Placement Agents Under Fire

These are tough times for placement agents.

Fallout from the pay-to-play scandal at the New York State Common Retirement Fund, in which an investment officer has been accused of funneling kickbacks to a placement agency, has led to scrutiny of the role all placement agents play in the fundraising process. In one case, a public pension fund cut them out of the fundraising process completely in order to demonstrate their pledges are on the up and up.

That first blow against the industry was struck by New York State Comptroller Thomas DiNapoli on April 22 when he banned the involvement of placement agents, paid intermediaries and registered lobbyists from investments with NYSCRF. In the wake of the announcement, Los Angeles City Employees’ Retirement System disclosed plans to bulk up its disclosure policies regarding the use of placement agents, while California Public Employees’ Retirement System said it would examine its own disclosure requirements with an eye toward boosting transparency. General partners are also getting in the act: The Carlyle Group, a large, diversifed firm with an ample marketing division, recently went on the record as saying it will no longer use placement agents. Carlyle is among the roughly 20 buyout and venture capital firms mentioned in the documents related to the kickback allegations in New York.

Needless to say, the scandal broke at just the wrong moment for placement agents, which are operating in one of the most dismal fundraising markets in recent memory. Just in the past few weeks, the fund placement units at Citigroup and William Blair & Co. announced they were closing their doors

The fund placement business has now joined investment banking as a profession under siege, and it will be interesting to see how things evolve from here. First reactions tend to be over-reactions. An outright ban represents a concrete action that eradicates even the chance for the appearance of impropriety. But is this really the way to solve the problem? The vast majority of the more than 70 placement agents with significant private equity practices play a critical role in bringing together private equity firms and investors, especially new and smaller shops that lack the resources and staff to support extensive fundraising efforts. Pensioners are of course poorly served by investment officers that corrupt the investment process by steering kickbacks to crooked placement agents; but neither are they served well by policies that discourage top-notch investment managers from pitching opportunities.

A key point to remember here is that the root of the problem in the NYSCRF case doesn’t appear to be a placement agent that on its own set itself up to solicit kickbacks. The corruption is alleged to stem from the combination of an investment officer within the pension fund working in concert with an outside placement agent. After all, the pension fund is where the money is and thus, where the power is. And we all know what power does. To lump genuine placement agents in with those alleged to have received finder’s fees in the NYSCRF case isn’t remotely fair. It’s also hypocritical for buyout shops embroiled in the NYSCRF scandal to distance themselves from any and all placement agents, taking the position that they were innocents, duped by insidious middlemen. At the very least, the private equity players should have done their due diligence, made sure the firms they were paying were properly licensed and registered, and learned exactly what they were paying for.

Judging by the ongoing efforts of New York State Attorney General Andrew Cuomo, who reportedly issued more than 100 subpoenas related to his investigation on May 1, the NYSCRF scandal is far from over. Cuomo was quoted as saying he believes between 40 and 50 percent of the agents that have dealings with the pension funds for the state and New York City are not licensed or registered. If that’s the case, there may be plenty more shenanigans to unravel. Before it’s all over, placement agents may be operating under much more stringent regulations. There’s already been talk of requiring placement agents to register with individual LPs. The industry may end up better off for it. Having to jump a few extra hurdles is preferable to not being able to run the race at all.