Exclusive: SEC probing private equity performance figures - sources

Wed Oct 29, 2014 4:52am EDT
 
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By Greg Roumeliotis

NEW YORK (Reuters) - The U.S. Securities and Exchange Commission is examining how private equity firms report a key metric of their past performance when they market new funds to investors, as the regulator boosts its scrutiny of the industry, according to people familiar with the matter.

At issue is how private equity firms report how they calculate average net returns in past funds in their marketing materials, the sources said.

Net returns, also known as the net internal rate of return (IRR) and an indicator of investors' actual profits, deduct private equity fund investors' fees and expenses from a fund's gross profits. Private equity fees are not standard and different investors in the same fund can pay different fees.

Fund investors such as pension funds, insurance companies and wealthy individuals – known as limited partners - pay the fees to the private equity firm. The private equity firm and its managers, called general partners, also typically invest some of their own money into the funds, but don't pay any fees.  

Including the general partner's money in the average net returns can inflate the fund's average net performance figure, and the SEC is investigating whether private equity fund managers properly disclose whether they are doing that or not, the sources said.

An SEC spokeswoman declined to comment.

The SEC's focus on the average net IRR disclosures, which has not been previously reported, marks a new phase in the agency's efforts to regulate private equity and comes at a time when the industry is already under pressure from investors to simplify its fees and expenses structure.

The emphasis on performance figures is likely to cause many buyout firms to review their regulatory compliance measures and force them to increase disclosures and make their numbers more intelligible to investors.There is no standard practice for calculating average net IRRs among the roughly 3,300 private equity firms headquartered in the United States.   Continued...

 
The U.S. Securities and Exchange Commission logo adorns an office door at the SEC headquarters in Washington, June 24, 2011.  REUTERS/Jonathan Ernst