Thrown into reverse?

The state of California is trying to drive progress in private equity fee reporting, but the well-intended move could send LPs and GPs into a spin just as the Institutional Limited Partners Association template is making ground.

Peter Friere, chief executive of ILPA, kicked off the year by saying GPs should use his organization’s fee reporting template, or regulators would jump in.

Now, his prediction has come true. It’s not the SEC that has come wading into the fray, but the State of California.

The Golden State, of course, has some of the US’ largest public pensions, and a tendency to tell them what to do.

Proposed bill AB 2833 would require public retirement systems to ask each alternative investment vehicle in which it has commitments to make disclosures regarding fees and expenses. Pensions would also have to disclose that information at least annually at a public meeting.

Vehicles would have to disclose management fees, carried interest, expenses, and gross and net internal rates of return of each fund since inception.

Some would argue this is a positive development, backing up the need for a uniform reporting system with legislation. But it is likely to have unintended consequences.
The main problem with AB 2833 is that it doesn’t say how pensions should achieve this goal, leaving each plan to come up with its own format. As a result, an issue which is already complex could become even more so.

Historically California has reacted more dramatically to industry developments than its peers. But imagine if it sets a precedent and each state decides to jump into the fee-reporting debate. GPs could easily be looking at 50 different ways of reporting.
California pension plans, realizing this, are suggesting changes to AB 2833. CalPERS supports the bill in principle (see p. 8). But it has several objections.

One of the problems with AB 2833 is that it covers funds being amended, forcing GPs to renegotiate reporting requirements in agreements that could be at least 10 years old. This could force CalPERS not to make changes that are in its best interest.

The pension also noted combining the reporting of carried interest with that of management fees and expenses would be inconsistent with its own practices and those of most other LPs.

Overall, adopting AB 2833, as is, would lead to increased costs and, says CalPERS, lower returns because retirement systems couldn’t back firms that refuse to agree to the disclosures. Several private equity funds are already excluding California pension plans due to reporting requirements.

There’s no such thing as a perfectly drafted piece of legislation and there is still room for discussion and modification. Let’s hope that the state of California listens to the concerns of those running its pension plans – not least for the sake of their members.