KKR addresses operating unit fees

Against a background of private equity firms coming under tighter scrutiny around fees pulled from portfolio companies, Kohlberg Kravis Roberts was asked to clarify its relationship with consulting firm KKR Capstone during its second quarter earnings call on Thursday.

Over recent months, the $98 billion asset manager has come under fire for its relationship with KKR Capstone – its operational unit once thought to be an affiliate of the group.

“At its core, Capstone is not an affiliate. Capstone is a consulting firm that provides services to KKR portfolio companies. When you talk about economics, the fee income that they receive [for] the services they provide are paid to all the Capstone executives,” KKR chief financial officer William Janetschek explained.

“The carry pool that we have, that is shared throughout KKR, a portion of that is actually allocated to Capstone executives – [but] that comes from KKR economics, not our fund economics.”

Scott Nuttall, head of KKR’s global capital and asset management group, added, “KKR owns no equity in Capstone so the legal analysis is it is not an affiliate. We’ve been open about that with our investors from the get-go, it is actually in the limited partnership agreements – how the relationship works – so we don’t think that the people that we work for have any confusion on the topic.”

Nuttall added that the firm’s portfolio companies pay Capstone directly, “so the bottom line is we don’t expect there to be any impact on KKR, it is actually not in our financial statements.”

Janetschek reemphasized, “To be clear, none of the segment results that we provide have any Capstone economics running through [them]. Those fees are paid by the portfolio companies to Capstone and do not show up in our results,” adding that no onus falls on the GP or LPs when paying fees to the operational unit.

Their clarifications echo what KKR spokespeople have relayed to the media in recent months after questions had been raised over the relationship.

Nevertheless, Capstone does share services, including office space with KKR and gets most of its work from KKR portfolio companies. Moreover, the firm has referred to Capstone as a subsidiary or an affiliate in various earlier public statements – although the firm has addressed this question saying those statements had been made in error.

The fee issue continues to be a point of contention for private equity investors, with the US Securities and Exchange Commission shining a bright light on the issue.

In April, the regulator first leaked reports suggesting that private equity firms were taking advantage of LPs through egregious fees. Its chief inspector Andrew Bowden then suggested at PEI’s Private Fund Compliance Forum in May that it had found irregularities at around half of newly-registered firms. The investigation is on-going.