Private equity’s experiment with worker ownership
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Private equity has long held a reputation for being ruthless, a no holds bar industry.

These were very scrappy, mercenary deal makers. And with the really investments of that error, like R J R A bicc, they had no real compulsion about breaking up a company and selling off different parts, which really struck a nerve in, uh, the mainstream of america.

My colleague and ron gara says that in the one thousand nine and eighties, the private equity industry relied on deals that use lots of debt, a kind of strategy often LED to the collateral damage for workers. While P. E, executives took home massive windfalls.

In the middle nine hundred and eighty, the private equity firm K, K, R did a leveraged buyout of grocery store chain safeway. And they use a very small sliver of equity to buy what s one of america's biggest companies. And after they acquire the supermarket, you know, the company went through brutal, uh, layoffs and salary cuts and IT became hugely controversial.

but now a new strategies gaining some ground that has some firms deciding to share a bit of that wealth with their workers. But why are firms doing this and what's in IT for them? I'm malin dera from the financial .

times today .

on behind the money, how private equity realized playing nice could be good for business.

This particular attempt by private equity to have a softer image begins with a guy .

named pete and pete devora, cohered of global private equity at K, K, R.

About fifteen years ago, p, took over running K, K, R, S investments in the industrial sector. That's like manufacturing businesses. And in that role, he noticed a problem .

in manufacturing. You often come up against the following situation, the workforce, they tend to not like their jobs, but at the same time are responsible for much of your successor failure as a company, because they are determining the quality of the product, whether the product is delivered on time, things that determine your efficiency as a manufacturer.

So pete started to think about how he could get workers from different kinds of industries .

more motivated, but LED to experimenting with other different ways to engage with all colleagues, not just the senior folks. But could you engage with the entirety of workforce, get them more engaged on the job, get them less likely to quit and have the company benefit as well? So could you come up with the program that was both good for workers and good for companies?

Pete found what he believes is a way to solve this problem. Let me explain. Take, for example, one company called geo stabilization international, or G, S, I for short K, K, R, invested in the company in twenty eighteen.

G, O, stabilization at one point, had a fifty percent worker, or turn over 8。

Now, G, S, I, S, an interesting company. IT basically works on preventing land slides from happening or cleaning up after them. If they do.

it's hard work. People sometime to have to be away from home in four weeks at a time because it's an emergency and they have to stay until it's done. It's tough. And if you're not a owner and you not really have much of an incentive, you know maybe you find something easier.

And this is where pete strategy comes into play to encourage workers to stay. K, K, R offered g size employees equity in the business as part of their compensation and pizz that more employees started to stick around despite the tough work.

Once you have you know more information being shared with you about the business and where we're headed and why we're headed there and how you can help and by the way, you're going to participate in all the value that you're helping to create. That quit rate went from fifty percent to seventeen percent.

Flash forward to today. And many of g size employees are recipients of a sizeable payday. Pteor K K R announced IT was gonna be selling G S I.

The sale meant a one billion dollar payout, and seventy five million dollars of that was going to the company's blue collar employees. That meant that a lot of G S I employees would be receiving six figure sums for many of these employees. This is life changing money. It's the chance to put a dawn payment on a house or to set themselves up for early retirement. And for pete, it's been good for K, K, R, too.

We meet five times our money. There aren't a lot of five x returns in private equity behavior, but certainly not being exited right now. You know you can unleash a lot of growth when you suddenly stop losing half your workforce every year. And so when we look at our performance in the deals where we've done this, not only has been the right thing to do and allowed us to deliver wealth for workers and have more engaged people up on the job, less likely quit, but also delivers Better investment outcomes and build stronger companies.

They've implemented the employ ownership program in about fifty K, K, R portfolio companies, and we've excited about ten in that process. They say they've generated more than one point six billion dollars for workers, while the idea of employees wners ship got its start at K, K, R, my colleague, and one gara, who you heard at the beginning of the episode, says that it's picked up some traction among other .

big firms to the industry itself has sort of begun to really adopt this, and it's really moving ever more into the mainstreaming.

Pete staff rose from K, K, R, started a nonprofit called ownership works that groups brought other P, E firms on board to evAngelize the idea of employee ownership and equity.

And a lot of the largest private equity firms in the industry and from Apollo to advent have become supporters of ownership works and and there other firms that are doing in their own way. So blackstone is not a part of ownership works, but it's starting to implement you very broad based equity awards across all of the large companies IT buys in the us.

So K, K, R, one of the firms that pioneer private at these tough image, is starting a new path, and IT seems to be catching on among other major firms coming up. We will take a closer look at why this strategic expansion is happening at an opportune time for the industry.

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It's important to note that while K K R S been building out the employee ownership program, private activity on the whole has been undergoing a lot of changes. Entrance says those heavily leverage buy outs of the one thousand nine eighties and nineties are mostly a thing of the past.

I mean, back in the one thousand and eighty IT, seems like there was just a lot more low hanging fruit for your average private equity investor. The secret sauce hadn't really gotten out and markets weren't so .

efficient after the financial crisis. The way private equity structure deals shifted post crisis.

it's been much greater amounts of equity. Lower racial s of leverage in an investment case is much more oriented around growing a business.

The equity program the K, K, R is offering place into this idea of business building that now become a key part of peace general strategy.

Now when you're doing a buyout, own companies for five to ten years, and most of the time they are thinking, how can I double a and so they're much more into business building now, either using a business to acquire other businesses or figuring out how to how to grow different business lines or push businesses into new markets all over the world.

But p firms haven't only had to change the way they do by of in recent years. They've also had to change how they present themselves to the world.

Private equity has sort of more from people focused on deal by deal basis to where's their firm going on a much longer art of time and how can they continue to build, you know, even more broadly, into the fabric of the financial system. These firms have grown into large mainstream financial institutions. There are every bit as powerful as like the largest banks in america. now. If not at times more powerful strategies .

like offering equity to employees can play a role in softening peace image to regulators and lawmakers.

They can go to washington when these deals work out. And they can say, here, you know, tens of thousands of happy employees in your state or in your industry, they believe in what we're doing. And that really helps you when you know washington is not a place that can be very friendly to private equity often times.

And there is another factor business for p hasn't exactly been thriving in recent years, ever since twenty twenty two, when interest strates started going up. P E markets have been in a tough place.

I personally think it's it's a test that's not that far off from what they face during the financial crisis. They are managing baLance sheet that the financing costs have increased instantiated, and they've also not been able to sell many companies either to other private equity forms or to corporations or taking the public.

So investors in private equity fund have not gotten a lot of money back and have seen you know almost like a historically bad run of cash coming back to them. And IT, it's come at a time when the public market just keeps going up and up and up. It's sort of almost a slow motion um crisis, you know that gets kind of worse and worse year by year. So private .

actually is looking at some tough years ahead. Then there's a business case for rewarding workers. Motivated workers can help a company perform Better and boost its value, which is good for the private equity firms that own them.

Plus IT doesn't actually cost the P E. Firms any cash. The other interesting .

component of these employee awards is it's either given in as a restricted stock unit or some form of option which really has no um cash value at the very beginning yeah when they .

buy the business, their handing employees just like a piece of paper will pay you later yeah .

so in the case of someone like A G I, you they're in your salary. Let's would have been um eighty thousand dollars year or something like that giving the contract and this was done uh in the format of an option. You know your typical employee was making A A payout, you know if you work there for three years of one hundred ten thousand dollars.

So that's a sum of money that the business wouldn't have been able to afford on an annual basis or even on a three or four year roling basis. But you know as the whole deal was paying out very profitably also for K K R. And its investors, one hundred thousand dollars know across the the employees work three years longer. That didn't feel painful to to K K R S investors.

Of course, workers only get these payouts of deals work out and that's not guaranteed.

Know the company goes bankrupt. Those employees who got the A R S U or the equity award or the option, they're not going to see any money .

from IT he technologies this reality too. I asked him how K, K, R would handle that kind of a situation.

IT hasn't happened yet, but I will happen. We invested in lots of companies I mentioned. We've got fifty live examples of this, and it's not going to be fifty out of fifty that a home run investments that is not the way the world works.

So that will happen. IT hasn't happened yet. We're always very upfront on us with people. This is video. You're not paying for IT. It's not a trade off for way to your benefits, but it's also not a guarantee we have to perform. We gone to do our jobs, and if we do, you will participate.

For his part, anyone wonder how valuable the strategy will be for private and investor?

What i'll be interested to see is, are the companies with the broad equity awards, do they wind up perform as Better investments through this tough period than the companies that don't have IT because the incentives were lined Better and so on. But i'll be interested to see the sort of cohorn analysis from firms like K, K, R. How did firms with equity awards perform as investments versus those that didn't have them?

And one, what's your take on all this? I mean, is this just some kind of big P, R effort from these firms?

This all seems very practical to me. Actually, the idea that you're giving, uh, a worker some broad based incentives and ownership in a company and that will cause them to think about how to make the company more refine new business opportunities. That just strikes me as common sense. It's also not a huge breakthrough in capitalism. There are a lot of tech companies, the facebooks and google of the world, that in their earliest days really incentivize most of their employees, mostly with stock awards and a pieces of ownership in their companies because they don't have that much cash to just give away with high salaries. So you know, I almost wonder, why didn't this all happened sooner?

Now you might be thinking about what happens next for those workers at G, S, I. After all, K, K, R, sold the company to new owners.

So K, K, are selling G, S, I to another private equity from lanner Green partners, uh, another long time private equity firm that's also a part of ownership works. So what interesting is lender Green will create a whole new set of equity awards for gsi employees. And IT IT shows that that there can actually be a recurring incentive structure and that you know as companies change hands between private equity firms, you know these equity awards can be fairly consistent.

Behind the money is hosted by me in colle genera. Sophia F M is our producer sound design mixing by sam g of ino special thanks to miss a franco devo to over four has is our executive producer. Shara gramley is the global head of audio. Original music is by hand is Brown. Thanks for listening.

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