Corporate Gambling Fever Forgets About Employees

Watch the daily reports of billion-dollar financial deals, of savage board-room fights and lavish executive buy-outs, of mountainous debt and Monopoly-like maneuvers, and it begins to seem as if capitalism is being tested as never before. How free can free enterprise get?

Visit the teeming streets of Manhattan’s financial district and it quickly becomes obvious that nothing matters there but making money. That’s not a criticism. Wall Street performs a valuable function. Its investment houses raise the capital used by corporations to finance the production of goods and services.

But now Wall Street’s gambling instinct is infecting the management of corporations and other institutions that shouldn’t be playing fast and loose. Mergers and acquisitions (M&As;) get more capital than research and development (R&D;). Leveraged buy-outs (LBOs), in which Wall Street financiers and corporate executives go deeply into debt to get control of a company, are being undertaken by America’s best-known corporations: Levi Strauss & Co., Uniroyal Inc., R. H. Macy & Co. and Storer Communications, among others.

All this juggling of assets is made possible by a recently devised Wall Street instrument called junk bonds--securities not highly regarded by rating organizations. Big investment-banking houses pump out these junk bonds, which are snapped up and put into portfolios of major institutions such as pension funds because they pay 3% to 4% more in interest than highly rated bonds.

Through junk bonds, corporations are amassing huge amounts of debt to finance M&As; and LBOs. For example, $2.5 billion of the $6.2-billion pending Beatrice leveraged buy-out will come from junk bonds. Falcon Cable Systems Co., a Northern California TV cable company with total annual revenues of less than $8 million, is raising $50 million from junk bonds to finance future M&As.;

In taking on this debt, corporations are gambling that the economy will stay strong so that they will be able to generate enough cash to pay it off. Nobody knows how this debt will be paid off if the economy turns sour, or when interest rates inevitably are forced upward by the swollen federal deficit, or if corporate profits plummet.

The high-rolling managers pooh-pooh such negative implications of today’s record $1.56-trillion corporate debt. But John O. Wilson, chief economist of Bank of America, worries that “the current economic recovery has not been sufficient to generate large enough cash flows to make bankers confident that corporate debt can easily be paid back.” And Federal Reserve Chairman Paul A. Volcker says that he is especially concerned about risks taken by banks and other financial institutions in creating the debt.

With all this easy credit available, corporate executives have grown restless with business as usual. Why take time to design, manufacture and market a product when you can borrow capital and buy ready-made assets by taking over another company? Or, better still, why not borrow the money and buy out your own stockholders, then sell off some of the assets to pay the debt? Drill for oil on Wall Street! Own your own company without going through the trouble of building it!

Consider this lead on a recent New York Times business story: “One of the pivotal corporate battles of modern times opened quietly last March when a little-known businessman riffled through a stack of papers from Wall Street investment bankers looking for ideas about companies to take over.” The executive was Ronald O. Perelman, who runs a company with the ironically down-home title of Pantry Pride. Perelman decided to go after Revlon, and he won--after a bitter $2.7-billion struggle. Perelman now intends to strip Revlon, keeping the parts that he can turn a quick billion on and selling the rest.

But what about all the Revlon employees? Big corporations are complex bureaucracies in which many people depend on decisions by the man at the top. Yet today’s corporate leaders have adopted the peculiarly Wall Street attitude that it’s their money or careers that they are risking--even though neither is the case. Indeed, one gets the feeling that these corporate gamblers are no more concerned with the effects of their wheeling and dealing on the humans in their organizations than a commodity trader in the coffee pits worries about the welfare of Juan Valdez.

Nobody, not even the experts, can say how this apparent financial mayhem will turn out. We do know that this kind of heady risk-taking makes and loses fortunes for the gamblers on Wall Street; one of these days we’ll find out what it does to the rest of the economy.