The importance of one man

Why the Los Angeles County Employees Retirement Association has left KKR “on a bench” for a separate account commitment.  

Kohlberg Kravis Roberts occupies rarified air. The firm has evolved into something of a “supermarket asset manager”, as one source labeled them earlier this week. A global private equity platform, real estate funds, a capital markets business and a debt division tied together under an impressively-sized umbrella. That market footprint grants the firm access to a very large network of deals, which in turn offers up opportunities as it puts capital to work in the public and private credit markets.

So it came as a bit of surprise last week when the Los Angeles County Employees Retirement Association (LACERA) disclosed that it had left KKR “on a bench” – in their words – for a $200 million opportunistic credit multi-strategy separate account.

Rather than picking KKR, The retirement association ultimately awarded $200 million each to Sankaty Advisors, Beach Point Capital Management, Oak Hill Advisors and Ares Management, citing those firms’ strength of strategy, network, investment process and returns as reasons for their commitment.

At a glance, KKR possesses all of the above in spades. But while most of the 102 respondents to LACERA’s RFP missed out because of track record or concerns with risk and transparency, KKR was passed (albeit temporarily) because of staff turnover (LACERA will reassess KKR for such an account in 18 months).

In July, William Sonneborn stepped down after five years at the helm of KKR Asset Management, where he had served on the firm’s management, risk, leveraged credit, private credit, special situation and credit long/short committees, according to the Wilshire report detailing LACERA’s decision. Although Sonneborn’s departure did not trigger any of KKR’s key man provisions, it has now cost it a $200 million separate account in the short term.

LACERA’s decision to hold off on a potential deal with KKR speaks to the importance of looking beyond returns and carry when considering your investment partners. As is the case with most fields, many credit sector sources are quick to highlight the significance of reputation and relationships in navigating the market. When an important member of a manager’s investment team steps away, limited partners must consider that individual’s contribution to execution and performance before re-upping or, in this instance, entering an exclusive arrangement. If that individual is perceived to be (or have been) the linchpin of a firm’s success, it stands to reason that their departure will have an adverse effect on the firm's appeal to investors.

Despite its stellar pedigree and reputation, KKR is not exempt from such examination. Sonneborn’s guiding hand was instrumental in KKR Asset Management's successful navigation of the financial crisis, according to a statement from its board chairman Paul Hazen.

When he quit the firm, Sonneborn left the business in the capable hands of Craig Farr, and it stands to reason that KKR Asset Management will continue to perform well moving forward. But in this instance, LACERA considered that KKR's credit-focused proposition without Sonneborn wasn't as compelling in the here and now as it had been with him. Having reached that conclusion, an investment decision based on brand and past performance alone was clearly out of the question.