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June 19, 2009
Do Private Equity Buyouts Lead to Improved Corporate Governance?
    by Robert Kropp

Report by the Investor Responsibility Research Center Institute finds that governance policies at buyout-backed companies often reward executives at the expense of shareowners.

According to the Private Equity Council (PEC), an advocacy organization for the private equity industry, private equity (PE) is defined as "an ownership structure that enables a private equity firm and its investors to acquire companies — either public or private — that have significant potential for growth." Generally, after a period of time, private equity firms return the companies they bought to the public sphere, selling them via Initial Public Offerings (IPOs).

The PEC claims that without the involvement of outside shareowners interested in short-term gains, PE firms and the managers of their portfolio companies can focus on long-term performance. But does the PE firm's focus on long-term performance consider such important issues as corporate governance? A report prepared by the The Corporate Library and issued by the Investor Responsibility Research Center Institute (IRRCi) seeks to address the question.

The 93-page report, entitled Wh at Is the Impact of Private Equity Buyout Fund Ownership on IPO Companies' Corporate Governance?, does not support the claims of superior corporate governance made by PE firms. Instead, it found that companies backed by PE buyouts retain policies that could benefit corporate executives at the expense of shareowners. The policies analyzed in the report include takeover defenses and Boards of Directors whose independence may be compromised.

Furthermore, according to the report, "the governance features of many buyout-fund-backed companies may be more likely to reward executives for past service than to motivate them to future achievement."

The report cites the corporate governance policies of the Council of Institutional Investors (CII), recommending that PE firms adopt corporate governance policies that disfavor takeover defenses, increase shareowner power, and promote transparency. The report recommends that "institutional investors with holdings both in private equity funds and in initial public offerings should use their influence to encourage private equity funds to improve their approach to governance in the companies they take public."

In a speech before the CII in January of this year, Damon Silvers of the Congressional Oversight Panel said, "We must regulate financial institutions based on what they do, not what they are called. We must bring the shadow markets and shadow institutions—hedge funds, derivatives, private equity and off balance sheet vehicles—into the light of disclosure and accountability."

One month after the speech by Silvers, the PEC announced that its members "have adopted a set of comprehensive responsible investment guidelines that they will apply prior to investing in companies and during their period of ownership. The guidelines cover environmental, health, safety, labor, governance and social issues."


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