LPs seek help ensuring they aren’t overpaying for PE

  • Why this is important: LPs are increasingly looking for outside validation of their private equity fees

New Mexico State Investment Council and California State Teachers’ Retirement System are working through the process of tracking private equity fees and expenses to ensure they aren’t overpaying for their programs.

The two systems are working with consultant Colmore, which was established in 2017 when it spun out of Capital Dynamics. Colmore is led by Ben Cook, a former managing director from fund administrator Ipes.

The trend of post-investment due diligence among LPs to ensure they are getting what they signed for is growing, Cook said.

“We may have accurate records of net returns but can end up having incomplete information on total costs and fees,” Charles Wollmann, spokesman for New Mexico SIC, said.

LPs’ desire to validate fees is driven by changes in legislation and pressure from officials and the public for greater transparency in private equity, which traditionally is an opaque asset class, said Mike Heale of CEM Benchmarking.

California Public Employees’ Retirement System has led the effort on fee disclosures with its Private Equity Accounting Reporting System, better known as PEARS, established in 2015.

PEARS enables CalPERS to segregate the individual costs associated with each of its PE funds, separating management fees from fund expenses while also accounting for carried interest collected by the manager.

It also contains details on fees charged to funds’ underlying portfolio companies, Buyouts reported.

“There is a general wave towards such disclosures, not a flood yet,” Heale said.

LP questions

London-based Colmore is seeing greater interest among U.S.-based LPs. The company receives an average of two or three outreaches per week through its website or email, Cook said.

The LP questions are detailed and many, he said.

“Are we paying what we signed up for? How much does it vary by? Does the variance change over time? [These were] questions all LPs asked,” Cook said.

LPs also wanted to know about errors Colmore found for its U.K. and U.S. LP clients and common LPA terms that were misinterpreted and led to discrepancies, he said.

LPs also asked for comparisons among GP fees and whether hiring Colmore should be a GP cost instead of a LP cost, Cook said.

“We don’t believe this service should be a GP gotcha. For us, it is about enhancing the partnership between GPs and LPs,” he said.

Evolving practice

Fee-validation services are not new and have largely been a reporting and compliance exercise for LPs, said Lorelei Graye of Leodoran Financial.

Graye contributes to Institutional Limited Partners Association and other industry groups developing PE-reporting standards.

“But what we are seeing now is that once a precise and comparable time series of fee data is captured, this suddenly becomes useful, insightful data for the front-office staff in reviewing current funds or negotiating new investments,” she said.

Several types of vendors offer services to capture or validate fees, but some can have conflicts, she said.

LPs must be mindful if those providers also perform other services like selecting investments and thus have a stake in the performance of that manager/fund, Graye said.

Currently LPs can engage investment advisers like Pavilion Advisory Group and large accounting firms that provide forensic, point-in-time analysis of an LP’s portfolio, Cook said.

They could also retain a service where the provider is paid on a percentage of recovery, Cook said.

Colmore represents a third model, providing ongoing analysis, based on existing GP documentation, he said.

When a GP sends its fee charges to the LP, it has to simply mark Colmore on the email, Cook said.

“Colmore compares the fees charged to the limited partnership agreement signed with the GP to ensure all charges line up with the terms of the deal,” Cook said.

Another company New Mexico SIC reviewed for third-party fee-validation was SS&C Technologies. Its fee validation included capturing anomalies, identifying errors in the collection phase and recalculating management fees and incentive allocations, the website said.

SS&C declined comment for this article.

 Action Item: Read Mike Heale’s 2015 paper on cost disclosures for PE here https://bit.ly/1P7qoCm