When LPs set the terms

OMERS – which has already gained board approval to commit its share of $5 billion to the alliance – will find three other large pensions in Europe, Asia and the US. They will sign a formal agreement to create a “programme co-investment”, GSI Alliance, whereby they will each commit $1 billion a year for five years to invest in “alpha assets”: large-scale, dominant assets with sustainable cash flows in the real estate and infrastructure sectors. Borealis, OMERS’ direct infrastructure arm, and Oxford Properties, OMERS’ real estate investment arm, will find deals and present them to the alliance board once OMERS’ board has approved them. The alliance board, composed of eight members (two from each alliance member), will decide whether to pursue the opportunity.

The money will be spent over about five years on ‘alpha assets’ in North America, the UK, and western Europe. The investment holding period will be around 15 years, and the alliance will seek to generate average annual cash-on-cash returns of 7 percent to 8 percent and IRRs of 9 percent to 12 percent.

So what do the terms and conditions of a fund created by LPs, for LPs look like? Here’s a hint: no negotiation fees, no financing fees, no acquisition fees, and no fees on committed capital on the alliance.

GSI pitch book language	Analysis
“To ensure the alliance is launched symmetrically based on equal investment and governance rights and obligations, each alliance member will have the right to approve the participation of each member.”	“The issue is that you have to underwrite the other investors at some level,” says Roger Singer, a partner at law firm Clifford Chance. “You need to make sure they share your goals. It’s tough, because this is an asset with a 15-year life. There’s almost no chance that the CIO you’ve endorsed will be there when you go to sell. In a typical limited partnership, you would get a key man clause of some sort. But here you’re entering into a collective investment vehicle without that benefit. There are definitely trade-offs to having this type of structure.” One advantage that GSI Alliance will have over traditional limited partnerships, however, is that there won’t be any undisclosed side letters. Each member has the right to know about every other member’s agreements relating to the aggregated fund.
“As a demonstration of good faith, Borealis and Oxford will share with alliance members information on infrastructure and real estate investments made on behalf of OMERS in the $250 million to $500 million range, excluding follow-on investments in existing OMERS assets. This information will be shared when the transaction is concluded and should reassure alliance members that there was no undisclosed potential conflict of interest between OMERS and the alliance.”	Borealis and Oxford are in-house OMERS investment teams, and OMERS has long done direct investments in the same types of assets that the GSI Alliance would be targeting. One danger would be that OMERS would cherry pick the best deals for itself – this is a way to guard against that. OMERS does get first dibs on any deals the Alliance passes on, however.
“In anticipation of rare events, the alliance agreement will contain a provision that an investor can seek to sell its interest in an asset on the 15th anniversary of acquiring the asset. The other alliance members will have rights of first refusal.”	Singer says this is a wise addition to the LPA. “Without this provision, a situation could arise where no one can get out without a unanimous decision. To me, it’s very tough to be in this kind of fund until everyone agrees to exit.”
“Borealis and Oxford will have the right to asset manage the investments they source for an initial term of fifteen years. In the first five years, Borealis and Oxford will receive an annual asset management fee of 50 basis points on equity under management. Every fifth year from the official signing of each asset management contracts, Oxford, Borealis and the alliance members…will have the right to ask for a review of the fee structure… The objective is not to profit from investment management fees. Consequently, no fee will be levied on uninvested capital. Oxford and Borealis will charge a 50 basis points annual charge on invested capital. Secondary charges incurred by Oxford for leasing and development costs will be paid by the appropriate real estate SPV. Oxford and Borealis will not have a carried interest, nor will they charge acquisition or disposition fees beyond reimbursement for out-of-pocket third-party costs normally associated with transactions.”	“It’s not clear how the fee structure would align the interests of the deal sourcing teams with the fund,” Singer says. “Why are Oxford and Borealis doing this? They could be doing it for the management fee, but normally an investor would be concerned that the people who are finding deals are not aligned with the outcome of the investment.” But, he concedes, “this isn’t really a fund, it’s a collective investment vehicle. By giving the partners voting rights, you’re not relying on the manager to the same extent you would be in a traditional fund. If you’re making the ultimate decision, why should you pay the deal sourcing team for how some of these assets perform?”
“Rosewater Global will charge a 35 basis points annual fee on invested capital to: (i) reimburse OMERS for its start-up expenditures; (ii) pay annual operating costs, including the costs of services (other than asset management) contracted from OMERS; and (iii) compensate Borealis and Oxford for reasonable out-of-pocket expenses incurred in pursuing approved opportunities that do not result in an acquisition.”	The Rosewater board will be charged with hiring a management team led by a CEO, probably with no more than ten employees initially. This team will be in charge of contract negotiations, enforcing compliance standards and controls, reviewing due diligence, monitoring regulatory issues, contracting outside services, sourcing new co-investors, and preparing investment proposals with Oxford and Borealis. But whoever Rosewater hires will be working for a salary, not fee income. Any cumulative balance remaining at year end will accrue on an equal basis to the investors in the alliance.
“Rosewater Global management will decide what other services should be developed internally or contracted from outside suppliers. Any such services contracted from OMERS will be awarded on a basis competitive compared with other vendors identified by Rosewater Global management.”	Again, the potential for conflicts of interest exists, as the Rosewater management team will have to decide whether to use OMERS resources (for a fee) or external vendors for any services the Alliance finds itself in need of. How Rosewater will go about establishing a competitive bidding process is unclear, but OMERS assures potential partners that it will.

Ultimately, as long as GSI Alliance can enjoy the same level of access as it would through a traditional private equity fund, this structure is a great idea – they’re avoiding a 20 percent cut to their profits from carried interest.

Particularly in deals where the lead investor is looking for coinvestors, there is an argument that LPs like OMERS don’t reallyneed to pay the extra layer of fees for a GP to bring them in, Singer says. “If Firm A wants to do a $2 billion deal and they only want to put up $1 billion of equity, then they have to go out and find other people,” he says. “Usually Firm A goes out to the usual suspects, the major private equity firms. It may be OMERS’ view that they will become one of the usual suspect, and they won’t need to pay Firm B to bring them in on the deal. I mean what would Firm B really do in this situation? I guess they could spend a lot of money doing the same work that Firm A has already done, or they could say ‘Eh, those guys are pretty smart. They’re doing it, as long as we invest in the same terms, we’ll do it.’”