More PE firms may consider broker-dealer divisions

As regulations governing private fundraising multiply, private equity firms are increasingly considering creating internal broker-dealers. TPG and KKR are among those with such divisions.

As the US Securities and Exchange Commission contemplates strict rules on placement agents, more private equity firms are considering registering their in-house fundraisers as broker-dealers as a precautionary measure. 

Even if the SEC does not ultimately require broker-dealer registration of private fund managers, individual US public pension plans could well start requiring that all fund marketers they interact with be registered broker-dealers, market sources told PEO's sister news service, Private Equity Manager.  

In-house fundraisers at private equity firms must register as broker-dealers only if they work at a registered investment advisor (RIA). Historically, many investor relations professionals at RIAs have relied on certain exemptions from the rules. IR professionals are not deemed to be brokers as long as the fund is being marketed to less than 100 people; the fundraiser has substantial other duties in addition to his role as a marketer; or the fundraiser hasn’t sold any other securities in the prior 12 months. 

But the SEC has been carefully scrutinising those exemptions in recent months, said Kimberly Mann, a partner at law firm Pillsbury Winthrop Shaw Pittman.

“The SEC is getting very sensitive. Some of the exemptions that people used to rely on are no longer necessarily considered safe, and there have been crack-downs recently on selling securities without a license,” Mann said. 

One private equity firm with a registered broker-dealer affiliate is TPG. The firm revealed in disclosure provided to the California Public Employees' Retirment System that its subsidiary, TPG Capital BD, is a registered broker-dealer that handles its fundraising activities.

The San Francisco- and Fort Worth-based firm, run by David Bonderman, said it did not hire any finders, placement agents, or other intermediaries to obtain new capital commitments since May 2009. But it did disclose that its internal broker-dealers “may have” solicited CalPERS.  TPG's disclosure was one of 600 made to CalPERS as part of a placement agent activity review the pension has request from its fund managers.

According to TPG Capital BD’s Financial Industry Regulatory Authority (FINRA) registration, the firm has been registered as a limited liability company since March 2007. It is registered with the US Securities and Exchange Commission and with 51 US states and territories. Between six and 10 TPG employees are registered as broker-dealers, according to the disclosure.

In TPG’s case, the fact that the firm does business in so many locations and markets such a wide array of products might explain why the firm decided to play it safe by registering its IR professionals.

“I think funds have come to the conclusion that given the regulatory climate and atmosphere it’s just better and more prudent to register,” Mann said. “Where they are in the market a lot and have a greater exposure, it’s just considered a more prudent approach.”

One part of TPG’s disclosure that is noteworthy is the description of the broker-dealers’ compensation. At first glance, it seems to indicate they are not compensated on the basis of how much capital they raise, which could be a reflection of LPs having grown “fee sensitive” in recent months, Mann said.

“There may be some reluctance on the part of an investor to pay an affiliate anything more than is required to cover expenses,” she said.

But the disclosed wording on IR compensation isn’t specific enough to rule out individual bonuses based on capital raised.

Though TPG is still in the minority of private equity firms that have registered broker-dealer units, Mann said that she expects to see more firms following suit in the future.

“I have a sense that this may be a trend for funds going forward, in order to get in front of the curve a bit,” Mann said.