KKR Agrees to $30 Million SEC Settlement

30 Jun 2015 | Author: | No comments yet »

K.K.R. Settles Over ‘Broken Deal’ Expenses.

KKR KKR -1.30 % & Co. agreed to pay nearly $30 million to settle charges that it improperly shifted more than $17 million in so-called broken-deal expenses to its flagship funds, marking the most significant result to date from regulators’ crackdown on fee and expense practices of private-equity firms. The charges by the Securities and Exchange Commission related to due-diligence expenses and other costs that the New York-based investment firm incurred in examining potential deals that didn’t result in completed transactions.

Instead of allocating some of the fees to co-investors, which include Kohlberg Kravis executives, the firm passed them on to the funds of their limited partners. The practice, which the SEC complaint said KKR ended in 2012 after an internal review, benefited both KKR insiders, who were co-investors in the firm’s deals, and some major clients that invested through KKR co-investment vehicles. “Although KKR raised billions of dollars of deal capital from co-investors, it unfairly required the funds to shoulder the cost for nearly all of the expenses incurred to explore potential investment opportunities that were pursued but ultimately not completed,” said Andrew J.

An SEC investigation found that over a six-year period, KKR incurred $338 million of ‘broken deal’’ expenses that it didn’t share with co-investors, the SEC said. Its executives advise and manage its main or “flagship” private equity funds along with co-investment vehicles and other accounts that invest with these funds. Kohlberg Kravis, which neither admitted nor denied the S.E.C.’s accusations, sought to put the issue behind it on Monday, saying that the settlement related to historical issues and not current practices. “We take our fiduciary responsibilities seriously and have strived to adapt our policies and practices to the changing nature of the industry, market and our business,” Kristi Huller, a spokeswoman for K.K.R., said in an emailed statement. “K.K.R. is firmly committed to upholding the highest governance and transparency standards, and we remain dedicated to continually enhancing our practices on behalf of our fund investors,” Ms. According to the SEC’s Director of Enforcement Andrew Ceresney, this is the first SEC case to charge a private equity adviser with a violation of this kind.

Private equity firms charge investors a management fee of 1 to 2 percent of assets under management as well as around 20 percent of any gains each year. The agency said examinations of more than 150 firms found widespread problems, including “hidden fees” and shifting of expenses onto fund investors without adequate disclosure.

That list of lawsuits includes at least five class action lawsuits that allege breaches in fiduciary duties related to inadequate disclosures to investors, price fixing, bid rigging, and restricting the supply of private equity financing. But there are other transactions costs that are often not disclosed, including “broken deal” expenses, costs for monitoring investments and legal fees.

A spokesman for the State Board of Administration of Florida, which manages about $185 billion in pension and other assets, said “We always welcome enhanced oversight—whether regulatory or otherwise.” The state agency wasn’t in the funds associated with the misallocations but has money pledged to other KKR funds, he said. On Monday, Kohlberg Kravis also settled an administrative proceeding that the firm failed to put into action a written compliance policy for its expense allocations until the end of the six-year period in 2011. Another large private-equity firm, Blackstone Group BX -2.07 % LP, last month said the SEC had requested information about certain of its fee practices, including its pre-2014 collection of one-time fees when selling or taking public companies it controlled. Monday’s SEC press release announcing the settlement of the allegations faulted a lack of policies and procedures governing broken deal expense allocation and a weak compliance program for the lapses. The SEC in Monday’s enforcement action looked back to 2006, and found about $14 million in additional broken-deal expenses it claimed were improperly charged to the flagship funds, bringing the total to $17.4 million.

A March article in industry publication PE Hub noted that Carlyle’s current Form ADV filed with the SEC also states co-investors “generally will not share” in expenses associated with investments that are not completed. As part of the settlement, KKR agreed to repay its fund investors $18.7 million to cover additional misallocated fees plus interest, plus a $10 million penalty to the SEC.

The firms are best known for buyouts, a strategy that KKR helped pioneer, in which their funds buy companies, often using considerable amounts of debt, and later try to sell them at a profit.

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