Aspiring investigative journalists take note – if you want some day to cover the CIA, you might consider using the US private equity beat as a training ground.
In covering private equity, you'll be forced to go “deep background” on many stories. You'll have top-secret sources of information. Events will happen that no one will be allowed to talk about publicly. You will seek out documents that most people were never meant to see. You'll hear a lot of: “I can't comment on that.” And if you reveal your sources' names in print, they (you'll be told) will be doomed.
One key reason for this industry-wide reticence is tied to a well known but little-understood government regulation that applies to the issuance of all unregistered, or private, securities.
Communications between private equity firms that must comply with the US Securities and Exchange Commission (SEC) and the outside world are governed by Rule 502c(2) of Regulation D of the Securities Act of 1933, which states in part: “…neither the issuer nor any person acting on its behalf shall offer or sell the securities by any form of general solicitation or general advertising, including, but not limited to, the following: Any advertisement, article, notice or other communication published in any newspaper, magazine, or similar media or broadcast over television or radio.”
Tellingly, the SEC has not strictly defined what it means by “solicitation” or “advertising” and this has left GPs seeking guidance as to what they can say to whom, when. The answer to this question typically depends on which lawyer a GP is listening to. Some private equity firms have been instructed by their legal counsel to not disclose anything to the press, including what they ate for breakfast, if they have a fund in the market. On the other extreme, some GPs have issued press releases announcing the launch of their fund-raising.
Most US private equity GPs fall somewhere in the middle of these two extremes. They will discuss with reporters general matters related to their firm's strategy, and probably will talk about individual deals, but they will decline to discuss anything to do with their fund raising.
The strictures of “Reg D” have created peculiar conventions in the US alternative asset industry with regard to press coverage. Published information about private funds frequently appears to be have been disseminated furtively. Articles about fund raising in trade journals typically attribute information to “sources.” GPs will use the press to their advantage, but will also be wary of getting what in their view is the wrong kind of exposure. Prior to agreeing to speak with reporters, GPs will often negotiate explicit ground rules therefore, defining how the information is to be attributed, and what topics are off-limits. Such information management can sometimes make a reporter feel like he or she is writing about the Special Forces instead of investment specialists.
While the SEC has not (yet) called anyone to task for discussing a private fund in the media, some lawyers remain uncomfortable with the level of dialogue between their GP clients and the press. “Lawyers get a lot of indigestion about all the articles that appear about funds,” says Thomas Bell, a partner in the New York offices of law firm Simpson Thacher & Bartlett, adding, “How do you square some of these articles with the general solicitation prohibition?”
Bell says that while he does not bar his clients from speaking to the press on general matters, he does advise them to “not use the F-word.”
A tangled web
In the late 1990s, just as the popularity of private equity began to skyrocket, and with it coverage of the industry in the mainstream press, a new medium emerged that did not fit neatly into the common interpretations of Reg D -the Internet. The World Wide Web provided an efficient way for fund managers to communicate their strategy to potential investors, but its incredibly broad reach meant that absolutely anyone with a modem could, plausibly, stumble across a private fund marketing message, thus giving expanded meaning to the term “general solicitation.”
Luckily, the SEC had dealt with a similar problem a decade earlier. In the 1980s, when real estate and oil tax shelters were hot in the US, a number of investment firms were eager to advertise their services as syndicators of such deals. As with private equity, these tax-shelter private partnerships were restricted to accredited investors, and the SEC dictated that specific deals could only be marketed to parties that the firms knew to be accredited. The syndication firms proposed a marketing technique that fell somewhere in the grey area of Reg D – they wanted to send out general mailers advertising their services, and have interested parties mail back applications to hear about specific investment opportunities. Only after the investment firms had determined which applicants were indeed accredited would these potential investors be presented with details on specific private partnerships.
After receiving enquiries to this end from a number of syndication firms, the SEC clarified its position on the “general solicitation” rule, confirming that it was acceptable to “canvass” about a firm's general services, but adding that there had to be a determination that an individual was accredited, as well as a 30-day waiting period after that determination was made, before the investor could participate in any private partnership.
Fast-forward to 1997. A company called Lamp Technology wanted to know under what circumstances it could post information about private funds on its Web site. The company wanted to say on its homepage, in general terms, that information on private funds was available within. Unlike paper-based publications, of course, Web sites have the ability to restrict access to individual users through the use of passwords. Lamp proposed advertising generally its services outside of its password protection while providing more details about specific hedge funds for registered users of its Web site only. In a 29 May 1997 “no-action” letter, the SEC stated that a Web site with such information would not be in breach of the general solicitation rules if it had the following attributes: it must be password-protected, and passwords may be issued to users only after it has been determined that they are accredited investors as defined by Regulation D. In addition, registered users had to wait at least 30 days before subscribing to any private partnerships listed on the Web site.
In a May 2000 interpretation of its previous positions, the SEC also indicated that a company which operates a Web site listing private securities should register as a broker-dealer.
As the alternative investment industry continues to morph, questions remain about the gray areas of these interpretations. Some of these are the same questions as existed in the pre-Internet age. For example, what type of information may a private equity firm place on a public Web site while engaged in fundraising? Again, absent clear direction from the SEC, the answer depends on your appetite for pushing the regulatory envelope. After the agency finishes its ongoing review of the private fund industry, it may hand down some new rules and clarifications that will take a little more mystery out of Rule 502c(2).
Until then, private equity reporters will continue to make furtive calls to Deep Throat.
The Ontario Teachers‘ Pension Plan, through Teachers’ Merchant Bank, its private equity arm, has participated in the C$3bn acquisition of the telephone directories business of Bell Canada. Teachers was part of a consortium led by US private equity house Kohlberg Kravis Roberts.
The transaction is the largest private equity deal to be completed in Canada, surpassing the C$2.6bn buyout of Shoppers Drug Mart in February 2000, which was also backed by KKR and Teachers' Merchant Bank.
KKR and Teachers' Merchant Bank are between them investing C$900m of equity in the directories, with the remainder being provided in the form of debt by a syndicate comprising Bank of Nova Scotia, CIBC World Markets and Credit Suisse First Boston. The Teachers' Merchant Bank will have a 30 per cent stake in the business, which is expected to report EBITDA of C$345m on turnover of C$590m.
The Plan is Canada's largest investor in private equity. It currently has C$4.5bn, or six per cent of its C$68bn in assets committed to the class. According to Jim Leech, senior vice president of Teachers' Merchant Bank, there are plans to double this percentage going forward.
The Plan has 50 per cent of its private equity allocations in Canada, 25 per cent in the US and 25 per cent in Europe, where it has co-investment agreements with Phoenix Equity Partners and BC Partners. Teachers has participated in a number of major European transactions including the acquisition of Irish drinks firm Cantrell & Cochrane and French work-wear rental company Elis, which was recently sold to PAI for €1.5bn.
“We started to look at private equity in the early 1990s and we now have a strong team of professionals who are used to co-leading transactions,” said Leech. “We benefit from the fact that we can afford to be longer term players, meaning that we don't have to liquidate our interests within the typical private equity timeframe.” When Shoppers Drug Mart floated last year, the firm retained a ten per cent interest in the business because of its continuing growth prospects.
In its ten-year history the Teachers' Merchant Bank has generated a realised IRR in excess of 25 per cent. The fund also has venture capital investments worth a total of C$350m.
As Leech points out, “it's important that we are involved in the best transactions because we're effectively investing to fund teachers' pensions 35 years down the line.”
Pantheon buys secondary tech investments
Pantheon Ventures, the European fund-of-funds manager with over $5.5bn under management worldwide, has completed a secondary acquisition in the US, taking a controlling stake in Quantum Technology Ventures, a Californian corporate venture subsidiary of struggling Quantum Corp.
Pantheon has agreed to pay $11m for its controlling stake in Quantum TV, which has investments in 18 private companies in the storage technology sector. The acquired interests include Alvesta, middleware soluions provider enScaler and broadband digital content distribution network Dotcast.
QTV, founded near the peak of the stock and private equities bubble in March 2000, was formed to invest in early-stage data infrastructure companies. The sale of the unit was part of Quantum's restructuring following a steep decline in its business during the last two years.
Pantheon, investing from its $418m Pantheon Global Secondary Fund, becomes a dominant shareholder in the fund and will receive a percentage of any profits from portfolio companies or exits. As part of the agreement, Quantum and Pantheon will each add more money for follow-on investments.
First disposal for Vivendi unit
US buyout firms JPMorgan Partners and Thomas H. Lee Partners have completed what is likely to be the first in a series of acquisitions of Vivendi assets by trade buyers with the purchase of USFilter, the waterworks distribution business of Vivendi Environnement.
The two firms have agreed a price of $620m for the business, which operates through a network of over 140 sales and service centres in the United States. Last year the firm reported turnover of $1.1bn. The transaction, expected to complete in the fourth quarter, is subject to normal regulatory approvals.
Under the terms of the deal, JP Morgan Partners and Thomas H. Lee will each invest about $105m with the remainder being leveraged. Debt financing is being provided by Goldman Sachs Group, JP Morgan Chase and UBS. The sale furthers USFilter's strategy of divesting non-core assets and focusing on its water-wastewater equipment and consumer and commercial businesses.
Thomas H. Lee Partners is also part of a consortium bidding for Vivendi Universal's US and European publishing division. The consortium, which includes Blackstone Partners BNP Paribas and Apax Partners have tabled an indicative offer for the business, thought to be in the region of €3.4bn.
DePonte joins Probitas to build LP advisory business
Probitas Partners, the US placement agent which recently opened offices in London, is looking to expand into offering consultancy services to investors in private equity partnerships.
Probitas has hired Kelly DePonte, a former senior executive at US gatekeeper and alternative investment advisor Pacific Corporate Group. DePonte will be primarily responsible for sourcing, providing due diligence and executing alternative investment fund opportunities for Probitas Partners' fund placement business. DePonte's brief also include to help Probitas expand into advising limited partners looking to manage their exposure to the asset class in the secondaries market, as well as developing asset management business for Probitas.
The firm has also hired former Merrill Lynch vice president Reidan Cruz. Cruz worked at Merrill's Capital Markets Product Development Group, and will be involved in the firm's more traditional placement activity.
Placement agents are increasingly looking to leverage off their knowledge of the institutional market place to open up new revenue streams and win business from the buyside. Probitas is targeting the European market to expand its alternative investment consultancy services.
In May, the firm entered into a strategic relationship with Rothschild, the UK investment bank, which will see co-operation in the European private fund placement market, as well as participating in negotiations and due diligence on European private equity fund managers.