Ah, the charming British High Street or Main Street, if you're American, with its cobbled streets, picturesque pubs and cutesy bakeries. But there's an uncomfortable truth lurking behind the storefronts Because a lot of these stores are not owned by independent shop keepers or even big multinationals. Instead, they're controlled by private equity investors.
In fact, private equity has flown into the UK at an unprecedented rate since Brexit, hoovering up scores of high street names such as Burger King, New Look and Pizza Express. This is a story about the Private Equity raid on some of the best known high street companies in the UK in the aftermath of both Brexit and the Covid-19 pandemic. Now, as the UK adjusts to new economic realities the private equity boom could pose a problem for the future of the British high street and the millions of people who work on it, because most private equity is dependent on one thing: Debt.
Let’s start by unpacking how private equity works, and in particular, the main tool in the industry's arsenal - the leveraged buyout. Okay, so imagine you want to buy a little shop for, say, 500,000 pounds. You use 100,000 of your own money to pay for the deposit, but you borrow the remaining 400,000 usually from a bank.
You spend another 50,000 pounds sprucing the place up, then sell it three years later for 800,000. That covers your costs and whatever you still owe the bank and you pocket the difference as profit. Now imagine that rather than you being responsible for repaying the money you borrowed.
The shop itself was responsible. Not you, the shop. You can walk off into the sunset with all the proceeds of the sale.
The shop’s new owner now has to find a way of repaying what you borrowed. That is sort of how leveraged buyouts work. You buy a company and fund much of the purchase price with debt or leverage, often in the form of bonds.
So essentially you can buy a really massive company and load it up with debt to pay for your aquisition of that company. And if the company goes bust, you don't lose as much as if you paid for the whole thing with cash. Let’s get back to the UK to understand what’s been going on here we’re going to look at Morrisons.
For much of his existence it was family owned and until recently it was one of the big four supermarket chains. One look and you’ll know, our prices are low, whenever you shop at Morrisons. Look at this chart.
It shows how Morrison's valuation compares to US retailers as a multiple of their earnings. That's just a way of comparing companies on a like to like basis, even if the firms aren't the same size. And in the years immediately after Brexit, the valuations were pretty comparable.
Until the pandemic came along. Then look what happened. The US retailers recovered with the post-pandemic spending bump.
Morrisons did not. Morrisons valuation was cheaper compared to U. S.
peers making it quite attractive for an external buyer. . So in 2021 we’re just coming out of Covid lockdown and there is a bidding war for Morissons between Private Equity firms.
The American firm Clayton, Dubilier & Rice emerged victorious paying about 7 billion pounds in October 2021. Just a few months earlier Morrisons had been valued at 4. 5 billion pounds.
But even that inflated price seemed worthwhile because low interest rates meant it was easy to borrow a lot of money. And Morrisons wasn't alone. Private Equity piled into Britain in a big way in the years after Brexit.
And outlook negative. Post Brexit there was a lot of uncertainty in the UK economy. I think that was compounded by the effects of Covid.
And suddenly these American Private Equity companies were looking at British assets that were valued far less than they were just a few months ago. Between 2016 and 2023 Private Equity companies spent nearly 200 billion dollars buying British companies. That compares to about 81 billion dollars in Germany and 36 billion dollars in France.
Essentially you walk down any UK High Street and the chances are you’re going to be looking at private equity owned firms on either side. The Body Shop, Pizza Express, Wagamamas, Byron Burgers. Zizzi or New Look.
In fact there are scores of High Street brands that are now controlled by private equity and similar investors. And that was because British companies in general became a lot cheaper. You can see that in this chart.
Publicly traded American companies simply became a lot more valuable than British ones after Brexit. A British firm that makes a dollar of profit is on average given $11, a value. American firms get 20.
So remember that little shop we talked about earlier and how its purchase was financed with a lot of debt? In the case of Morrisons, it was something like 6. 6 billion pounds.
Here’s the important bit. When CD&R bought Morrisons, interest rates were low. But since then, they have increased.
Around half of Morrison's debt that's around 3 billion pounds is affected by interest rates going up. So that debt is now much more expensive. The reason that’s a problem is that Morrisons competes with other supermarkets on price.
And now it has to pay hundreds of millions of pounds more each year in interest payments. They were just about making enough money to pay their debt, which meant that when Aldi and Lidl came in during a cost of living crisis and cut prices, Morrisons simply couldn't keep up with them. Morissons simply couldn’t keep up with them.
That's helped Aldi overtake Morrisons as the UK's fourth biggest supermarket. To deal with the suffocating debt load Morrisons has sold assets, including a 2. 5 billion pound deal for its petrol stations in January.
It's hoping that will let it offer lower prices to shoppers. These problems are besetting a lot of the businesses that private equity has bought. All of this matters because private equity backed companies employ 1.
9 million people in the UK and their suppliers employ another 1. 3 million people. When these deals go wrong, it can have real world impact.
So it can mean higher cost of goods for consumers. And we can also see jobs lost. This is something that a number of politicians are already quite concerned about.
How can you ensure the increased cost of borrowing won’t be passed on to consumers? We’re not about sweating assets at all. Our customer experience, CSI, is improving as we speak today.
We’re absolutely focused in delivering value for our customers. We’ve seen the owners of Asda, the billionaire Issa brothers and TDR being hauled in front of a parliamentary committee recently where they were questioned about so called price gauging. The Bank of England has been worried about increased private equity ownership of British companies, they are worried about increased debt levels, and they are worried about the impact it will have on the British economy.
But with the general election on the horizon, the solution may not be as simple as imposing higher taxes on private equity deals. It's difficult for politicians to really crack down on private equity companies because after Brexit Britain has been searching for external investment and options are thinning on the ground a little bit. Proponents of private equity firms say that the money that they bring into the UK economy is super important, because there's just not that much foreign investment coming into the country right now.
And I think that's the line that the Labor Party, if they do come into power, is going to have to tread very carefully.
