Private Equity

Pension Funds Get Queasy over Private Equity


(Corrects fundraising figure in third paragraph.)

Mitt Romney’s campaign for the Republican Presidential nomination may be creating funding headaches for his former colleagues in the private equity industry. Romney’s opponents have characterized Bain Capital—the firm he helped found in 1984 and left in 1999—and other buyout managers as corporate looters who enrich themselves at the expense of ordinary workers. The issue is likely to remain in the news should Romney win his party’s nomination and face President Obama in the general election.

With public scrutiny focused on private equity funds, pension funds are more reluctant to invest and may ask for more details on job creation and push for lower fees, according to officials and trustees at public pensions. “Pension funds have boards. They don’t want to be giving money to an industry that has a taint,” says Tony James, president of Blackstone Group (BX), the world’s largest private equity firm. “Similarly, boards of directors don’t want to sell their company to organizations they don’t view as respectable. So it could be very damaging for the industry.”

The debate comes as the industry is competing for a shrinking pool of investor dollars. Fundraising has fallen off sharply since the onset of the global financial crisis, staying below $100 billion each quarter, according to London-based researcher Preqin. In the second quarter of 2007, at the peak of the leveraged buyout boom, private equity firms raised almost $214 billion. In the fourth quarter of 2011, they raised $52.4 billion.

Public and private pension funds in the U.S. provide 42 percent of the capital for all private equity investments, according to the Private Equity Growth Capital Council in Washington. Public employee pension funds, which must answer to ordinary workers, are sensitive to protracted debates about managers’ compensation and whether buyouts create value and jobs, says one official who asked not to be named because he wasn’t authorized to speak on the topic. “The political attacks against Romney and Bain will definitely come up when firms pitch us their new funds,” says William R. Atwood, executive director of the Illinois State Board of Investment, which oversees $10.4 billion in pension funds. “You’d be crazy not to bring it up.” The Illinois pension board had $621.3 million, or 6 percent of its assets, in private equity as of Dec. 31, according to its website.

Bad publicity has hurt private equity firms in the past. Last year, Blackstone lost out on a deal to manage hedge fund investments for New York City’s public pension funds after the company’s chief strategist suggested retiree benefits were too generous.

Bain tends to be less reliant on pension funds than its rivals. When Romney set out to raise Bain’s first fund in 1984, he steered clear of pension funds, pursuing high-net-worth individuals who contributed about $37 million, according to a person who worked with Romney at the time. Kohlberg Kravis Roberts’s (KKR) co-founders, by contrast, received early capital from Oregon’s and Washington’s pensions, with the latter contributing $12 million to KKR’s first fund in 1982.

The success of Bain’s first fund, which generated a 61 percent average annual return, according to marketing documents from 2004 obtained by Bloomberg, allowed Bain to charge a premium for its investment services. Bain collects 30 percent of the profit on its investments, the highest in the industry. Pensions historically have been less willing to pay the higher performance fees. In a recent fund, Bain relied on pensions for about 9 percent of client assets. Alex Stanton, a spokesman for Bain, declined to comment.

One Bain executive expects the storm to blow over. “Our limited partners have been with us for 28 years, many of them,” Bain Managing Director Stephen Pagliuca said in an interview at the World Economic Forum in Davos on Jan. 27. “We just keep our heads down and try to build value.” Pagliuca also said that pensions will come to rely more on private equity to meet their growing obligations to workers because traditional assets like stocks and bonds won’t return enough. Still, with Romney’s candidacy keeping the spotlight on the industry, Atwood of the Illinois State Board of Investment says there’s bound to be an impact. “We all know that private equity managers make a lot of money, and we know how they do their business,” he says. “But when it’s on the front page, it causes us to think twice when making investment decisions. Private equity is more lucrative when it’s kept quiet.”

The bottom line: Pension funds, which provide 42 percent of the private equity industry’s capital, may pull back amid criticism of Romney and Bain.

Alesci is a reporter for Bloomberg News in New York.
Banerjee is a reporter for Bloomberg News in New York.

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Companies Mentioned

  • BX
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  • KKR
    (KKR & Co LP)
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