Imagine riding the London tube to work one morning, thumbing through a newspaper, and finding – to your great shock and dismay – an article that discloses your fund's IRR. The information is courtesy of one of the local-authority investors that have a commitment to your fund. Two thoughts may occur to you. First, how did the press get this information? And second, why didn't my limited partner give me a warning?
If this scenario occurs on any day after January 1, 2005, your answers will be, first, the press obtained this information by requesting it, and second, because your LP didn't have to warn you, and possibly didn't think you cared.
Unlike the well-documented Freedom of Information Act (FOIA) battles in the US, less well known in the private equity community is the UK Freedom of Information Act 2000, which, though enacted four years ago, comes into full force on the first day of 2005. The new law entitles any person to request information from a “public authority” (a defined term in the Act that covers a raft of state entities). Unless the public authority in question claims an exemption, which is then upheld by an Information Tribunal, the requested data must be supplied.
While the level of participation of public institutions in private equity in the UK is nowhere near that of the US, momentum is picking up. Roughly 3 percent of UK pension funds invest in private equity, and that is expected to increase to 4 percent next year, according to Mercer Investment Consulting. The release of the Myners report in 2000, which called for increased pension investment in alternative assets, has enhanced the potential of this enormous pool of assets within the UK and European private equity market.
As UK pensions gain in importance to private equity, however, the public pensions within this group will likely be subject to requests for information. Without proper awareness and response from fund managers, this may make public pensions a liability to GP.
According to Section 1 of the FOI Act, any person who makes a request for information to a public authority is entitled to two things:
THE TRIBUNAL FACTOR
What concerns Glover and other legal experts about the coming UK public-disclosure regime are the many unknowns surrounding it. For example, he says, recent compromise positions in the US have shown fund-level information to be fair game, while portfolio company-level data is off limits. No one yet knows whether a similar logic will emerge in the UK.
It is unknown whether the UK public authorities and Information Tribunal will consider a fund-level IRR to be a “trade secret”, and therefore eligible for an exemption. It is similarly unknown whether these entities will consider portfolio company information to be off limits. Some experts fear that the pre-commitment due diligence materials supplied by GPs to LPs could be considered fit for public disclosure.
In the US, the typical requestors of information have been journalists seeking to reveal the performance of state private equity portfolios and data services companies seeking to compile return statistics. Glover says similar groups in the UK may become active data-seekers starting in 2005, but there may eventually be others. He notes that groups concerned about “ethical investing” may appoint themselves watchdogs of public authority alternative investment programs and seek as much information as possible.
Similarly, trade unions concerned about potential lay-offs following a buyout might request explicit, portfolio company-level information about how certain private equity firms have added value to prior investments.
In the “onerous” category of the coming UK FOI Act are the rules surrounding the flow of information between requestor, provider and – in the middle – public authority. In the US, under a provision known as a “reverse FOI”, a provider of information (such as a fund) has the right to be notified of and challenge the disclosure of its information. But under the FOI Act in the UK, a public authority has no obligation to even inform the private equity firm that its information has been requested (although a UK “code” of best practice does urge public authorities to seek consent in certain circumstances). A public authority less familiar with the exemption rules of the Act, not to mention unfamiliar with the preferences and sensitivities of its general partners, might automatically provide whatever information is requested.
Of course, if you bother to ask a GP whether he'd like you to broadcast his fund's information, he'll say “no”.
Glover suggests not waiting until the topic is broached post-January 1. A private equity firm with public LPs in the UK should first endeavour to communicate clearly its preferences on requests for information, and then work those preferences into legally binding agreements. “What you want to do is prevent public authorities from providing without thinking,” he says.
Clifford Chance has drawn up a number of suggestions on how to deal with the coming disclosure regime:
Know your investors. Review your investor base to determine which might be subject to the FOI Act. Make sure that your subscription and transfer documentation requires investors to say whether they will be subject to disclosure requests.
Review confidentiality provisions. Be aware of the existing confidentiality provisions within your fund documentation. Clifford Chance recommends inserting provisions dealing with the following:
Disseminate differently. The Act defines “information” as “informat ion recorded in any form”. Partnership documentation and reports made available via non-downloadable, password-protected websites may not be “information” for the purposes of the Act. In addition, information may become noninformation once it is removed from the website, as many firms already do with non-current data. Certain types of very sensitive information, such as portfolio company valuations, could be provided in this manner to public authority LPs. Of course, certain LPs, especially those demanding more advanced forms of reporting, will find this unacceptable.
Reiterate, reiterate – Although you may have already clearly communicated a confidentiality policy to your LPs and set forth that policy in your partnership documents, each item of ongoing communication should come with references to prior agreements. Your public authority investors will not automatically regard as confidential information that you deem to be confidential. Therefore, any material that is marked as confidential should perhaps also come with a cover letter or cover e-mail that reiterates that the accompanying document is subject to the confidentiality provisions of the investment partnership.
Notes Glover: “There have been some best practices with regard to FOIA developed in the States, but in the UK these might not necessarily go far enough. Unlike the US, here you might not always have the ability to have a say in the matter.”