Monday, April 30, 2007

Harman's Buyout Structure Follows My Proposal

Friday's Wall Street Journal piece on Harman International's (the old Harman Kardon) proposed private equity buyout echos my own concept of offering current shareholders a chance to remain as passive owners on the same terms as the buyout group. I wrote about it here, last August, in the wake of the Kinder-Morgan buyout. At the time, my theme was corporate governance.

My partner and I discussed this, and he wondered aloud why this structure has appeared now? Surely, he said, outfits alike KKR and Goldman must have kicked this around for years.

My sense is that, with the recent publicity accorded buyout firm CEOs like Steve Schwarzman (of Blackstone), there is a growing fear of some sort of regulatory backlash. The last thing Blackstone, TPG, Silverlake Partners, Bain, KKR,, need now, is for a Democratically-controlled Senate Finance Committee to legislate curbs to their buyouts, or attach deal-killing 'protections' for current shareholders.

Thus, the harmless, and even secretly helpful, tactic of allowing current shareholders to remain, at a discounted percent ownership, and with complete passivity (i.e., no voting power), to share in the flow of post-buyout gains, while contributing their capital in the bargain.

In truth, this allows the shareholders who remain to experience the best of what I informally call 'corsair capitalism.' I wrote about it here, in February. My closing thought in that post was,

"Now, for a prediction as to a form of solution which may develop. What is to stop private equity firms from issuing securities of participation in their ventures, in small denominations, as limited equity partners? Would not brands such as Texas Pacific, KKR, and Silverlake command a premium in the market? By attracting investor capital to their privately-held efforts, these partnerships could effectively begin to drain capital from poorly-run public firms, and then slowly, inexorably, pull them into the private equity world, where the value they add would accrue to the small, limited partner.

Truth is, the worst part of the structure of today's publicly-traded firms is that the board-CEO governance mechanism mitigates against the effective management of the firm for consistently superior total returns. Read Murray's passage quoting Mr. Conde of Sungard. Conde essentially says that he could not run the company 'right' in the public markets. So the small investor has no chance, currently, to enjoy the fruits of really top-notch corporate management or governance.

Maybe they'll get a break, when some of the better private equity firms begin to add investment vehicles for the smaller investor."

Perhaps, going forward, the price for some of these buyouts will come down, when existing shareholders realize they can effectively sell the firm's governance to a top-notch private equity group, and reap a decent share of the resultant gains.

My guess is that the Harman buyout structure marks the first instance of what may become a saving grace for the private equity sector, and the beginning of a significant new form equity investing.

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