PE: Time to face the music

By Paul Mackintosh - 30/04/12

With China’s authorities allocating a fresh US$50 billion to China Investment Corporation (CIC), spare a thought for those ensnared in a different kind of allocation issue – as the US Securities and Exchange Commission (SEC) files changes against the former CEO of pensions giant California Public Employees' Retirement System (CalPERS). “Former CalPERS CEO, Federico R. Buenrostro, and his friend, Alfred J.R. Villalobos, fabricated documents given to New York-based private equity firm Apollo Global Management”, alleges the SEC statement. “Those documents gave Apollo the false impression that CalPERS had reviewed and signed placement agent fee disclosure letters in accordance with its established procedures. In fact, Buenrostro and Villalobos intentionally bypassed those procedures to induce Apollo to pay placement agent fees to Villalobos's firms. The false letters bearing a fake CalPERS logo and Buenrostro's signature were provided to Apollo, which then went ahead with the payments”. These remain allegations, denied by the accused.

“We condemn in the strongest way possible the alleged misconduct of these individuals, and pledge to continue working with all law enforcement authorities investigating these issues,” responded CalPERS Board President Rob Feckner in the $232 billion fund’s own statement. But read on with Mr. Feckner: “We stand ready to continue upholding the sacred trust of our members, employers and taxpayers and will do everything within our power to never allow the system to be compromised by personal gain.” Yet private equity is all about personal gain – certainly on the GP side.

Recalling all those warnings about hedge funds being a compensation structure masquerading as an asset class, private equity is specifically about enabling individuals to amass outsized fortunes – so long as in the process they also deliver outsize returns. That is what the alignment of interests is all about. Is it any surprise if the mentality of the business filters over to the LP side too?

Perhaps the US pensions system is more to blame than private equity itself. The two plaintiffs are also involved in cases over drug procurement, and Apollo has not been accused of any wrongdoing. But the nature of the commitment process is definitely at fault. Why should such an arcane and opaque business as placement exist at all with so many billions at stake? Why should private equity performance be deemed such a black box black art, and access so challenging? All this can facilitate corruption. Private equity’s ostensible status as an alternative asset class has allowed it to escape the exhaustive rigour of public markets oversight for far too long. Yet with CalPERS’s little sister CalSTRS holding up to 15% of its assets ($21 billion) in private equity, the time has clearly come. There is no alternative.