Unclear and present danger

In January, news broke that KKR had issued fee credits to investors following an exam by the US Securities and Exchange Commission (SEC). The story, originally reported in The Wall Street Journal, received a lot of attention for its exposure of a possible rift in GP/LP alignment of interest, as it appeared that KKR had charged its LPs expenses without disclosing them. But the story also demonstrated something much subtler: the power of an open records request.

“People have figured out that, in an industry full of secrecy, the underbelly is the state pension funds,” one general counsel and chief compliance officer at a mid-market fund tells pfm.

The Journal had accessed the information through an open records request to the Washington State Investment Board. However, it is not just the media who are using these requests to obtain well-hidden fee information. Late last year, Randolph Wieck, a history teacher from Louisville, sent an open records request to the Kentucky Teachers’ Retirement System (KTRS) asking for details on how much the pension was paying in fees for such funds as Carlyle Global Financial Services Partners II and Blackstone Real Estate Partners VII.

KTRS denied Wieck’s request, saying that the information he wanted was protected by non-disclosure agreements because the documents included trade secrets, a stance that many state public records request statutes take on private equity fund information. Wieck is now suing KTRS (one of the most underfunded pension plans in the country). A lack of transparency around alternative investments is one of the main areas of his lawsuit.

Public records request policies have unwittingly become one of the key tools in the current private equity fee transparency debate. The laws, which can vary drastically from state to state, play a crucial role in the intersection between public money and private investment, and have even become the breaking point in some fund manager’s relations with their biggest clients.

Gone fishing

Ever since the SEC’s top inspector Drew Bowden said last May that his team had found “violations of law or material weaknesses in controls” at half of the 150 funds they had examined, the number of open records requests sent from both the media and individuals to public pensions regarding private equity information has been on the rise.

“People began to say, ‘Well, if half of them are crooks, let’s find out who they are,’” says the CCO.

Public pension plans began asking GPs whether or not their funds had been one of those in violation and if they had received deficiency letters. The fund managers responded. Then, public records requests began pouring in, asking for access to this GP/LP communication.

These requests are often a “back door way of accessing deficiency letters,” according to one fund formation lawyer, who has been fielding an uptick in open records requests on behalf of his clients. The requests are usually broad, asking for any correspondence between a pension and its private equity managers regarding SEC enforcement action, or any fund documents pertaining to fees and expenses, for example.

“A lot of these requests, frankly, are fishing expeditions,” comments the lawyer.

The process of responding is fairly standard. The LP must decide if the request fits into the way its state’s statute defines public information. In order to do so, the LP often calls or emails the manager or managers in question. The manager then sends back the related documents with redactions, depending on how they construe the state law. Some state pensions, like Illinois, have been said to respond to requests without contacting the GP at all.

“What you have from the very beginning is an interpretational question,” says the CCO. Most managers rely on the (usually vague) language in the statute and the related judicial interpretation when making their redactions. The process is nuanced depending on each state, and there are even cities and counties with their own policies.

Points of contention

Most of the time, managers and LPs agree on what to redact, say both the CCO and the lawyer, but when they don’t agree, tension ensues.

“If I have a disagreement with the LP where they say they want to reveal 80 percent of the document, and I say 10 percent, I might be in a situation where I have to sue my limited partner and have the court determine that I’m in the right,” says the CCO. “That’s where it turns into bizarro-land where an otherwise friendly relationship between GP and LP turns into an adversarial one.”

Although this extreme has yet to occur, most GPs are taking as many precautions as possible to keep the line between public and private information as clear as possible. Some of the lawyer’s clients include provisions in their LPAs saying that the GP will restrict access to certain information from an LP with more liberal open records request laws. For example, the pension will access fund information through non-downloadable websites or will not be permitted to take notes related to the fund so that there is no paper trail to access. It’s a contractual right of the GP to toggle or tweak info depending on who the recipient is, according to the CCO.

“If someone responds in emails, that’s often a record people want to disclose, so we have seen some sponsors take meetings or telephone calls to discuss the fund instead,” says the lawyer.

Some GPs, however, are taking their precautionary measures a step further by not allowing certain public pension plans into their funds when they are aware that the state has a more public-friendly open records request law. Washington, the source of the KKR documents, is known for its relatively open policy. There is not yet any evidence of managers barring the big investor (which has a 25 percent target allocation to private equity) from investing in funds.

Some clients are less worried about it than others, says the lawyer. Still, that doesn’t necessarily mean they are willing to disclose information given the nature of the current debate: “I had a client that did not have anything whatsoever to hide, but he started to think, ‘If we disclose this, even if the record shows everything was fine, will our name end up in an article where a bunch of other people are named for wrongdoing? Do we even want to be associated with that?”