Buy-out groups face fight over fees

Private equity groups and their investors are squaring up for a battle over fees as the world’s largest buy-out groups face pressure to lower the cost of their next fundraising.

Investors, such as California’s public employees retirement scheme, the biggest US pension fund, are pushing private equity funds to improve transparency and cut the fees that eat large chunks out of investors’ returns.

In the wake of the financial crisis and losses suffered on their private equity investments, 220 investors with up to $1,000bn invested in private equity have grouped together to demand funds apply a framework of best practice and align their interests more clearly with investors.

Several private equity groups said some of their biggest investors had contacted them about new guidelines they have adopted as members of the Institutional Limited Partners Association.

While most private equity groups already comply with many of the ILPA guidelines, buy-out houses are already bristling at some of the demands being made by their investors, especially on the fees they charge. The biggest area of debate is expected to be the ILPA’s demand that buy-out groups should return all extra fees beyond the basic management charge – including transaction, monitoring, advisory and exit fees – to investors.

Another sticking point may be its call for buy-out bosses to earn carried interest – a 20 per cent share of profits – only after investors have been paid back all their money, rather than on a deal-by-deal basis.

It comes at a pivotal moment. Scores of private equity groups are gearing up in the hope that the fundraising market will re-open next year, including Kohlberg Kravis Roberts, Carlyle, Blackstone, BC Partners, Cinven and Permira. With fees taken out by private equity groups running into many hundreds of millions, fund managers want to establish the ILPA principles as best practice before private equity groups begin their next round of fundraising.

One private equity executive said: “I hope they aren’t expecting us to sign up to all of this.”

One example of fees is the $75m in transaction fees that Dollar General paid to KKR and Goldman Sachs when the retailer’s $7.3bn buy-out was completed in 2007. Dollar General has also paid its private equity owners $13m in monitoring fees and will pay a further $64m if its planned listing goes ahead.