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California Proposes Law To Expose Private Equity’s ‘Secret’ Fees

Feb 29, 2016

California's public pension systems have at least $50 billion committed to private equity, and now a state legislator is asking for more transparency.

Assemblyman Ken Cooley (D-8th District) has introduced a bill that would require public pensions to collect detailed information on fees paid to the private equity funds in which they invest ― both fees that are charged directly to limited partners like state pension funds, and also ones charged to the fund's portfolio companies (which, indirectly, are taken out of pension pockets). The proposal would apply to all fund agreements signed beginning in 2017, and would require that the collected data be publicly disclosed at least once per year at an open meeting.

All of this comes after a series of revelations about how private equity firms essentially hide certain fees by shifting them to portfolio companies, plus a variety of other complicated schemes. The Securities & Exchange Commission has taken particular interest, reaching settlements with such firms as The Blackstone Group (bx), Kohlberg Kravis Roberts & Co. (kkr) and Lincolnshire Management. The Carlyle Group (cg) also disclosed in a recent regulatory filing that it is the subject of an SEC inquiry into its fee practices.

To be sure, all limited partners in private equity funds should demand robust fee information from their general partners. As I've written before, one way to better accomplish this would be to simplify and standardize the fund subscription agreements. So, to that end, I applaud what Cooley is doing.

My concern, however, is that this legislation is papering over a much larger problem: An apparent belief that California pension fund managers (and their attorneys) either lack the sophistication or time to fully understand the agreements they are entering into.

And this worry is only exacerbated by the fact that Cooley explicitly says that this new requirement will not come with additional financial resources for the pension funds, meaning that these staffers will have even less time to sniff out troublesome language. Yes, the private equity funds will now be required to submit data, but only an audit would determine if such data is invalid or being shaded (something that the pension systems already could, but do not, conduct of their PE relationships).

There also is a secondary concern that certain private equity funds would use this bill as an excuse for no longer taking public pension money from California, but we also heard that threat 10 years or so ago when the California Public Employees' Retirement System and the California State Teachers' Retirement System began disclosing fund performance ― and it mostly became a non-issue (in part because certain other states followed suit, which also could happen in this case).

Here is the proposed bill:

Assemblyman Cooley did not return Fortune's request for comment.

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