Though they invest only 1–2 percent of the equity in the private equity fund, the PE firms retain 20 percent of the profit if the rate of return achieves a certain threshold (usually 8 percent). With these massive funds (as high as $20 billion), PE firms target companies ripe for exploitation through financial engineering: paying themselves a special dividend, forcing layoffs, reducing wages, increasing debt, offshoring, exploiting bankruptcy, exploiting tax loopholes, selling assets for profit, eliminating pensions, and other nefarious methods (outlined in table 2.1). Gretchen Morgenson and Joshua Rosner, in their book These Are the Plunderers: How Private Equity Runs—and Wrecks—America, document the wreckage: 20 percent of companies taken over by private equity filed for bankruptcy, compared to just 2 percent in other acquisitions; employment decreased by 13–16 percent; and some six hundred thousand layoffs in retail alone. With little to lose if the company’s debt drives it into bankruptcy and much to gain if the investment can be exited from successfully, private equity is a textbook case of “moral hazard,” as someone else bears the cost of their risks.

XREF: Connects to general knowledge about moral hazard in finance and the incentive misalignment between fund managers and limited partners.

Andrew deWaard, Derivative Media, loc. 135