Private equity firm Cerberus Capital Management recently announced it would sell Freedom Group, the maker of Bushmaster rifles, the weapon used in the Newtown killings. Thanks to some deft PR work, the news coverage was brief, limiting the damage to Cerberus’s reputation from its association with the tragedy. But the episode raises questions about the firm’s risk assessment skills, the push for ethical investments by big investors and prospects for enforceable gun regulations.
Cerberus was pressed to act by one of its largest investors, Calpers, the influential California state employee pension fund. Cerberus will retain a financial advisor to run an auction to sell Freedom Group, a process that seems likely to put the firm in the hands of an overseas owner by sometime next year.
Four points come to mind:
1. It’s about money, not morality.
The New York Times said the move by Cerberus was “a rare instance of a Wall Street firm bending to concerns about an investment’s societal impact rather than a profit-at-all-costs ethos.” That’s a very generous interpretation. Bending to a big investor would be more accurate.
For Cerberus, owning Freedom Group became unattractive because any new gun laws enacted in the wake of Sandy Hook would likely cut the gunmaker’s revenue. Cerberus also believed that mounting public pressure could harm its ability to make other investments or raise new capital, thus depriving the firm of lucrative fees. Putting Freedom Group on the block was a rational financial decision, not a moral one.
Most investors are fine with such economic calculations; after all, they hire fund managers to be ruthless pursuers of returns. But when managers take money from public pension funds like Calpers, they get the social and political considerations in the bargain.
It remains to be seen if Cerberus is prepared to impose a loss on its investors by selling Freedom Group below its cost, assuming the auction produces only fire-sale bids.
2. Is Calpers going far enough?
If Calpers and other investors are serious about calling for the divestment of gun manufacturers like Freedom Group, will they urge their fund managers to sell other controversial holdings, like defense contractors, too? Do they believe the deaths of children caused by unmanned aircraft, for example, are any more acceptable than the Newtown killings? If not, then sell Northrup Grumman and other drone manufacturers.
And why stop there? Sell tobacco stocks, too. Passive smoking kills 165,000 children each year, according to the World Health Organization. Being an ethical investor means having clear guidelines and acting on them consistently, not grabbing quick headlines.
3. Cerberus miscalculated political risk, again.
The Freedom Group isn’t the first investment to drag the very private firm and its founder, Steven Feinberg, into the public light. Cerberus acquired control of Chrylser and the financing arm of General Motors in 2007, only to see the investments wiped out in government-backed restructurings two years later. Cerberus miscalculated the political risk of high profile deals in the auto sector, and now it has misjudged the risk of investing in the gun industry. Cerberus (and the former politicians who lead the firm) get paid handsome fees to make these risk judgments correctly, otherwise investors would buy index funds. The firm might have trouble explaining these missteps at the next gathering of its limited partners.
4. Passing the buckshot.
The sale of Freedom Group by Cerberus does nothing to change gun policy. It solves a problem for Cerberus, nothing more.
In fact, one could argue that a strong owner like Cerberus is best placed to make sure their companies comply with all regulations, operate in a transparent manner and are responsive to stakeholders. Cerberus could have pledged that Freedom Group would not take a stance on gun legislation or fund any campaigns by gun-control opponents. (Freedom Group subsidiaries have been major corporate supporters of the NRA, according to a 2011 report by a Washington advocacy group.)
Those things will be harder to demand from an overseas firm, the likely owner of Freedom Works after Cerberus completes the sale.