Skye Sepp sent me this interesting post from computer virus and internet security wiz Nikolai Beznoukov, who has impeccable first-hand knowledge of many financial and industrial corporations:
Typical scenario for the last 18 years:
January -
A Private Equity Investor (PEI) has $20 million. He uses it as security to borrow $200 million from Bank1 (of which he himself is CEO) to buy a company we shall call “Widgets Co”. Widgets Co. is a solid manufacturing business with assets of land, factories, patents, a brand, good will, and no debts.
March -
Widgets Co., under “New” ownership, borrows $300 million from Bank2 — no problems, it’s a solid business — but here comes the bit where it all goes criminal, but not illegal.
Widget Co. pays out $300 million to PEI its new owner as a dividend. PEI then repays $200 million to Bank1. PEI now has $100 million cash, and has done nothing for it. Widget Co, however, now has to pay $20 million in interest per year to Bank2. PEI now has $100 million cash.
July -
Widget Co. by direction of it’s new owner (PEI), sells its assets: land, patents and so on to another company (company2) controlled by PEI and incorporated in the Bahamas, which then leases them back to Widgits co. for $30 million a year, with the purchase financed by Bank1. The sales bring $200 million which Widgets also pays out in dividends to PEI its owner. PEI now has $300 million in cash, plus that $30 million annuity generated by the leasing operations.
August -
Widget Co’s Pension Fund is ‘restructured’ bringing a liquid $150 million onto the balance sheet. Widgets has liabilities to its pensioners with little to back them. $150 million is paid out to PEI as a special dividend. PEI now has $450 million cash, which he deposits into his accounts in the Bahamas and Switzerland.
December -
PEI sells the business to a pension fund, for $100 million. Far less than he paid as it now has a lot of debt, but, it is a good business. PEI now has $550 million cash. He deposits this money in the Swiss banks.
Recap:
Widgets now has $300 million in debt which gives rise to $20 million a year in interest payments to bank2, plus $30 million in leasing payments to company owned by PEI. It has pension liabilities and the pension fund is almost worthless.
Meanwhile, PEI started this little scheme with $20 million and now has $550 million in cash. But the business is still viable, as Widgets can meet its expenditures.
5 years later -
Sadly hard times come. Turnover drops, prices drop, costs are cut, people lose their jobs, including engineers, managers, the shop floor and the sales team who did real work for years, created real value, invented the patents, built the brand.
It doesn’t help. The company has no stores of fat, it goes bust. The bank loans sour. People lose their jobs, the pensioners cannot be paid. The money they invested is now in the hands of PEI who has no legal liability.
PEI then declares the second company (the one that bought the Widgits Co assets) into bankruptcy, as its assets are now exceeded by its expenditures and cannot meet its payments to Bank1. He sells off the Patents and other assets for $100 million. PEI now has $650 million in cash. He then, being the owner of Bank1, writes off the apparent loss on his taxes, and is repaid by the Federal government through the FDIC. The SEC refuses to investigate, as the primary investigative agency is staffed by his former employees at Bank1. He then resigns from Bank1 under a shadow of scandal related to the losses incurred by Bank1 in its dealings with company2, exercises $100 million in stock options, and is “offered” another $50 million as a golden parachute to ease the discomfort of being without work and as bonuses for the increase in revenue to Bank1, which were generated by his own business dealings with Widgits Co.
This happens 100 times so the banks are bust too, but get bailed out by the taxpayer (that’s those guys who lost their jobs and pensions at Widgets).
PEI lives happily in The Bahamas with the $950 million which he ‘earned’ in a fabulous year of ‘value creation’ made possible by the power of free and light touch regulated markets. He pays no taxes on the income, as the income was generated by a company that is incorporated outside the United States.
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