Private Equity (and Predatory Equity) Explained

In this must-see video, former Secretary of Labor (and current UC Berkeley professor of Public Policy) Robert Reich explains exactly what private equity is and how it works. As he puts it, “the magic of private equity in eight simple steps.” In a scathing account, Reich details how private equity groups get obscenely wealthy, and how it is a  system that exploits middle class tax payers.

When UHAB identified Predatory Equity, we were referring to what we recognized as private equity groups using the same tactics explained by Reich to purchase rent regulated New York City real estate. Below are Reich’s eight steps on private equity, with our supplements in red to explain Predatory Equity in NYC.

  1. Get other people’s money (investors)
  2. Use that money to buy up companies they think they can squeeze higher profits from. – Use that money to buy up “under-performing” real estate – apartment buildings where rents are below market rate.
  3. Squeeze out higher profits by cutting the company’s costs – typically done by reducing employment and employee benefits. – Predatory equity landlords squeeze out higher profits by reducing services and harassing tenants to the point of illegal eviction, because they can raise rents on a vacant apartment.
  4. Use the company – building – as collateral to borrow a pile of money from banks. In New York City multifamily housing, often these risky loans were converted into mortgage backed securities.
  5. Get the company to issue special bonds to pay back investors.
  6. Turn a profit by selling the company – building – for much more than they bought it for.
  7. Pocket 20% of the gains from the sale.
  8. Due to the “capital-gains” tax rule they enjoy a tiny tax rate – 15% – on any earned income

In regulated housing, we never made it as far as Step 5. Starting in 2008, building after building fell into foreclosure as these companies defaulted on their bank loans. However, these groups are still in the market and still making risky bets that will likely have a negative impact on New York City tenants.

As Reich points out a blog post accompanying his video, many of the investors in private equity companies are public pension funds, so private equity groups are exploiting taxpayers with their own money. This was true in New York affordable housing as well — Predatory Equity groups bought buildings and ran them into the ground, likely with the pensions of their own tenants.

As Reich argues (and we agree) in order to take back our economy for the working and middle class, the scam of private equity must be unveiled and widespread reform must take place. Watching this video is a great first step!

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