The specter of private equity - and the prospect of being snapped up, stripped down, and sold at a colossal profit, all in the name of maximizing value - has shaken traditional managers to the core.
But the best strategy for warding off the buyout pirates, who have been gobbling up and restructuring ever larger companies in recent years, may be to think, act, and manage just like them.
So says Robert C. Pozen, chairman of the Boston money management firm MFS Investment Management. In a provocative essay in this month's edition of Harvard Business Review, he contends that the private equity industry - those buyout and hedge funds that have been playing a growing role in the economy - can offer lessons in "value enhancement" to managers and directors of public corporations.
Among the lessons are the importance of running tighter operations and dangling richer incentives. That means reducing cash on the balance sheet and taking on more debt to gain tax advantages. It also means aligning a company's operating plan, executive rewards, and director appointments to the lodestone of shareholder return.
"Directors of public companies would do well to step back and look with cool eyes at how the top private equity firms have produced such high returns," Pozen wrote. "This is not to suggest that directors of public companies should adopt every strategy or process employed profitably by private equity funds. Some fund managers engage in unsavory practices that should not be emulated - such as charging excessive transaction fees and 'flipping' acquired companies."
But businesses intent on staying independent, controlling their destinies, and reaping the benefits of their growth should understand and use private equity techniques, Pozen said.
His preemption advice is especially timely in a year when buyout firms have been acquiring and reshaping companies, such as Chrysler, TXU, and First Data Corp., with multibillion-dollar market values.
Merger and acquisition volume has totaled $3.98 trillion so far in 2007, according to the Thomson Financial research firm in New York. That's more than the $3.62 trillion total for all of 2006, the busiest year for buyouts since the technology-driven boom of the late 1990s.
Pozen outlined five practices that private equity fund managers employ to unlock value in the companies they buy:
To evaluate such practices, Pozen proposed that public companies begin with some role-playing exercises, letting their risk-averse middle managers recast themselves as swashbuckling buyout buccaneers.
"I'm suggesting that companies put together a SWAT team that looks at everything in their operations and says, 'There are no sacred cows,' " Pozen said. "This would be a simulation of what a more shareholder value-oriented company would look like."
Some traditional corporations already have begun singing from the private equity hymnal. IBM last spring raised its cash dividend to 40 cents from 30 cents and began to repurchase about $15 billion worth of its stock. Wall Street applauded the move, sending IBM shares up 3.5 percent after it was disclosed.
Not everyone stands in awe of the sagacity of the private equity princes. Val R. Livada, senior lecturer at Sloan School of Management at the Massachusetts Institute of Technology, said much of the magic of buyout fund managers can be traced to the fact that they are focused on buying and selling companies in the short term and are largely unburdened by the challenges of day-to-day managing.
"The private equity world is a much simpler world than the operating world," Livada said. "When a company gets purchased by the private equity guys, the knife comes out of the closet and they slash and burn. One of the reasons why it's easier is because they come in and they don't know Joe and they say Joe's got to go. They cut the fat and they don't have to worry about what happens 10 years from now."
Those who do want to manage for the long term, especially at public companies, face a stark choice: Boost efficiency and growth themselves or sell out to a buyout firm that will do it for them.
Pozen said it behooves companies to do it themselves.
"For a lot of companies, there's a premium that's going to be paid out in four or five years when their value doubles," Pozen said. "Why can't the public shareholders get some benefit from that?"
Robert Weisman can be reached at weisman@globe.com.
