Review of 2016: The demands of transparency

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PEI's Arleen Buckley presents the pfm Leadership Award to Joshua Cherry-Seto

If there was one common theme that reverberated throughout the 2016 PEI CFOs and COOs Forum, it was transparency. The importance of disclosure was stressed during the opening keynote address by Peter Freire, chief executive of the Institutional Limited Partners’ Association, setting the tone for the remainder of the conference as delegates dis-cussed how best to confront the demands for greater transparency from investors and regulators alike.

For private equity chief financial officers, improving transparency often means handling increased investor reporting requests. LPs are now four times as likely to name reporting as their number one area of concern for private equity funds than they were in 2014, according to an EY investor survey unveiled at the event.

Conducted in conjunction with parent publisher PEI, the survey asked investors to name their top private equity fund-related concern beyond track record. While 11 percent of LPs said reporting was most important in the 2014 survey, a whopping 44 percent named reporting as the num-ber one concern in 2015.

This massive shift is burdening finance teams to search for answers to better data management and technology. The issue is especially perva-sive because of the current reliance on manual processes at many pri-vate equity firms, noted Scott Zimmerman, EY private equity assurance leader for Americas and one of the lead authors of the study.

“There are not a lot of sophisticated, integrated systems where infor-mation can flow from one piece of the business to the other. Instead there are numerous bridges that have to be walked across, and usually those bridges are spreadsheets,” noted Zimmerman. “It’s creating a real burden on finance teams.”

Indeed, 63 percent of the CFOs surveyed stated that data was the most significant operational challenge they currently face.

But as private equity funds become more digital in order to keep up with increased investor and regulatory reporting, the importance of cyberse-curity only grows, noted Zimmerman.

While private equity funds are increasing their focus on cybersecurity policies and programs, only 7 percent of the investors surveyed said they were satisfied with fund managers’ current cybersecurity policies. Interestingly, most of those investors also said they did not see cyberse-curity as a high risk in current regulatory campaigns.

“Cyber-threats are a real business risk; the day cybersecurity becomes a top priority is the day one of their funds is directly affected,” said Zimmermann. “There just needs to be a wake-up call, and it will happen, just a matter of when.”

Increased scrutiny of private equity by the Securities and Exchange Commission was also a big topic of discussion at the conference. Two of the SEC’s private equity experts, Igor Rozenblit and Jennifer Duggins, addressed industry concerns surrounding the regulator’s scrutiny of fees and expenses, and the way it works with chief compliance officers.

They warned the industry that the SEC was closely watching end-of-life funds and studying how general partners were dealing with so-called zombie situations.

A number of funds raised in 2002 and 2003 are now past their extension periods and GPs may be tempted to turn to secondaries markets for GP-led restructurings or stapled secondary transactions, to return cash to their limited partners and to raise fresh capital. While there’s nothing inherently wrong with those transactions, they are rife with conflicts of in-terest which need to be effectively managed.

“We are coming out of a strong fundraising market and those that have not been able to raise capital in the current market might be tempted to resort to creative approaches in markets that are less favorable,” said Igor Rozenblit, co-head of the SEC’s private funds unit.

“We are watching to make sure that those creative approaches don’t cross the line and violate federal securities laws.”

Conflicts of interest and fee mismanagement can arise from certain transactions such as GP-led fund restructurings and stapled secondaries. Zombie funds, which are past-term vehicles which are unlikely to raise additional capital and keep collecting fees, are also on the SEC’s radar.

The SEC also reassured the audience its mission was not to go after CCOs, despite having charged several in cases last year, prompting a heated debate regarding CCO liability. 

However, according to Jennifer Duggins, new co-head of the SEC's private funds unit, the regulator typically prefers not to charge CCOs, but exceptional situations, including blatant negligence or fraud, may require it. She added that as a former CCO herself, she understands the pressures they face.

“We are going to assess quickly whether a CCO is not doing his or her job and we have the ability to determine whether that may be because the CCO has too many responsibilities or whether he or she is not get-ting the resources they need,” she said.

At the conference, Blue Wolf Capital Partners’ chief financial officer Joshua Cherry-Seto accepted the pfm Leadership Award, given in recognition of an individual able to advance any number of key issues and causes important to the private fund CFO and COO role. The award is wholly determined by pfm’s editorial staff. Past award recipients include ex-Adams Street CFO William Hupp and The Riverside Company COO Pamela Hendrickson.

Cherry-Seto was selected as this year’s winner for a number of reasons, but his work in the mid-market space, often overshadowed by the more visible large-cap end of the market, is what sealed his selection. He is actively involved with multiple mid-market private equity groups and initiatives, including a handful established by the Association for Corporate Growth, a trade body which focuses on the mid-market.