New Jersey zeroes in on fees

Director Tim Walsh can’t remember the last time the New Jersey Division of Investment agreed to fund terms that included a 2 percent management fee and 20 percent carry.

That shouldn’t come as a surprise. The $72.5 billion Division of Investment is one of a handful of major industry LPs that has successfully leveraged its size (and ability to make massive commitments) in negotiating more attractive terms from its fund managers. Sister title Private Equity International recently sat down with Walsh and State Investment Council chair Bob Grady to talk about LP-GP relationships and New Jersey’s private equity strategy.

The possibility of larger commitments, which frequently total more than $100 million per fund, has led some of the industry’s more powerful GPs to get creative on terms – even if they are already offering reduced management fees. For example, Warburg Pincus Private Equity XI offered New Jersey a 1.3 percent management fee during the commitment period in exchange for its $300 million investment. That fee then falls to only 1 percent after the investment period has completed, according to New Jersey documents.

By comparison, it is understood that the Ohio Police & Fire Pension Fund will pay a 1.4 percent management fee in exchange for its $55 million commitment.

“We’ll give you a very large commitment, as we did with Blackstone, that ensures you’re going to be a market leader … but in trade for that, let’s have things that recognize we’ve got pressures too,” said Grady, a former Carlyle Group partner.

“There’s an opportunity for friendly, and hopefully, sophisticated limited partners to forge more of a partnership relationship with the general partner and say: ‘Look, how can we work together on a long term relationship?’”

New Jersey’s ability to secure partnerships with its managers became readily apparent in 2011, when the Division of Investment committed $1.8 billion to The Blackstone Group in an arrangement that allows the firm to invest $1.5 billion in tactical opportunistic separate accounts and $300 million in traditional private equity, energy and credit focused fund vehicles.

The New Jersey account was Blackstone’s first with a limited partner that spans all four asset classes (the firm completed a similar arrangement with the California Public Employees’ Retirement System in 2012). In exchange, Blackstone offered New Jersey incredibly favorable terms that will save the Division of Investment millions over time.

Bob Grady

“On the Blackstone thing that we did, on the biggest piece of that, the tactical opportunities fund – on the one hand, we’re doing them a great favor because it really put them on the map and with a very large commitment [that] ensures that will be a successful business for Blackstone,” said Grady.

“But on the other hand, they did us a favor in that we have zero management fee on committed capital, there’s only a 1 percent fee on when the capital’s drawn. The carry’s 15 points, not 20. So, you know, I think we got favorable terms for the investor.”

Since finalizing its relationship with Blackstone, New Jersey has continued to push back on fund terms. Commitments to vehicles managed by firms such as Silver Lake, KPS and other firms have resulted in sub 2 percent management fees, according to documents.

But even as many GPs acquiesce to what industry sources claim to be a permanent shift – The Carlyle Group co-founder David Rubenstein reportedly claimed that no GP was getting 2-and-20 as early as 2010 – New Jersey still occasionally fields pitches from some firms that insist on maintaining tradition.

Walsh recalled one conversation with a private equity general partner seeking 2-and-20 on a first time fund targeting $500 million.

“I go to my board and they’re going to look at me and [say], ‘Why? What’s in it for us? We’re a big investor, we don’t usually do investments direct under $100 million’,” Walsh said. “[The GP] said, ‘Well, we’ve done the math and that’s what makes it work’. And he has five partners and five assistants – that’s 20 people – and that’s $10 million [in fees]. My budget for 65 people is $9 million.”

“I’m sorry, the sympathy hat isn’t out.”