Some pension plans invest in private equity funds or funds of funds. Certain private equity funds invest in companies with pension plans. This means that pension funds that invest in this asset class need to be aware of any deficiencies in their plans as well as those portfolio company plans to which they are likewise exposed. While the notion of "my brother's keeper" may not resonate well with stewards of billions of dollars, it is a reality. This is especially true, in the aftermath of the Sun Capital Partners III LP v. New England Teamsters & Trucking Industry Pension Fund decision, No. 12-2312 (1st Circuit, July 24, 2013).
Despite the "record year" described by Wall Street Journal reporter Ryan Dezember, private equity investments, like any other, necessitate careful due diligence on the part of institutional investors that seek a seat at the limited partner table. (See "Private Equity Enjoys a Record Year: Firms That Buy and Sell Companies Are Set to Return More Than $120 Billion to Investors in 2013," December 30, 2013). A critical question is whether continued gains will be diminished if a portfolio company has to divert cash to top off an underfunded pension plan. One way to address the issue is for a pension plan, endowment or foundation to ask the private equity fund general partner how much attention they pay to ERISA economics.
There are numerous other queries to make. In the March/April 2014 issue of CFA Institute Magazine, ERISA attorney David Levine (with Groom Law Group, Chartered) and Dr. Susan Mangiero, CFA (with Fiduciary Leadership, LLC), provide insights for improved due diligence, in a post-Sun Capital world. Suggested action steps include, but are not limited to, the following items:
- Ask whether a private equity fund is "relying on the position that it is not a 'trade or business' and is therefore not subject to liability for a portfolio company's" ERISA plan deficit;
- Request to see a list of the holdings for purposes of knowing whether a particular private equity fund has a majority ownership in any or all of its portfolio companies;
- Investigate whether the Pension Benefit Guaranty Corporation ("PBGC") has red flagged any of the pension plan(s) of a business that is part of a private equity fund's portfolio;
- Understand how, if at all, a private equity fund is planning to solve a pension plan underfunding problem;
- Acknowledge that a portfolio company's ERISA liabilities could make an exit difficult, whether via an Initial Public Offering or an acquisition, and that this in turn could lengthen the time before a limited partner can cash out;
- Identify the extent to which a private equity fund regularly examines the degree to which any or all of its portfolio companies are parties to labor contracts that may be difficult to modify; and
- Be aware that this important legal decision could invite more litigation and regulatory actions that, regardless of outcome, have a cost and therefore a potential impact on future private equity fund returns.
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