down, too.
But what if you sell your portfolio companies to yourself, using your investors’ own money? When you do that, you continue to hold the company on your PE firm’s books, meaning you continue to get the 2% carry, and you can pocket 20% of the sale price as a “profit”:
https://pluralistic.net/2023/07/20/continuation-fraud/#buyout-groups
This is straight-up fraud, wrapped up in so much jargon that it can successfully masquerade as “financial engineering” (“financial engineering” is really just a euphemism for “fraud”). PE bosses keep coming up with new, exotic ways to steal from their investors. The latest scam is “tax receivable agreements”:
On its face, this is a tax scam. When a company goes public, early investors generally hold stock in the original partnership or LLC; this company ends up holding a ton of shares in the new, public company. When they sell those non-public shares in the LLC, this creates a (potentially gigantic) tax credit.
A TRA hustle involves tracking down these LLC shareholders and convincing them to sign off on dumping the LLC’s shares, which generates a huge tax credit for the public company. The hustler offers to split these credits with the LLC holders.
All of this is especially attractive to PE bosses, who often take a company private, do a bunch of “financial engineering” and then take it public again, leaving the PE firm as the owner of those LLC shares that can be converted to a TRA and a huge windfall — which the PE bosses pocket, because they (not their investors) are holding those credits.
This scam is really doing big numbers. KKR — the monsters who killed Toys R Us — just diverted $650 million in TRA loot, prompting a lawsuit from Steamfitters union pension fund, which had handed these jerks millions of its members’ money to gamble with:
This highlights another very weird aspect of the PE scam: they are absolutely dependent on pension funds. To add insult to injury, PE funds are notorious union-busters — they use union money to buy companies and destroy their unions:
https://pluralistic.net/2023/10/05/mr-gotcha/#no-ethical-consumption-under-capitalism
People who try to understand the PE business model often give up, because it seems to make no sense, leading many to assume that they’re too unsophisticated to grasp the complex financials here. For example, PE is absolutely dependent on massive loans as a way of looting its businesses, but it also often defaults on those loans. Why do banks and investors keep making huge loans to PE deadbeats? Because — like the PE fund investors — they are credulous dolts.
The reason PE seems like a scam is that it is a scam. It is a fractal scam — every part of it is a scam. You might have heard about the “carried interest” tax loophole that allows PE bosses to avoid billions in taxes on the money they steal from their investors, creditors, workers and customers. Most people assume “carried interest” has something to do with “interest” on a loan. Nope: “carried interest” is a 16th century nautical tax rule designed for mercantalist sea-captains who had an “interest” in the cargo they “carried”:
https://pluralistic.net/2021/04/29/writers-must-be-paid/#carried-interest
But rich people and other “sophisticated investors” (like pension fund investment managers) are no smarter than the rest of us. They are herd animals. When they see other rich people piling into some scheme or asset class, they rush to join them, which makes the asset price go up, which makes them think they’re smart (until the inevitable rug-pull). When one plute jumps off the Empire State Building, the rest of them jump, too.
Which is why there’s more money flooding into PE than at any time in history, $2.62T in “dry powder,” handed over to greedy, thieving PE bosses in a poker game where everyone is the sucker at the table:
