June 1, 2016
By Tom Stabile
The California State Assembly last night unanimously passed a bill that would require private fund managers to disclose a swath of fees and expenses, and it now heads to the State Senate.
The bill – which would require managers to “publicly disclose gross management fees, management fee offsets, fund expenses, carried interest, and any related party transactions paid to their private equity general partners” – sailed through 69-0 on the Assembly floor, after not seeing a single ‘no’ vote cast even in committee.
But Assembly Bill 2833, introduced by Assemblyman Ken Cooley and backed by State Treasurer John Chiang, is likely to face amendments in the next phase, where it has to pass the Senate by Aug. 31.
“It’s a work in progress,” says a spokesman for Treasurer Chiang’s office. “There is fine-tuning going on and amendments worked upon and discussed. We’re talking to [the California Public Employees’ Retirement System], and we’re talking to all of the interested parties.”
While the bill has picked up no registered opposition per the state’s lobbying rules, some industry participants have begun to voice concern over its current language, including several state pension systems.
California’s effort has company, with an Illinois bill introduced this year that would mandate even wider private funds disclosure, as well as a campaign pledge for greater fee and expense reporting from Democrat Joe Torsella in Pennsylvania’s state treasurer race.
“There is a wind blowing on fee transparency,” Torsella says. ‘The industry is headed in this direction.”
Illinois House Bill 6292 – sponsored by State Sens. Daniel Bliss and Andy Manar and House Reps. Laura Fine and Elaine Nekritz – would require public pensions to disclose not only all private fund fees, expenses, carried interest, and fee waivers, but other related information, such as indemnification and clawback provisions in contracts. The plans would have to file copies of the information on their websites and make it available under freedom of information requests.
The bill started out in February as legislation addressing a different topic, was amended to become the private fund reporting bill in the Senate, passed the Senate last month, and now has returned to the House, where it awaits action in the Rules Committee.
In Pennsylvania, Torsella is pushing for a different approach that could have a wide impact – requiring state pension funds to publish full, searchable versions of their alternative investment fund contracts. “Joe Torsella will advocate for every alternative investment contract to be published, searchable, and if necessary, break down the fee structure in an easy to read and understandable fashion,” his campaign policy states.
“We need to have more fee transparency, particularly when it comes to private equity and hedge funds, where fees are opaque to say the least,” Torsella says. He notes that his policy for contract disclosure echoes in part the inadvertent publication of several private fund contracts on a Pennsylvania state website two years ago, which Naked Capitalism, an investment blog,found and posted.
California’s bill, which would take effect next year, does not go as far as either the Illinois or Pennsylvania efforts, but nevertheless would apply to some of the nation’s largest private equity investors in CalPERS, the California State Teachers’ Retirement System, and the University of California Retirement System.
It has already raised hackles at some pensions in the state, including the $14.1 billion Los Angeles City Employees Retirement System, which last month voted to oppose the bill. CalPERS has approved a statement supporting the bill contingent on modifications, including giving pensions more leeway on calculating the data that fund managers report.
Fund managers and private fund associations have so far been muted in their response to the bill, though last year some of them said they intend to push back against efforts to require greater disclosure.
The California legislation has become the focal point for a larger debate brewing over whether individual state efforts to mandate greater disclosure are the best way to shed light on private fund fee and expenses practices. The bill would at least bring two levels of benefit, including providing pensions with more data to better understand the fees they’re charged, saysAlyssa Giachino, research coordinator forUNITE HERE, a union that monitors private fund investing.
“And then there’s the question of what the public has access to, which in many cases is much less than what the pensions themselves get,” she says.
The union sent a letter of support on AB 2833 to Cooley’s office in the spring noting that “it has become clear that some alternative investment managers have collected several layers of fees, many of which are hidden from pension systems investing with those managers. Stated annual management fees of 1.5% to 2% are often just the tip of the iceberg.”
There could be drawbacks to presenting the public with a flood of information without context, however, says Jennifer Choi, managing director for industry affairs at the Institutional Limited Partners Association (ILPA), which this year introduced a template for standardized fee and expense reporting by private equity fund managers.
“We don’t know whether it’s beneficial to have all of that information in the public domain without a filter,” she says.
And it’s clear that more initiatives like California’s are likely to appear, Choi says. That “patchwork” of different standards could create a huge reporting burden for fund managers to comply with, she says.
“The consensus of our membership is that the intention of these efforts is coming from the right place, and that it’s helpful in keeping transparency on the agenda,” Choi says. “But the only way to get full transparency and full efficiency from that data is having consistency across reporting.”
In addition, ILPA’s template is barely four months old and took many months to develop, with fund managers not yet knowing how complying with such standards might impact their businesses, she adds. “We’re entering a new era, a new world with reporting, and it’s no small effort to get their internal systems and protocols to match up with that,” she says. “Greater complexity brings the possibility for error or noncompliance, and doesn’t move us toward the goal of better reporting.”
Still, any extra information is “a great step in the right direction,” says Giachino. “The ILPA template is a great tool, but it would be an even better tool if it’s adopted widely, which it hasn’t been yet… Adding in the level of detail [in California’s bill] will lend itself to more standardization over time.”
The other main concern for the California bill’s critics is that the state’s pensions will get shut out from private funds unwilling to disclose more, says Klaas Baks, associate professor at Emory University and executive director of its Center for Alternative Investments. “There could be unintended consequences,” he says.
That might be the case for some managers with “an allergy to transparency,” Giachino says. “But I don’t see the industry walking away from California entirely,” she adds. “California pensions are substantial.”