It’s more than that. Typically, lenders have covenants written into the loans, which tie them to certain income/debt ratios, among other things.
In-House - Overview, Advantages, Risks, Examples particular, it’s common to restrict the exact type of scenario that Martin Hyde described. See e.g. .
Here is a fairly recent example of this happening with ALCOA and a bunch of different subsidiary companies. Sometimes these different companies are sold off but sometimes ownership is retained by a parent company that owns a lot of companies. Generally, there is an auditor of some sort who is ensuring these splits are reasonable and fair but it can be reasonable and fair to saddle a single company with a majority of the debt.
Seconded. A big part of that ruthless realization is the aspect of making a short term profit without regard for the workers, community or anything outside of what benefits the raiders in the short term; a venerable old company with a lot of low book value real estate that actually has high market value would be bought, all that real estate would be sold, they’d pay their dividends or sell shares to realize that profit from the real estate sales, and then let the company do as it would- declare bankruptcy, limp along, etc… now that they hamstrung it by selling all the real estate.
There are other ways that it’s done, but the fundamental common thread is that someone from outside comes in, buys a controlling interest, does a bunch of stuff that temporarily raises the stock price or dividends, and then bails on it once they’ve made their money.
Plus, pays themselves substantial salary and bonus as senior executives in order to accomplish this - or as management consultants. Heck, even as the company goes down in flames, its senior management reaps substantial “retention bonuses” so they don’t jump ship, on the ludicrous assumption that they alone know how to manage the company properly.
Then there’s the trick by Lord Conrad Black of Sing-Sing, who managed his sinking media empire including high management consulting fees, and meanwhile sold off parts of his media empire along with concurrent non-compete deals between the buyers and himself personally that he would not start a competing newspaper in return for a hefty consideration. Apparently a judge in Chicago saw nothing wrong with this being a condition of the sale.
As I understood it, the majority of the money was really through the ownership aspects and raising the value of the company in some way in order to profit off it in the short term, without any regard for anything beyond the point when they make their money.
I’m sure they do pay themselves great salaries and bonuses, but that’s more of a fringe benefit, than a goal in its own right.
Take it from a Credit Risk Manager in a bank, the credit risk people can be vehemently opposed to supporting a transaction and it still gets done for a variety of reasons. These reasons will invariably boil down to either
A) Management/front office staff being willing to overlook or minimise the hard numbers and take a view. (This can be drive by a few factors). [You’d be surprised at even very high levels how little sale people/management really understand the risk factors at play)
B) The remuneration is (or is perceived to be) sufficiently high to offset the potential loss for a non-performing loan.
The “lets do it anyway” approach can come from a range of factors:
The father of one of my friends was involved in negotiating the terms by which banks backed out of their loan agreements with farmers (40 years ago now). The banks had encouraged the farmers to borrow money beyond their means, in a mixture of greed, stupidity, and wishful thinking.
The banks had been competing with each other and paying bonuses and making promotions for bringing in new (foreign exchange currency) loans, without regard for ability of the farm business to pay when FX rates changed.
The negotiations involved the facts that a large chunk of the farming sector was involved, that none of the banks wished to be the first to move, none of the banks wanted to make individual deals with debtors, none of the banks wished to establish the principle that random people could just borrow money and fail to pay it back … and that all the banks knew it was their own fault and that their money was gone and wasn’t coming back.
That is arguably a somewhat one-sided view. The more cynical view is that the farmers were very happy with the FX loans when they were good value and exchange rates were working in their favour, but developed selective ignorance when the exchange rates went the other way.
I don’t know if it still happens but on some risky loans, lenders used to require borrowers to get a “lawyer’s certificate” from an independent lawyer, not otherwise associated with the lender or borrower, stating that the lawyer had explained all the risks to the borrower. I only did a small number of them. Almost invariably the borrower barely listened to your explanation of the risks, or even actively told you they knew the risks and didn’t need the explanation, and wanted you to just sign off on what they regarded as a formality, so they could Get the Money. My firm stopped doing them, as a matter of policy, because we took the view they were too high a professional risk.
I’m an equal opportunity skeptic - lenders tend to downplay risks on loans but the ignorance of borrowers about those risks tends to be rather willful, IME.
I guess I’d generally agree with you, but I was thinking of @GreedySmurf 's assertion that bank management sometimes does stupid things, that any competent person would realize were stupid. Even if the farmers were willful, the banks were making loans they were going to have to foreclose on when the FX rates changed. Maybe the farmers wanted to believe that FX rates are stable: if the banks were paying attention, they would have known better.
Never forget 2008 - the “best and brightest of Wall Street” were willing to give mortgages to anyone who walked through the door, and even overlook lying and cheating to create mortgages, and the obvious problem that there was no way the people could afford what they were signing up for.
Were the “sub-prime” customers willful participants? At the most innocent, they thought they were getting a house for well below market price that they could sell for a profit when the interest discount expired; at best, they knew that when the cost became too high they would figure something out and weren’t thinking that far ahead.
So the rich bankers, whose one job it was to ensure that money is doled out responsibly, were more stupid. (or… most stupid)
F. Scott Fitzgerald: “The rich are different from you and I…”
Ernest Hemmingway: “Yes. They have more money.”
1974 revenue act allowed replacing cash pension funds with annuities. This was refined in the revenue act of 1976.
Executives began to bail from corporate pension plans creating for themselves other forms of compensation.
Now the corporate raiders. They get into a bidding war for stock in a hostile takeover.
The early victim’s stock diluted to where 9-10% of company stock makes one the new majority owner. As new owner, buy an annuity for retirees and pocket the cash from the pension funds. Break up the company and sell of divisions wholesale to get back the money spent buying the company stock. Free money but… the raiders realize they had left the big money on the table.
These raiders remold themselves as activist investors. Now they buy only enough stock to get a seat on the board. They direct the complicit CEO (who invited them on the board) to buy companies from which they can strip pensions and more importantly the copyrights and patented of those companies they buy. In the end the company on whose board they sit becomes leveraged into near bankruptcy. Before that can happen, all parents and copyrights are transferred into a private holding company owned buy the activist investor/corporate raider.
Look at hostess. Back in business under license. Look a GE. They did not sell their appliance business to Haier, GE holding company leased the rights for 59 years.
Lighting rights leased to Savant for 89 years.
I see the next evolution of our economy to be a new feudalism.
Where in medieval times, all industry was in the land, farming husbandry mining, fishing and the the king owned the land and no one worked the land without patent(read permission) from the king.
And where in the future, I see no one works or creates industry without patent/copyright privileges leased from the new oligarchy.
Humankind has lived and survived under all forms of government and under every manner of economic device so I do not distress.
I simply see a reinstitution of European feudalism as our near and future economic system.
To the point, all of the maneuvering of the pirate equity and why banks go along or allow the defaults of these activist investors. It’s the long game. Our economy is in the midst of a restructuring.
This is one opinion.
But patents expire.
The real crime is a patent office that allows playing games with fake “innovations” to keep a patent alive by modifying it.
I don’t think the main issue with takeovers was the pension fund contents. If anything, it was the opposite. The combination of low interest rates and a market crash meant pension funds were so strapped that it made no sense for businesses to keep them going - so they didn’t. Otherwise, they would have to contribute a huge amount to meet fiduciary obligations, at a time when the market and business were at their worst. Naturally, this is because the businesses shortsightedly ignored a lesson as old as Moses - to save in the good years to get through the lean years. Instead of continuing to add to pension funds companies too contribution holidays when times were good, effectively robbing the pension fund on the installment plan. When business got tough, suddenly at the same time the company was obliged to put a lot more money in the fund. Stupidly, they had contributed to the und with their own stock, so when business was bad - stock went down - triple whammy, value of existing assets tanked even more. (Look at something like the airline pensions - cheaper to declare bankruptcy, nullify all future obligations, and allow the company to restructure.)
Canada (and IIRC, Holland) have requirements that the pension fund be independently managed, by an external fiduciary, must be reconciled every 5 years, and cannot simply hold the parent company’s stock - so Canada has a lot less situations where the pension fund fails. But even so, Canadian companies are mostly switched to individual tax free savings accounts, since they then have a fixed amount to contribute each year rather than being hit by surprise market moves.