The Compromising Crusader

New York State Attorney General Andrew Cuomo has embarked on a self-described quest to “reform the public pension fund system and end pay-to-play nationwide,” as his press releases state. But if that’s the case, why does he keep allowing many of the private equity players whose acquiescence made the pay-to-play scheme involving New York State Common Retirement Fund possible buy their way out of trouble?

Indeed, as long as firms caught up in the scandal get on board with Cuomo’s moral dictums, they don’t even have to admit they did anything wrong. Cuomo’s ‘Code of Conduct’ prevents signatories from using placement agents, increases their disclosure requirements and places limits on their political contributions, among other things. The penalties for violations of the code are either termination of an existing investment, disqualification from doing further business with the public pension fund for up to ten years, or both.

To date, three entities have agreed to abide by the code: Buyout firms The Carlyle Group and Riverstone Holdings LLC, and now private equity consultant Pacific Corporate Group, which signed on the dotted line July 1. All three also agreed to pay fines ($20 million, $30 million and $2 million respectively) to the state in order resolve probes of their actions with regard to the alleged kickback scheme. At press time, reports surfaced that Cuomo is now pressing for settlements with Steven Rattner and The Quadrangle Group, the private equity firm he co-founded, in relation to his corruption probe. The word from The Associated Press is that, once again, he doesn’t want to press criminal charges.

The question becomes: How much is a crusader allowed to compromise?

The attorney general deserves credit for helping to unearth the scandal. But his quest to reform the system loses credibility if he keeps letting big fish swim wriggle off the hook. To be fair, Cuomo did file criminal charges against Saul Meyer, the founder of Dallas-based private equity adviser Aldus Equity, and he did say the investigation of Riverstone co-founder David Leuschen is ongoing. But for now, Cuomo seems to handing out free passes as long as you’re willing to pay the freight if you get caught.

For all of its bluster, it’s not even entirely clear what purpose this code is supposed to serve. Laws are already on the books that cover the transgressions at the center of the scandal, or else Cuomo wouldn’t have a stick to wield in the first place.

So what gap is the code filling? Where’s the evidence that we’ve reached critical mass on rampant corruption? Consider the volume of private-equity fundraising over just the past five years. With that tidal wave of money as a backdrop, only an infinitesimal amount has been tainted by this scandal. Is this really a Cuomo-to-the-rescue situation?

Much of the code is fairly straightforward, common sense stuff. But, just as it’s hard to argue with the logic of any of it, it’s also difficult to understand the necessity. Cuomo is making an incredible leap here, assuming the worst in every case, determining that the best way to proceed is to effectively outlaw a legitimate fund-placement industry that has a history going back decades.

Without launching into a full-fledged defense of placement agents, I’ll simply say the vast majority of participants in the private equity industry understand the role they play, and value the contribution they make facilitating the investment process. They save time and money on both sides of the GP-LP equation.

“It seems like killing the gnat with the proverbial nuclear bomb,” said Mark Jones, a partner with Chattanooga, Tenn.-based mid-market firm River Associates, when asked about the outright ban demanded by Cuomo’s code. “There are plenty of extremely ethical agents out there. What they’re paid is simply a fee for services, no different than an investment banker.”

It’ll be interesting to see where Cuomo’s quest goes from here. In early May Cuomo said a multi-state task force had been created to investigate pension fund abuse but the results are still forthcoming. At the moment it’s hard to see any traction building for his code if the only industry players willing to back it are the ones he’s got the goods on.

And if he truly has the goods on them but is willing to repeatedly set this precedent, his actions may prove counter-productive. What would be a bigger deterrent to a buyout firm contemplating payment of a sketchy finder’s fee to score access to an influential pension fund? Is it the prospect of paying a fine and signing a piece of paper years later, if indeed they ever get caught? Or a relentless criminal investigation of the entire firm?

Judging by what we’ve seen so far, the majority of the participants in these alleged kickbacks aren’t going to see grave consequences for paying to play. And if the system is truly as corrupt as Cuomo seems to think, there’s something wrong with that.