Private equity
In the field of finance, private equity (PE) is capital stock in a private company that does not offer stock to the general public. Private equity is offered instead to specialized investment funds and limited partnerships that take an active role in the management and structuring of the companies. In casual usage, "private equity" can refer to these investment firms rather than the companies that they invest in.[1]
Private-equity capital is invested into a target company either by an investment management company (private equity firm), a venture capital fund, or an angel investor; each category of investor has specific financial goals, management preferences, and investment strategies for profiting from their investments. Each category of investor provides working capital to the target company to finance the expansion of the company with the development of new products and services, the restructuring of operations, management, and formal control and ownership of the company.[2]
As a financial product, the private-equity fund is a type of private capital for financing a long-term investment strategy in an illiquid business enterprise.[3] Since the 1980s, the financial press describe "private equity fund" investment as the superficial rebranding of investment management companies who specialized in the leveraged buyout of financially weak companies.[4]
In assessing the returns of private equity, scholars provide mixed assessments. Some find that private equity outperforms public equity while others find no evidence of overperformance.[5]
The typical structure / features of private-equity investment include:
Taxes[edit]
Income to private-equity firms is primarily in the form of "carried interest", typically 20% of the profits generated by investments made by the firm, and a "management fee", often 2% of the principal invested in the firm by the outside investors whose money the firm holds. As a result of a tax loophole enshrined in the U.S. tax code, carried interest that accrues to private equity firms is treated as capital gains, which is taxed at a lower rate than is ordinary income. Currently, the long term capital gains tax rate is 20% compared with the 37% top ordinary income tax rate for individuals. This loophole has been estimated to cost the government $130 billion over the next decade in unrealized revenue. Armies of corporate lobbyists and huge private equity industry donations to political campaigns in the United States have ensured that this powerful industry receives this favorable tax treatment by the government. Private equity firms retain close to 200 lobbyists and over the last decade have made almost $600 million in political campaign contributions.[134]
In addition, through an accounting maneuver called "fee waiver", private equity firms often also treat management fee income as capital gains. The U.S. Internal Revenue Service (IRS) lacks the manpower and the expertise that would be necessary to track compliance with even these already quite favorable legal requirements. In fact, the IRS conducts nearly no income tax audits of the industry. As a result of the complexity of the accounting that arises from the fact that most private equity firms are organized as large partnerships, such that the firm's profits are apportioned to each of the many partners, a number of private equity firms fail to comply with tax laws, according to industry whistleblowers.[134]
Debate[edit]
Recording private equity[edit]
There is a debate around the distinction between private equity and foreign direct investment (FDI), and whether to treat them separately. The difference is blurred on account of private equity not entering the country through the stock market. Private equity generally flows to unlisted firms and to firms where the percentage of shares is smaller than the promoter- or investor-held shares (also known as free-floating shares). The main point of contention is that FDI is used solely for production, whereas in the case of private equity the investor can reclaim their money after a revaluation period and make investments in other financial assets. At present, most countries report private equity as a part of FDI.[135]
Healthcare investments[edit]
Private-equity investments in health care and related services, such as nursing homes and hospitals, are alleged to have decreased the quality of care while driving up costs. Researchers at the Becker Friedman Institute of the University of Chicago found that private-equity ownership of nursing homes increased the short-term mortality of Medicare patients by 10%.[136] Treatment by private-equity owned health care providers tends to be associated with a higher rate of "surprise bills".[137] Private equity ownership of dermatology practices has led to pressure to increase profitability, concerns about up-charging and patient safety.[138][139]
Wealth capture[edit]
According to conservative Oren Cass, private equity captures wealth rather than creating it, and this capture can be "zero-sum, or even value-destroying, in aggregate." He describes "assets get shuffled and reshuffled, profits get made, but relatively little flows toward actual productive uses."[140]
Influence on inequality[edit]
Bloomberg Businessweek states that:
