Fortress talks LPs through CEO transition

The firm has kept its limited partners updated on the situation with its CEO Daniel Mudd, who has taken a leave of absence amid SEC allegations, even though Mudd was not a ‘key man’ in the firm’s private equity funds.

Daniel Mudd, the chief executive officer of Fortress Investment Group who has taken a leave of absence, is not a “key man” in the firm’s private equity funds and his departure is not that concerning to limited partners.

While Mudd ran the daily operations of the business as a whole, he was not involved in investing the private equity funds, according to one of the firm’s LPs.

Mudd announced he was taking a leave of absence from his role at the firm after the US Securities and Exchange Commission sued him for allegedly misleading investors about the level of exposure to subprime mortgage debt at Fannie Mae when he led that organisation.

The charges have no relation to Mudd’s time at Fortress, which began in 2009 when he was brought on to work as CEO, leaving other firm principals like founder Wes Edens to focus on investments.

As an LP, I expect to get all of the bad news along with the good because this has to be a fundamental, inviolable principle of aligned interests in a partnership.

Limited partner

While Mudd’s departure is not seen as a major hitch in Fortress’ private equity business, more concerning to LPs is the gap he leaves behind. Firm co-founder Randal Nardone has stepped in as interim CEO, the firm announced Wednesday, but LPs are wondering if the firm’s principals, such as Edens, will have to focus more on managing the company and less on investments.

“Our concern, even if he didn’t step down, [is], are you going to have to pull the investment professionals back into the organizational issues … get their eye off the ball of actually investing on the fund side?” the LP told Private Equity International. “Since this is just an interim appointment, does that mean the other guys are a little more involved?”

The firm has done a good job keeping LPs updated on the situation, the LP said. In situations like this, it’s essential to give LPs all the information, both good and bad, according to one experienced funds investor who is not connected to Fortress.

“As an LP, I expect to get all of the bad news along with the good because this has to be a fundamental, inviolable principle of aligned interests in a partnership,” the LP said. “Outside of dealing with bad behavior … a rare occurrence, on something as simple and commonplace as information rights, when we detect even a slight resistance to how much and what type of information the GP is willing to disclose, the antenna goes up and more questions get asked.”

Fortress’ private equity funds have had a rocky ride through the economic downturn, especially as they have heavy exposure to real estate. The firm’s fifth fund was generating a negative 15.6 percent internal rate of return as of February, while the fourth fund was producing a negative 5.02 percent IRR, according to performance numbers from the University of Texas Investment Management Company, as of February.

However, the firm’s credit-related private equity investment vehicles have been some of the best performing funds in the industry for their vintage years. The first Credit Opportunities Fund, which collected $3 billion in 2008, was generating a 33.4 percent IRR and a 0.92 cash-on-cash return, according to the UTIMCO data.

The firm closed its second credit private equity fund on about $2.8 billion, and is in the market raising its third vehicle, having already collected about $800 million as of 31 October.

Fortress’ credit investment business – which includes private equity-style and hedge fund vehicles – is headed by Pete Briger, co-chairman of the firm.

“They’ve done a really good job of selecting credits that are esoteric in nature,” said an investor in the funds. “They kind of take unique credits that are largely overlooked by traditional distressed buyers, that tend to be asset heavy, with a lot of complexity.”