US Securities and Exchange Commission (SEC) has given a fresh warning to the private equity industry. SEC told the industry must continue improving, especially in the field of manage fees, or expect more fines and enforcement actions.
SEC’s acting director at the Office of Compliance Inspections and Examinations, Marc Wyatt, told in a conference that private equity firm managers are still overcharging investors. SEC believes the culture of inappropriate fees and expenses is still ripe and said further action will be taken if managers don’t fix their act.
Mr Wyatt also called for more transparency. He believes managers don’t provide enough transparency for investors regarding costs and industry outsiders have especially hard time getting involved in the sector. Furthermore, the regulator believes investors often don’t know if another investor has a priority right co-investment in place – something that could change investment behaviour and provide conflict of interest.
In a speech earlier this year, Mr Wyatt said, “Allocating co-investment opportunities in a manner that is contrary to what you have promised your investors can be a material conflict and can result in violations of federal securities laws and regulations.”
Focus on the Sector
The fresh warning comes after the SEC has continued to deepen its investigation into the industry. It recently included private equity real estate managers to its review and found the sector, in particular, suffers from inappropriate charges.
According to the Financial Times, the US regulator is also pointing the finger towards the co-investment trend. The trend sees large investors team in invitation-only activities with private equity managers.
These are often less costly opportunities compared to traditional PE funds. But SEC has highlighted its concern over investors, who use traditional funds, not having full understanding and information available to know about these co-investments.
According to Investment News, SEC currently oversees over 25,000 market participants and nearly 12,000 investment advisers. In a recent budget request the regulator outlined the need to hire more additional staff as the challenges ahead are also mounting up.
Changes in Fees
The SEC focus comes after the infamous speech by Andrew Bowden, Mr Wyatt’s predecessor. In 2014, in the “Spreading sunshine in private equity” speech Mr Bowden acknowledged the industry to have “an enormous grey area” that enables hides fees.
This caused many private equity firms to answer some tough questions by investors. Big firms, like Blackstone, have already made some changes, with more expected now.
Furthermore, Blackstone announced earlier this year that the regulator had inquired about the firm’s fee practices. At the time, the firm announced its willingness to work with SEC in order to solve the matter.
For many experts, the industry now needs a more standardised structure to ensure investors are on the same line.
On the other hand, some believe the SEC’s focus on the industry isn’t enough unless other countries follow the lead. Professors Ludovic Phalippou, a finance professor at the University of Oxford Saïd Business School, asked in the Financial Times, “Why is the UK regulator – and supervisors in other countries – asleep?”
It remains to be seen how PE firms react to the latest challenge and whether regulators elsewhere will turn their attention towards the industry.