When Does Private Equity Actually Create Value?

Private Equity Is Powerful—but Expensive

Private equity (PE) has become a major force in the global economy, controlling tens of thousands of companies and managing trillions of dollars on behalf of investors. Yet debate over its impact often boils down to competing narratives: PE either makes companies more efficient or extracts value at the expense of workers and consumers.

Swedish House of Finance (SHoF) researchers Per Strömberg of the Stockholm School of Economics (SSE) and Christian Thomann of KTH Royal Institute of Technology (KTH) argue that the evidence is better understood as a trade-off.

PE can create value because its owners are concentrated, informed and actively involved. They can replace management, redesign incentives, change strategy, reorganize operations and alter capital structures in ways that dispersed shareholders in public companies often cannot.

But those benefits come at a price.

The evidence presented in the paper suggests that the cost of PE equity is 7–10 percentage points higher per year than public equity, reflecting fees and an illiquidity premium. That means PE ownership only makes economic sense when active ownership can create enough additional value to cover those costs.

Why Some Companies Make Better Targets

The framework helps explain why most companies are not owned by private equity.

Only 4% of buyouts in the authors’ PitchBook sample are public-to-private transactions, although these account for 27% of deal value. Around 63% involve independent private firms.

For smaller private businesses, PE can provide capital, professional management and expertise that may otherwise be difficult to obtain. It can also allow founders to diversify their personal wealth, making them more willing to pursue riskier growth strategies.

Corporate divisions can benefit for a different reason. Businesses neglected inside large conglomerates may receive more management attention and investment after being carved out.

The evidence reviewed in the paper points to significant productivity improvements following buyouts and, particularly among private firms, higher sales and employment growth. PE-backed companies also frequently expand through acquisitions.

Why Buyouts Use So Much Debt

The framework also provides a simple explanation for one of private equity’s defining features: leverage.

Because private equity capital is expensive, PE investors have a strong incentive to finance acquisitions with cheaper debt. Previous research cited by the authors finds that the typical buyout is financed with roughly two-thirds debt, versus about one-third for comparable public companies.

That higher leverage raises default risk. But PE-backed firms may also be better equipped to handle distress because sponsors can inject fresh capital and have experience restructuring troubled companies.

Credit conditions therefore shape the entire PE market. When borrowing becomes cheap and plentiful, more companies become viable buyout targets. The downside is that PE firms may then acquire increasingly marginal companies where the underlying operational improvements are smaller.

Not All Stakeholders Experience PE the Same Way

The evidence on workers and consumers is more nuanced.

Employment effects are generally small and vary considerably across buyouts. Public-to-private deals can involve job losses, while private-company buyouts can generate employment growth. Some research finds improved workplace safety, while other studies report lower employee satisfaction.

For consumers, market structure appears especially important. PE ownership has produced positive outcomes in transparent and competitive industries such as restaurants. But studies of nursing homes, hospitals and for-profit colleges identify cases where strong profit incentives have coincided with worse outcomes for customers or taxpayers.

The authors conclude that private equity should therefore not be viewed as a universally superior ownership model.

“It is a powerful and costly means of governance whose welfare effects depend on selection, market structure, and regulation,” they say.