Private equity firms trimming the size of portfolio company workforces are not creating significant value, according to a new study from the European Corporate Governance Institute.
The study, which focused on UK businesses, raises questions over the popular perception that private equity firms are rewarded financially for slashing jobs.
Indeed private equity backed-companies undergo a significant decrease in the first year of ownership compared to non-acquired firms, according to the study. However, no subsequent increase in productivity or profitability was discovered in acquired firms.
“Downsizing does not appear to be effective either in disciplining staff or in imparting a clearer focus to activities,” noted the study’s authors, Cardiff University’s Marc Goergen and Sheffield University’s Noel O’Sullivan and Geoff Wood.
Two possible reasons were provided to account for this. Firstly that job losses affects the morale of the remaining staff. Secondly that a new management team lacks detailed knowledge of the company’s “cognitive assets”.
The study states that any gains through discipline and more effective divisions of labour are offset through a loss of “accumulated capabilities.”
Takeovers which do not involve the existing management team may result in the “human capabilities” of the company being undervalued, the study said. Those with insider knowledge of the company are seen to be more likely to have a detailed understanding of past events in the company’s history and be able to draw on the insight such experiences have given them.
A takeover from outsiders may result in this insight being discarded highlighting the need for new management to better understand the link between employment and performance.
However the study does not follow acquired companies for longer than three years after the acquisition and so may ignore the long term impact of the employment consequences.