Private Equity, LBOs, and Corporate Governance: International Evidence

• Author: Mike Wright,Donald Siegel,Igor Filatotchev
• DOI: http://doi.org/10.1111/j.1467-8683.2010.00842.x
• Date: 01 May 2011
• Published date: 01 May 2011

Guest Editorialcorg_842185..194

Private Equity, LBOs, and Corporate

Governance: International Evidence

Donald Siegel, Mike Wright, and Igor Filatotchev

INTRODUCTION

Private equity is risk capital used in a wide variety of

situations, ranging from f‌inance provided to business

start-ups to the purchase of family f‌irms, as well as divisions

of corporations and even entire mature publicly-traded com-

panies (Gilligan & Wright, 2010). The focus of this special

issue is on leveraged buyouts of existing businesses in

which private equity investors and a management team pool

their own money, usually together with borrowed money to

buy a business from its current owners.

In recent years, there has been a resurgence of these lever-

aged buyouts and private equity investment in many nations

(Strömberg, 2008; Wright, Amess, Weir, & Girma, 2009a),

culminating in a peak worldwide in 2007. The onset of the

f‌inancial crisis from 2008 resulted in a massive fall in deal

value worldwide in 2009 as debt markets closed and private

equity f‌irms set about restructuring troubled and over-

leveraged portfolio companies. Nevertheless, it is clear that

private equity was not just a transitory phenomenon and

that private equity f‌irms have adapted to begin to build a

new future (Wright, Jackson, & Frobisher, 2010).At the time

of writing worldwide private equity shows signs of recovery,

as the third quarter of 2010 provided the strongest showing

of the market since the f‌inancial crisis at an aggregate value

of $66.7 billion (Preqin, 2010).

These trends have vital global implications for corporate

governance and performance. Disclosure and other gover-

nance requirements associated with the Sarbanes-Oxley Act

have substantially increased regulatory compliance costs for

listed corporations (Yoshikawa & Rasheed, 2009). The costs

associated with a stock market listing, including the costs of

scrutiny by security analysts, have important implications

regarding the attractiveness of the stock market for f‌irms.As

a result, companies of modest size with growth potential

may have great diff‌iculty securing funding. Larger f‌irms

may f‌ind the regulatory burden and additional scrutiny too

severe. An overemphasis on accountability could stif‌le the

ability of f‌irms to realize entrepreneurial opportunities.

Under these circumstances, private equity investors can

provide funding to realize growth opportunities, as well as

active, specialist governance. Pension funds and other insti-

tutional investors, including sovereign wealth funds have

also been attracted to the private equity market by superior

returns. The end result is that private equity funds have

become larger, raising the likelihood of additional acquisi-

tions of large corporations.

The rise of the private equity market poses critical research

questions regarding how these transactions increase private

and social value. As evidence by the papers in this special

issue, the “performance” effects of these transactions have

important implications for corporate governance practices.

For instance, private equity f‌irms may need to adopt strate-

gies to secure attractive deals without engaging in public

auctions, which have become prevalent. A recent review of

the literature in this Journal (Wright et al., 2009a) reported

that private equity transactions have resulted in signif‌icant

gains in “real” performance or productivity (Harris, Siegel,

& Wright, 2005; Lichtenberg & Siegel, 1990). However, there

may need to be a stronger emphasis on entrepreneurial

activity to realize the upside potential of these f‌irms (Wright,

Hoskisson, Busenitz, & Dial, 2000). Changes in the stock

market and the market for corporate control also raise issues

concerning the ability of private equity f‌irms to realize the

gains from their investments, especially for modest sized

deals in mature sectors, while at the same time meeting

investors’ expectations of signif‌icant returns within a par-

ticular time period. The returns from private equity transac-

tions have attracted new types of entrants seeking to reap

such returns. In particular, hedge funds have actively

entered this market, which raises several concerns, given

their transaction-oriented nature and a sense that their

ability to add real value (in a managerial sense) to enter-

prises may be limited.

Private equity is also increasingly becoming an inter-

national phenomenon. Leveraged and management buy-out

activity is on the rise in Europe, Japan, and other Asian

nations, as these countries come under increasing pre-

ssure to restructure their economies (Wright, Burrows,

Ball, Scholes, Meuleman, & Amess, 2007). Public to private

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Corporate Governance: An International Review, 2011, 19(3): 185–194

© 2011 Blackwell Publishing Ltd

doi:10.1111/j.1467-8683.2010.00842.x