An intresting article on PE and how they can sometimes overburden their portfolio companies with debt.
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If debt is used correctly, it can be a very useful tool in improving the efficiency of a corporation. For example, management with compensation tied to straight common equity must now achieve an even higher IRR on given projects in order to realize value for their equity. In addition, management and the Board would need to think twice about granting lavish corporate offices to execs and tightly monitor fringe benefits.
However, if the debt is being used simply for a dividend recap to the sponsor, or if the PE firm is looking at the investment strictly as a short-term play, etc, then value is likely to be destroyed.
The challenge for PE firms is to be able to pressure management just enough to achieve solid, fundamental long-term results without damaging the company, while pleasing their own investors in the fund.
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