The immoral face of capitalism - the Remington Arms bankruptcy

I've long argued that the activities of many private equity and leveraged buyout firms are immoral and unethical.  Yes, I know that depends on who defines "ethical" or "moral" behavior.  I'm a Christian and a pastor, so I apply Biblical definitions to those terms.  Others differ, of course.  Nevertheless, to see such firms buy a company, asset-strip it, load it up with debt (paying themselves out of the proceeds of such loans) and then abandon it to wither and die under an impossible financial burden, leaves a very sour, nasty taste in one's mouth.  (It leaves an even worse one in the mouths of the company's employees, who typically lose everything in the crash.)  Those who glibly claim that such activities are "legal" (as if that makes them moral or ethical) tend to ignore such realities.

A classic example of such proceedings has resulted in the bankruptcy and dissolution of one of America's most historic manufacturers.

In order to buy Remington, Cerberus, as most private-equity firms would, created a new entity, a holding company. Instead of Cerberus buying a gun company, Cerberus put money into the holding company, and the holding company bought Remington. The entities were related but — and this was crucial — each could borrow money independently. In 2010, Cerberus had the holding company borrow $225 million from an undisclosed group of lenders, most likely hedge funds. Because this loan was risky — the lenders would be paid only if Remington made a lot of money or was sold — the holding company offered a generous interest rate of around 11 percent, much higher than a typical corporate loan. When the interest payments were due, the holding company paid them not in cash but with paid-in-kind notes, that is, with more debt. These are known as PIK notes.

The holding company now had $225 million in borrowed cash. Cerberus, meanwhile, owned most of the shares of the holding company’s stock, basically slips of paper they acquired when they created the holding company. The handoff happened next: The holding company spent most of the $225 million buying back its own stock, effectively transferring all the borrowed cash to Cerberus. Cerberus would keep that money no matter what. Meanwhile Remington continued rolling along as though nothing had happened, because Remington itself was not responsible for the holding company’s debt. Remington was just an “operating company” that the holding company owned, something that allowed the holding company to borrow money, the way you would take a necklace to a pawnshop. These were garden-variety maneuvers in a private-equity buyout. In the trade, this is called “financial engineering.” People get degrees in it.

In April 2012, Cerberus did something fateful, which probably seemed smart at the time. It had Remington borrow hundreds of millions of dollars and use it to buy the holding company’s debt, effectively transferring responsibility for the principal and the interest payments onto Remington. America’s oldest gun company now owed the money that Cerberus had used to pay itself back for having bought the company in the first place. There were plenty of sensible reasons to do this. Gun sales were high, and the debt that Remington took out was cheaper to service than the paid-in-kind debt.

But there was a catch. Because the operating company borrowed the money with a normal loan — and not with PIK notes — interest payments were required in cash. Suddenly Remington was carrying hundreds of millions of dollars in debt that, if it could not be paid, would cause the business to go bankrupt.

There's more at the link.

Of course, that's exactly what happened.  When the firearms market tanked after the election of President Trump, Remington couldn't service those loans, and ended up declaring bankruptcy.  Its component corporations and product lines have now been sold off to seven other companies, and Remington - a company founded in 1816, before the Industrial Revolution really took hold - has ceased to exist.  Most of its staff have been laid off without compensation, because most of the goods they used to produce will now be manufactured by other companies, in their own factories, using their own employees.

This scenario has been played out literally thousands of times in the business world in America over the past few decades.  Supporters of unrestricted capitalism argue that since it's legal, it should be permitted.  However, the hundreds of thousands of workers who've lost their jobs and their livelihoods as a result would probably beg to differ.  Venture capitalists and their ilk don't care about that, of course.  They worship the dollar and nothing else.

That's the unacceptable, immoral face of capitalism:  simply not caring about the human cost of making money.  Christianity's moral code (in theory, at least) should prevent its adherents from behaving like that.  Sadly, in far too many cases, the beliefs and moral code of the holders of capital tend to be conspicuous by their absence when it comes to increasing that capital.  It's been that way for a long time, of course;  the "robber barons" of the 19th century would probably feel right at home among the venture capitalists, private equity investors and leveraged buyout specialists of the 21st century.

Our politicians eagerly participate in the same racket.  Witness, for example, the Obama administration's pandering to trades unions in the General Motors bankruptcy of 2009, in which the pensions of Delphi workers were summarily slashed in order to provide greater benefits to union workers.  More than a decade later, those pensioners are still fighting for their stolen benefits to be restored.  There's little chance that they will succeed.

Spare a thought for the thousands of former Remington workers now struggling to make ends meet, because their employer was sold out from under them.  Spare a thought, too, for the little town of Ilion in New York, former home of Remington Arms, which has lost its major employer.  Whether the town can survive without Remington remains to be seen.  All this need not have happened, and wouldn't have happened but for the fact that Remington was saddled with hundreds of millions of dollars in debt that it hadn't incurred in the course of its normal business operations, and from which it derived no benefit - only liabilities that, in the end, crushed it.

Peter