Private Equity
The industry that buys companies with borrowed money, extracts fees, and calls it value creation — and why the evidence on whether it actually creates value is surprisingly mixed.
The short version
- Private equity firms manage approximately $12 trillion in assets globally as of 2024, making the industry one of the most influential forces in the U.S. economy — owning significant portions of healthcare, housing, retail, and media industries with far less public scrutiny than equivalent publicly traded companies.
- The core transaction in private equity — the leveraged buyout (LBO) — involves buying a company using mostly borrowed money, with the acquired company itself as collateral; the debt is placed on the acquired company's balance sheet, meaning the bought company, not the buyer, owes the money.
- Private equity-owned companies go bankrupt at a higher rate than comparable public companies, a pattern consistent with the high debt loads imposed through leveraged buyouts; when acquired companies fail, workers lose jobs and pensions while private equity managers typically retain their fees.
- The carried interest tax provision allows private equity managers to pay the 15–20% capital gains rate rather than ordinary income rates (up to 37%) on their share of fund profits — a preferential treatment that costs the U.S. Treasury approximately $14–18 billion annually and has survived decades of bipartisan criticism.
What it is
Private equity firms are investment vehicles that pool capital from institutional investors — pension funds, university endowments, sovereign wealth funds, wealthy individuals — and use it to acquire companies, restructure them over a holding period of typically three to seven years, and sell them at a profit. The term 'private equity' refers to the fact that the acquired companies are not publicly traded; they are taken off stock exchanges (or acquired before they go public) and operated as privately held firms during the investment period. The industry grew from a small corner of finance in the 1970s into a dominant force by the 2000s and 2010s, accelerated by the long period of low interest rates that made the debt central to buyout strategies extremely cheap to carry.
The fundamental transaction in private equity is the leveraged buyout. In a typical LBO, the private equity firm contributes equity capital — money from its investors — representing 20–40% of the purchase price, and borrows the remaining 60–80% from banks and institutional lenders. The crucial feature is that this debt is not owed by the private equity firm; it is secured against and placed on the balance sheet of the acquired company, which must service the debt from its own cash flows. The company is thus acquired using its own future earnings as collateral. The private equity firm then has strong incentives to increase the company's cash flows rapidly — through cost cuts, asset sales, or revenue growth — both to service the debt and to increase the company's value at exit. Whether those incentives produce genuine value creation or primarily redistribute value from workers, suppliers, and communities to investors is the central empirical and political question about the industry.
Private equity firms earn money through two primary mechanisms. Management fees — typically 1.5–2% of committed capital annually — are charged to investors regardless of performance, providing a steady revenue stream throughout the fund's life. Carried interest — typically 20% of the fund's profits above a hurdle rate — is the performance fee that aligns (in theory) manager incentives with investor returns. The total compensation flowing to private equity managers at successful funds is extraordinary: the managers of a $10 billion fund that doubles its value in five years might receive $40–50 million in management fees and $400 million in carried interest. This carried interest is taxed at capital gains rates (15–20%) rather than as ordinary income (up to 37%), on the rationale that it represents a return on an investment rather than a wage. Critics argue that because managers receive carried interest as compensation for services — not because they invested their own capital — the preferential rate is economically unjustifiable. The carried interest tax preference has survived repeated legislative challenges; it was narrowed but not eliminated by the Inflation Reduction Act of 2022.
The private equity business model has expanded far beyond its origins in industrial companies and corporate spinoffs. Healthcare is among the most consequential expansions: private equity firms own hospital systems, physician groups, emergency rooms, nursing homes, dental chains, and behavioral health facilities. The number of physician practices owned by private equity grew approximately tenfold between 2012 and 2021. Housing is another major expansion: private equity and institutional investors acquired hundreds of thousands of single-family homes following the 2008 financial crisis, and now own significant shares of rental housing in major markets. Media companies — newspapers, local television stations, radio networks — have been acquired in waves of private equity consolidation, with generally devastating effects on newsroom employment and local coverage. The common thread across sectors is that private equity has moved into industries that serve essential needs — healthcare, housing, local news — where customers and communities have limited alternatives and where cost-cutting has consequences beyond reduced profits.
Why it matters
The empirical record on private equity's effects on employment and wages is damning in ways the industry's public relations apparatus has worked hard to obscure. The industry's trade association, the American Investment Council, publishes periodic reports claiming that private equity creates jobs at above-average rates; independent researchers examining the same data have consistently found the opposite. A landmark 2019 study by economists Ayash and Rastad found that private equity-owned companies go bankrupt at roughly twice the rate of comparable public companies. Research by Steven Davis and colleagues found that private equity buyouts reduce employment at acquired firms by an average of 3–7% in the years following acquisition, with the job losses concentrated at the acquired establishments and partially offset by job creation at new establishments the firms open — a pattern consistent with cost-cutting at existing operations while expanding into new markets.
Private equity's expansion into healthcare has generated some of the most documented evidence of harm from the industry's model. A 2023 study in JAMA found that private equity acquisition of hospitals was associated with increased rates of hospital-acquired infections, patient falls, and adverse events — measurable declines in care quality associated with cost-cutting. Research on nursing homes found that private equity ownership was associated with higher short-term mortality among patients — a 10% increase in 90-day mortality in one study — associated with reduced staffing levels and operational cost cuts. When private equity-owned companies in healthcare fail under their debt loads, the consequences are not merely financial: the collapse of Steward Health Care in 2024, one of the largest private equity-backed hospital bankruptcies in U.S. history, left communities across multiple states without hospital access as facilities closed.
The carried interest tax preference is perhaps the most straightforward tax policy question in U.S. political economy, and the failure to eliminate it despite decades of bipartisan criticism illustrates how lobbying power can insulate economic privilege. The core policy question is simple: if two people do identical work for which they receive identical compensation, should one pay a significantly lower tax rate because their compensation is structured as a partnership interest rather than a salary? The economic case for treating carried interest as capital gains — that it incentivizes long-term investment — applies equally to any form of compensation and provides no principled basis for preferential treatment. The CBO has estimated the preference costs $14–18 billion annually. Every major tax reform proposal since at least 2007 has included carried interest reform; it has been partially enacted once (the Inflation Reduction Act extended the holding period from three to five years in most cases). The industry has spent more than $500 million on lobbying over two decades to preserve the preference.
The regulatory gap between private equity and publicly traded companies is a structural feature of U.S. securities law that creates systematic information asymmetries. Public companies must file quarterly financial reports, disclose material risks and conflicts of interest, hold annual shareholder meetings, and comply with extensive SEC reporting requirements. Private equity-owned companies, operating outside the public markets, have far more limited disclosure obligations. Investors in private equity funds — including state pension funds managing the retirement savings of teachers and firefighters — often lack the information needed to evaluate fund performance accurately. The SEC has found in enforcement actions that private equity firms routinely misallocated expenses to fund investors, charged undisclosed fees, and engaged in other practices that harmed investors — practices that would be illegal for public companies and that were discovered only through examination, not routine disclosure.
Sources & Further Reading
- Global Private Markets Report
- Is Bankruptcy Risk a Systematic Risk? Evidence from Private Equity
- Private Equity, Jobs, and Productivity
- Association of Private Equity Acquisition of Physician Practices with Changes in Health Care Spending and Utilization
- Private Equity Acquisition of Hospitals and Patient Outcomes
- Private Equity Nursing Home Takeovers: Effects on Patients
- Options for Reducing the Deficit: Carried Interest