What I Do
Deborah Cannada, Librarian - West Side Elementary School, Charleston, WV.
This election year, the two candidates are engaged in a long-overdue debate over the proper role of business in American society. At the heart of this debate is one question: Is business simply about making money any way you can, including at the public’s expense? Or should we expect business leaders to create real value, to build businesses rather than destroy them, to contribute to building healthy communities by paying their fair share of taxes and, most importantly, to care about what happens to America, to our people and to our communities?
This summer, all across America, working people have stood up against the forces driving the outsourcing of our jobs and the hollowing out of our economy. From Maine to San Diego, we have demanded that our elected officials take a stand against tax breaks for companies that move jobs out of the United States, for an end to tax deferral on overseas corporate profits, for an end to China’s currency manipulation, and for an end to corporate-dominated trade deals.
But incentives for outsourcing in our tax code and in our trade agreements are just part of an overall way of doing business that for 30 years has hurt America. This business model has made our economy weaker and our society more unequal, it has hollowed out our tax base, and it has wreaked havoc on our communities. This year, thanks to the spotlight the presidential campaign has shone on the activities of Bain Capital and the personal tax returns of Republican presidential candidate Mitt Romney, we can see this destructive model at work in all its detail.
The Romney business model begins with the leveraged buyout (“LBO”) fund. This is what Bain Capital was. It borrowed money to buy companies. Then in the 1990s, after disastrous leveraged buyout deals such as RJR Nabisco discredited the term, surviving LBO firms such as Bain Capital renamed themselves “private equity.” However, the business model remained the same--buy stable businesses with borrowed money, then cut costs and investment to the bone to pay back the debt.
This business model was, and is, totally dependent on a completely unjustifiable tax subsidy, one of the largest hidden subsidies in our corporate tax system: the fact that interest on debt is deductible from corporate tax returns while dividends paid to stockholders are not.
Companies that become loaded down with debt in this way can have a hard time making their interest payments and are very vulnerable to economic downturns. Warner Music Group is an example of a business that fell prey to the leveraged buyout titans. In 2004, a group of LBO investors that included Bain Capital purchased the Warner Music Group for $2.6 billion, half of which was financed by debt. Within 18 months, the investors laid off 20 percent of the workforce of the Warner Music Group, discontinued contracts with 30 percent of its artists, and paid themselves more than $1 billion in dividends and fees. (1) After all that, the leveraged buyout investors continued to own a majority stake in Warner Music Group, which they sold last year to a Russian investor for $1.3 billion.(2)
The next step in many leveraged buyouts is outsourcing—closing plants and selling assets, using the returns to pay back the loans, and then contracting production out to low-wage factories in other countries, usually where repressive governments prevent workers from organizing their own unions.
This is precisely what happened when Freescale Semiconductor was taken over in a 2006 leveraged buyout. In the first year after the buyout, Freescale was forced to pay $760 million in interest on the debt it assumed because of the LBO. In 2007, it laid off more than 2000 employees and outsourced a substantial amount of work, including 50 percent of its assembly, packaging, and testing.(3) In the fall of 2007, Freescale announced plans to open a design center in China that would employ 100 engineers. (4) In 2009, with the company still struggling to keep up with its debt payments, Freescale restructured its debt, forcing bond investors to accept heavy losses. (5)
This business model would not be possible without trade policies aimed at protecting the overseas investments made by multinational companies that happen to be headquartered on U.S. territory rather than creating jobs in America or opening up overseas markets for the export of U.S. goods. Under pressure from businesses built on the outsourcing model, our trade negotiators routinely agree to provisions in our trade agreements that provide incentives for the export of good jobs overseas. Even worse, our trade negotiators all too often fail to enforce commitments made by our trading partners.
The business leaders who practice the business model of leveraged buyouts and outsourcing wield their considerable political influence to preserve and expand the incentives in our tax code and our trade agreements that make this business model possible. They are why we still have tax laws that subsidize moving costs and allow firms to lower their tax bills by keeping their profits parked offshore where they do not have to pay corporate taxes on them.
But the greatest tax breaks go to the people who run leveraged buyout firms. LBO managers charge their investors huge fees—typically 2 percent of the assets under management plus 20 percent of the profits over a minimum level of profit. This 20 percent is called the carried interest. Carried interest is not a return on investment; the managers of the leveraged buyout fund do not put up 20 percent of the capital in a leveraged buyout fund. Carried interest is a fee for managing the fund. It is wage compensation of a very lucrative kind. But since the 1980s, our tax laws have treated carried interest as if it were capital gains—a return on investment—and carried interest has been taxed at the 15 percent rate that applies to capital gains, which is less than what most middle class Americans pay on their income. Closing this loophole could raise as much as $23.3 billion over 10 years. (6) But carried interest is only one of the more outrageous ways in which tax breaks for capital gains enrich leveraged buyout artists.
Getting away with paying an individual income tax rate of 15 percent on millions of dollars of income is not good enough for the practitioners of the leveraged buyout/outsourcing business model. Most of the business entities used to manage leveraged buyouts are incorporated in such offshore tax havens as Bermuda and the Cayman Islands, so as to avoid paying corporate taxes. The most aggressive practitioners of the art of tax avoidance deposit their profits in bank accounts in such tax havens as Switzerland and the Channel Islands in the pursuit of even lower tax rates on their investment earnings. Each year, the United States loses an estimated $100 billion in tax revenue due to the abuse of offshore tax havens.(7)
What are the consequences of this business model for its practitioners? Vast fortunes, earned almost tax free. In Mitt Romney’s case, $22 million per year, on which he pays less than 15 percent in income taxes.
What are the consequences for America? Millions of lost manufacturing jobs, a hollowed out tax base, an endangered middle class, and a rising plutocracy whose wealth and political power is not compatible with the promise of American democracy.
How serious are the fiscal consequences of this model? We face another fiscal showdown early next year over scheduled across-the-board sequestration budget cuts that eventually will total $1.2 trillion over 10 years. These across-the-board budget cuts are unnecessary. Simply ending the tax subsidy for capital gains, ending the tax deferral of offshore corporate profits, and ending the tax subsidy of corporate interest payments—which are all critical pillars of Romney-style crony capitalism—would generate more than $1.2 trillion in revenue.
So when President Obama says Romney style capitalism is the problem, not the solution, he is talking not only about the difference between his vision of American business and his opponents’ vision. He is also shining a light on a dirty big secret of American economic life: that too many of America’s business leaders have turned away from creating jobs and building up our common wealth and toward a destructive form of crony capitalism that depends on tax breaks at home and repressed workers overseas.
It is high time the American people got the chance to hear this debate out in the open and choose what kind of economy we want to have—an economy where business brings jobs home, creates new jobs in America and pays its fair share of taxes, or an economy where a few financial wizards get rich hollowing out our economy and our tax base.
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