I tried explaining this in my previous post Marissa DeFranco Misses The Mark. I’d like to try to make it even clearer in this post.
Suppose there is a company with $400 million in liabilities and $300 Million in assets. What do you see in such a company? You might say, a company that will surely go bankrupt if it doesn’t have a huge offsetting income stream. You certainly wouldn’t invest in such a company if you had a normal (or is that moral) view as to what capitalism and business is all about.
Vulture capitalists see something that you do not see. Vulture capitalists have learned to focus on one thing only, $300 Million in assets.
Without the vulture capitalists, if the company went bankrupt, the assets would cover 70 ¢ on the dollar of their liabilities to their creditors. When a vulture capitalist buys such a company, the idea is to turn that $300 Million in assets into cash that can be paid out to the vulture capitalists. Then they let the company follow the path that it already was on toward bankruptcy. The only difference is that the vulture capitalist comes away with $300 Million and the creditors come away with zip, zero, nada.
What do you suppose happens to some of the creditors who considered a large part of their assets to be the debts that they expected to be repaid by the company to which they sold their goods and services? Some of them go bankrupt, too. The vulture capitalist who stripped the assets of the first company now has inside information, because of the temporary ownership or management of that company, as to which creditors of that company to look for as the next victim.
There is nothing magic about a company having a negative net worth (liabilities greater than assets). The only advantage to such situations for the vulture capitalist may be that the rest of the world shuns the company’s stock and it will be cheap to take it over. In reality, even companies with positive net worth may be more valuable to a vulture capitalist to strip out the assets than it is to run the company as an ongoing business.
Clearly, the possibility of a vulture capitalist coming in to strip the assets of a company is such a frightening possibility, that even many well run companies hesitate to build up a large surplus of assets. So even a company that wants to have a well funded pension plan for its employees, does not dare to do so. Such an asset would be a very inviting target to the vultures. If a recession or a depression hits, these well run companies are not in as good a position to weather the storm as they might have been had they not had to alter their plans to ward off the vultures in good times.
We have allowed the laws and regulations of this country to fall into such a state of disrepair and lack of enforcement that the very good parts of capitalism have been turned up-side-down. The normal incentives to make a company turn a profit and grow and thus provide benefits to the economy as a whole as a natural part of its existence, have been turned into incentives to strip out the assets and leave the economy without jobs and without productive capacity. Many of the other countries in the world have followed our silly example in a race to the bottom of the heap. The fact that multi-national companies have become more powerful than most nations may play a role in this nearly universal behavior.
Sharon says to me that you cannot expect politicians who are not business people themselves or who have not studied business to explain these intricacies to the voters. I remind her, that I am not a business person either, but here I am writing this explanation. Why is it that I can see this so clearly, and yet, in all the years since I have come to understand this (30 or more), there has been no politician who can get up on his or her hind legs and tell people what is going on in words that they can understand?