Mitt Romney ran on his record as a businessman. But over the summer, when bloggers and journalists started taking a closer look at that record, they shined some light into the shadows of the private equity industry.
The companies’ names change, but the sequence of events is basically the same:
- Rolling Stone writer Matt Taibbi: “Bain put up a mere $18 million to acquire KB Toys … Less than a year and a half after the purchase, Bain decided to give itself a gift known as a ‘dividend recapitalization.’ The firm induced KB Toys to redeem $121 million in stock and take out more than $66 million in bank loans – $83 million of which went directly into the pockets of Bain’s owners and investors, including Romney. ‘The dividend recap is like borrowing someone else’s credit card to take out a cash advance, and then leaving them to pay it off.’ “
- Pensions and Investments writer Aaron Elstein: Hospital operator HCA borrowed $2.5 billion in October to help finance a $1.2 billion dividend payout, 40% of which went into the pockets of private equity owners Bain Capital and KKR & Co.
- Bloomberg News blogger William Cohan: “Welcome to Mitt Romney’s America. This is the true story of how in October 1993 buyout firm Bain Capital LLC, which Romney founded and ran from 1984 to (roughly) 1999, and its partners bought a steel mill in Kansas City, Missouri, from Armco Steel Corp. for $75 million, merged it with other steel companies, loaded it with too much debt, paid themselves big dividends and ran the company into the ground.”
- San Diego Free Press writer John Lawrence: “In 1994, Bain bought medical equipment manufacturer Baxter International. After a merger with another company, it became known as Dade Behring. Bain froze the workers’ pension benefits … it used the projected savings as the basis to borrow $421 million… Dade paid Bain and its partner, Goldman Sachs, the entire amount as a dividend. … Bain and Goldman had only put down $81 million to buy the company in the first place. Yet, in June 1999 they received $365 million from the dividend—a gain of 4.3 times their initial investment.”
- Forbes Blogger Peter Cohan: “Consider Bain Capital’s Thomas Lee Partners’ $26 billion acquisition of Clear Channel Communications — home of Rush Limbaugh … This takeover has turned a company that formerly earned net income of nearly $1 billion into a money-loser (almost $4.7 billion in cumulative losses), resulted in thousands of layoffs, extracted millions in fixed management fees, and recently resulted in a multi-billion special dividend for the two PE owners paid for by highly risky borrowing.”
- David Stockman, Former Budget Director for President Ronald Reagan: American Pad and Paper was a 20-bagger—that is, $5 million was invested in 1992 for a $100 million profit, a miraculous outcome for Bain, but hardly so for the Ampad workers and shareholders left holding the bag when the company went bankrupt in 1999 with massive debt. … Ampad generated barely enough operating income during the first six months of 1996 to cover its swollen interest payments… Yet since Bain Capital had now harvested a dividend that was 12X its original investment, it was basically home free.
- Bloomberg News writer Anthony Luzzatto Gardner: What’s clear from a review of the public record during his management of the private-equity firm Bain Capital from 1985 to 1999 is that Romney was fabulously successful in generating high returns for its investors. He did so, in large part, through heavy use of tax-deductible debt, usually to finance outsized dividends for the firm’s partners and investors.
Time and time again, companies controlled by Bain Capital borrowed money to pay a dividend to Bain Capital. [Bain Capital then passed the dividends through to its partners and investors, including Mitt Romney. Want to see all the different ways that dividends were passed through to Romney? Read his Personal Financial Report here.]
Dividends are supposed to be a method of profit-sharing. Companies figure out what their income and expenses have been, and how much they will need to invest in growing the business. Then the rest of the profit is divided among the stockholders (that’s why the payments are called “dividends”).
Dividends used to be taxed as “ordinary income” – and for a lot of years, high-income taxpayers paid a 90% tax rate on dividend income. That tax mechanism tended to encourage corporate decision-makers to reinvest profits in growing their business, rather than paying profits out as dividends.
But the Bush tax cuts changed the law so that dividends are treated as “capital gains” – which are currently taxed at a 15% rate. That tax mechanism tends to encourage corporate decision-makers to pay out as much money as possible in dividends.
Bain, and some other private equity companies, took things one step further: they had companies paying dividends using borrowed money, not profits.
Does anyone think Bain Capital would be operating that way if dividends were still taxed at 90%?
For the past decade, our country’s tax policies have provided the wrong incentives to corporate decision-makers. The low tax rate on dividends has encouraged executives to wring as much money as possible out of companies (however they can!).
That’s not good tax policy.
Good tax policy wouldn’t provide a financial incentive for executives to mortgage their companies, inflate the books and pay bootleg dividends.
Good tax policy would encourage executives to invest in growing their businesses; to structure their companies to succeed over the long haul; and to borrow only for legitimate business needs.
As our nation teeters on the fiscal cliff, there is also an opportunity: Congress can get rid of this obscene tax incentive that we learned about from Mitt Romney.