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On the one hand, it’s encouraging to see other public pension funds taking up the call by California Treasure John Chiang for full transparency on private equity fees, as well as disclosure of related party transactions. As we’ve stressed, the latter part of Chiang’s proposal for a legislative requirement that public pension fund investments be limited to private equity funds that agreed to those disclosures, is essential to curb private equity grifting. As major investigative stories by the Wall Street Journal and New York Times, as well as some of our posts, have exposed, and the SEC has confirmed, a considerable amount of chicanery takes place via transactions entered into between the companies that the private equity funds buy, and affiliates of firms and individuals close to the general partner. The only way to have any hope of curbing this rent extraction is to force it into the open.
While CalPERS has not formally endorsed Chiang’s plan, in an unorthodox move, CalPERS’ staff has usurped the role of the board in setting legislative policy by telling one of the major private equity publications that it supports Chiang’s proposed legislations. Since CalPERS’ board is unduly deferential to staff, and it is separately hard to make a credible case for opposing Chiang’s proposal, it’s close to certain that the California giant will officially back Chiang’s initiative.
In an important indicator that revelations of private equity misconduct are finally forcing public pension funds to act, both the Missouri state treasurer and the New York City public pension fund system have endorsed the idea of more fee disclosure. But bear in mind that these are endorsements of the general concept of more transparency, when the devil lies in the details. In neither instance is anyone yet calling for new legislation.
In addition, in the case of the New York City pension system, what is being billed as a push for full transparency falls well short by virtue of failing to capture all portfolio company charges. As one expert wrote us, “NYC either knows this and doesn’t care or doesn’t know which is scary.” By contrast, the Missouri treasurer appears to be backing a broader effort.
First on the New York City initiative. New York City’s five pension plans constitute the fourth largest public pension program in the US. From an article in Private Equity International:
NYCRS sent a letter to all of its private markets and hedge fund managers Wednesday, demanding more complete disclosures on current and historical fees by the end of 2015.
The letter, penned by chief investment officer Scott Evans, requests that all GPs and other private markets managers submit capital call and distribution notices that are in full compliance with the latest template from the Institutional Limited Partners’ Association (ILPA).
Each manager must also provide a single, one-time historical analysis with full transparency on the dollar amounts of all base fees, performance fees, other fees and offsets charged by the funds to NYCRS, in accordance with the new ILPA Quarterly Fee template, going back to the inception of each pension’s investment in any fund.
What would not be obvious to a reader of this article is that the ILPA template is inadequate. and would miss abuses that have recently been the subject of settlements with the SEC, such as its most recent high-profile action, its $39 million Blackstone order. One of the agency’s wet-noodle slaps involved Blackstone charging “termination of monitoring fees” which were not set forth in the limited partnership agreement, and were thus not subject to fee offsets (application of a portion of those fees against the annual fees), as investors had assumed. The fact that the New York City pension system is blithely backing an obviously-deficient remedy raises the question: does the staff really not get it, or are the political officials not willing to cross swords in a meaningful way with private equity firms, particularly given their heavy local presence and outsized sway in local elections?
In Missouri, state treasurer Clint Zweifel appears willing to take serious action. What is amusing, if also disconcerting, is how the executive director of the public pension fund, MOSERS Missouri State Employees’ Retirement System) raises ludicrous objections Zweifel’s call to get to the bottom of the fee matter. From Pensions & Investments:
Missouri Treasurer Clint Zweifel sent a letter on Wednesday to the $9 billion Missouri State Employees’ Retirement System, Jefferson City, requesting it formulate a system to measure the total fee cost of private equity investments.
The request follows Mr. Zweifel adding his name to the letter sent Tuesday to SEC Chairwoman Mary Jo White by a number of state and municipal treasurers and comptrollers calling for an industrywide standard to give private equity limited partners more transparent and frequent information on fees and expenses.
By contrast, the same article shows the executive director foot-dragging by making spurious objections:
“The thing I hope people understand is that our activity is net of fees,” said Gary Findlay, MOSERS executive director, in a telephone interview, “so essentially what’s happening is, if you better identify the additional fees beyond what we’re able to capture, all it means is your gross return increases and your expenses increase and your net of fees remain the same.”
This is pathetic. First, as Dennak Murphy of the American Federation of Teachers stressed:
[C]osts matter. What is not measured is not managed. While net returns is clearly what matters most, hidden, secret, and need I say embarrassingly high fees should be disclosed.
As we’ve mentioned, the Maryland Policy Institute has determined that public pension funds give up billions of dollars, or what they estimate as 1.68% in return, by investing in high-fee strategies like private equity.
At a minimum, exposing the total fees that private equity investors pay will put pressure on public pension funds and other private equity investors to crack down on these over-rich fee arrangements, which will provide them more in net returns, contrary to Findlay’s bland claim to the effect that providing more transparency would leave the status quo unchanged.
Second, and as important, Findlay conveniently ignores the issue of abuses and scamming, which more comprehensive disclosure would curtail.
So while these endorsements of more disclosure are a positive sign, it’s key to remember that the incentives of most officials are to engage in lip service and gestures rather than bona fide reforms. That’s why John Chiang calling for a more comprehensive approach sets a standard by which other efforts can and should be measured.