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March 02, 2007

Sarbox and Private Equity

Blackstone CEO Stephen A. Schwarzman pointed out how buy out firms are benefiting from Sarbanes Oxley regulations at the recent Wharton Private Equity and Venture Capital Conference. Knowledge@Wharton has an article based on his presentation at the event:
Public companies are now increasingly open to private equity advances. Sarbanes-Oxley and other regulatory and accounting rules are making some CEOs eager to work for private equity owners. Executives are also tired of the pressure to make quarterly numbers for the benefit of Wall Street analysts. "This is a transformation from 10 years ago when people in the buyout world were regarded as marginal, and becoming the CEO of a publicly traded company was an apogee moment."

Boards and executives are so concerned with Sarbanes-Oxley and compliance that they take very little risk in running their companies. Board members now come to meetings with their own lawyers, Schwarzman said, adding that accounting changes limiting write-offs for extraordinary events, such as plant closings or layoffs, prevent corporate executives from taking steps to enhance their business for fear that their earnings will take a major hit. "We have a bit of a broken system right now and the solution for these frustrated managers is to sell their businesses to private equity."

(Interestingly, Schwarzman also said at the event that the party time for buyout firms was probably nearing its end. He foresses the rise in interest rates and an overdue relaxation in Sarbox regulations tilting the field back in favor of strategic investors.)

The same article has David Brandon who took over as Domino's CEO post its buyout by a group of PE firms led by Bain Capital providing a slightly contrary view that life as a public company CEO was not too different from that under PE firms.
Brandon stressed the importance of working in partnership with private equity owners. "The ability to work with the sponsor company in a spirit of trust and fairness is what it's all about." Bain exhibited its faith in him when it allowed Brandon to make the call on when to go public, he said. "I believe management teams are the ones that have to pay back debt and take the company public. We are responsible. We can't be reluctant partners."

Brandon noted that he has now taken two companies public -- one before Enron and one after. "This time around was dramatically different." The process was harder and independent directors -- he serves on three other boards -- now have a "bunker mentality." New committee structures, Sarbanes-Oxley and whopping fees paid to auditors all make for more "moving parts" in running a public company. "It's changed how I allocate my time, but I don't think that, in and of itself, is going to make every company run back and become private."

Brandon recalled that after Domino's went public, he was often asked whether it was difficult to meet Wall Street's quarterly expectations. His response: "Have you ever looked at the expectations of those Bain guys? It wasn't like I was with a bunch of wimps who didn't care. They and their investors had thresholds. So whether I'm trying to ... satisfy and impress Bain, or show results for public investors, to me it's all kind of the same thing. It's all about performance."

Arun Natarajan is the Founder & CEO of Venture Intelligence, the leading provider of information and networking services to the private equity and venture capital ecosystem in India. View free samples of Venture Intelligence newsletters and reports.