The princeling problem

The recent investigation of JPMorgan’s hiring practices in China has sparked debate about private equity firms hiring a ‘politically exposed person’ or PEP.

A PEP is someone who is or has been “entrusted with a prominent public function”, according to the Foreign Corrupt Practices Act. In Asia, there’s also another significant category: princelings, who are typically close relatives of a PEP.

US investigators are looking into allegations that JPMorgan had an unfair advantage in securing deals because it hired princelings as dealmakers.

A private equity firm that intends to be around for the long-term wouldn’t hire a team member primarily for short-term gains, sources agree. And when investing, track record comes first when assessing a team, says a fund of funds source who scouts GPs in China (who requested anonymity due to the sensitivity of the topic). “Investing for connections is a big mistake. Connections are an add-on.”

Princeling funds tend to be labeled an Asian phenomenon. Regional firms that have hired relatives of former or current top political leaders lately include Boyu Capital and New Horizon Capital in China and IDG Ventures in Vietnam.

However, funds with PEP exposure are everywhere. Warburg Pincus recently hired former US treasury secretary Tim Geithner. Kohlberg Kravis Roberts brought in former CIA director and top military commander General David Petraeus earlier this year. Ex-US vice president Dan Quayle and former treasury secretary John Snow are chairmen at Cerberus Capital Management, while former UK prime minister John Major had a stint as chairman of The Carlyle Group’s Europe operations.

That has led to accusations of double standards. If everyone does it, why all the noise when an Asian firm does the same?

The difference is cultural, sources say. In the US, the lobbying culture is institutionalised. China’s institutions are less mature, and more importantly, less transparent, says Ben Wootliff, Greater China director of Control Risks. 

“China has a huge lobbying culture. The issue is that the lobbying process is less formalised and it’s not transparent. [But] what’s the difference between lobbying and guanxi [business connections in China] if the end result is the same?”

Transparency puts the US and European PEP funds into a less risky category, sources suggest. Regulators and media effectively monitor a PEP in a Western fund to ensure the individual is not trading political favours to close deals. Often, PEPs are hired just to open doors and add gravitas to a firm’s brand.

In Asia, there is nothing wrong with a PEP fund per se, sources say. The industry runs on networks and connections, and a PEP may not necessarily be hired for deal sourcing.

A PEP can step in and sort out a conflict between the firm and a portfolio company by virtue of who he is, a source at a large consultancy told PEI. It can also help during fundraising, because a PEP’s network typically includes high net worth individuals.

“What’s top of mind here is just what exactly the PEP is doing in the fund. You want to avoid any possible unfair advantage,” says PEI’s source.

That issue is likely to come up more often. The JPMorgan investigation is putting pressure on China’s princeling funds – and not just from US regulators intent on enforcing the FCPA. Their Chinese counterparts now have PEP funds on the radar, too. As our source puts it: “The environment for these funds is more risky than it was 12 months ago.”