LPA release raises more questions on fees

New leaked documents raise additional questions about the fee structures within private equity.   

The release of 12 complete limited partnership agreements by a financial blogger has generated more questions about alignment of interest between LPs and GPs. 

On Monday, Yves Smith, author of the Naked Capitalism blog, published 12 LPAs that were available – possibly in error – from the Pennsylvania Treasury’s public e-contracts library.

The release comes after a number of controversies regarding the way private equity managers charge fees to their investors.

In April, the US Securities and Exchange Commission (SEC) first leaked reports suggesting that private equity firms were taking advantage of LPs through egregious fees. The SEC’s chief inspector Andrew Bowden suggested earlier this month at PEI’s Private Fund Compliance Forum that the regulator had found irregularities at around half of the newly-registered firms. Now, new information may be coming to light about exactly how GPs are taking advantage.

On Friday, the Wall Street Journal also reported on a potential fee issue related to Kohlberg Kravis Roberts’ in-house consulting unit KKR Capstone, which works to produce operational improvements at KKR’s portfolio companies.  Under the terms of KKR’s agreement with LPs, it was reported, KKR was required to share with investors any ‘consulting fees’ collected by KKR affiliates, under a confidential pact struck with investors including pension funds in 2006.  However, KKR has claimed that Capstone doesn’t qualify as an affiliate, and that it started making that plain to investors from its 2011 vintage buyout funds onward.

The 2006 document in question is one of the LPAs published by Naked Capitalism, but it provides little clarity on how Capstone is viewed within the KKR organisation. KKR executives have said that existing documents listing Capstone as an affiliate did so in error, but that this was ultimately “immaterial”.

As well as the ongoing SEC investigation, the inclusion of US public pension funds in the 2006 pact could bring the IRS into the picture. The taxman announced in April that it would also be looking into how private equity firms chop up monitoring and other fees. That scrutiny includes how firms roll forward fees and convert them into capital gains, which allows non-profit entities like pension funds to avoid unrelated business taxable income (UBTI).

Neither the SEC nor the IRS has commented on the documents or how they plan to advance the fee investigation.

In a Sunday interview with the New York Times, Bowden told the paper that “in some instances, investors’ pockets are being picked.”

Pennsylvania has not commented on the issue of confidential LP agreements being publicly available on its treasury website.  KKR was unavailable for comment at press time.