Friday Letter Getting LP compensation right

Two US private equity investors recently made encouraging moves towards stemming the ‘pension brain drain’.  

Florida’s massive state retirement system, one of the largest US public pension schemes with about $119 billion in total assets, is “re-assessing” the way it pays its investment staff. Florida’s plans, which Private Equity International previously revealed, came around the same time that the Orange County Employees Retirement System (OCERS) revealed that it, too, was considering overhauling its compensation scheme for investment staff.

The announcements couldn’t have come soon enough. Plans by these two limited partners are hopefully just the beginning of an extensive revamp of the way investment professionals are paid at US public pensions. Given their civil service wages – and the political headache that comes with trying to make public sector compensation more competitive with the private sector – systems are faced with the risk, every day, of losing the very talent that helps them meet their obligations to their retirees.

This so-called ‘pension brain drain’ is particularly worrying for private equity fund managers. An official who spent years building up a private equity strategy and programme might leave, only to have their successor – or junior staff members who take over in the interim – completely change tack before a programme has had time to mature and produce results.

Florida’s private equity programme was overseen for 11 years by Jim Treanor, a well-known and well-respected limited partner who resigned to join a hedge fund advisor. Treanor was by no means the first LP to leave his public service post for the private sector, where pay is more competitive – there’s been a very long list over the years.

“The history is, highly qualified investment professionals are sought after individuals. And ours is an industry where talent is worth something,” Ash Williams, chief executive of the Florida State Board of Administration, told Private Equity International earlier this week when explaining why the pension was considering different remuneration options. “The rest is sort of self-explanatory.”

The ‘brain drain’ problem also led OCERS chief executive Steve Delaney to approach his board about exploring an incentive-linked pay model for its staff. “If we’re going to invest in the best funds possible, we have to compete to get the best talent possible on our side,” Delaney told PEI.

A Private Equity International survey found that the top-level investment professionals take home an average base salary of $793,000 in the private sector. Meanwhile LPs in private sector jobs – such as at university endowments – make much more; Harvard’s Jane Mendillo, Yale’s David Swensen and Columbia’s Nirmal Narvekar all bank in excess of $3 million per year according to past reports. By comparison, California Public Employees’ Retirement System chief investment officer Joseph Dear took home a total of $522,594 last year (base pay $438,165), according to California newspaper the Sacramento Bee. (And that figure, when released, didn’t play well with a public that perceived it as unfairly rewarding investment types with taxpayer funds while ‘Main Street’ struggles.)

OCERS and Florida SBA should be applauded for dealing with the problem head-on despite the volatile political climate. Will any changes they move forward with prevent the exodus of public pension officials completely? Not necessarily. Private sector compensation is always likely to be higher. But the hope is that they can restructure compensation schemes in a way that is more competitive and helps to foster more team stability and institutional memory in their own institutions – similar to that which they expect from their own fund managers.