Private Markets Insights: Perspectives from Jeff Gelfand

In a series of interviews with experts in the world of private markets, we sat down with qashqade advisor Jeff Gelfand. Jeff is the retired Senior Managing Director and former Chief Financial Officer of Centerbridge, a $28 billion private investment firm, with offices in NYC and London.

Hi Jeff. Recently, a New York-based investment adviser was fined $1.5m by the SEC after charging excessive management fees based on misinterpreted terms in LP agreements. Do you think we will see more fines like this?

Hard to say, but what is clear is that management fee and incentive fee (which are much more material) calculations can, unfortunately be miscalculated through a misinterpretation of the language in the limited partnership agreement, a variety of “ways” to calculate certain items (such as a preferred return), and frankly, bad formulas in Excel spreadsheets.  My best advice for GPs is to have an extra set of expert eyes on their calculations and for LPs to validate the fees they are paying to their managers.

There’s quite a lot of industry media attention online about co-sourcing – fund managers working closely with fund administrators to improve efficiency. Is this something you are seeing in the US?

Yes, for sure, but this isn’t something new. This makes good business sense in the age of fee compression. However, GPs have to be very careful that they outsource the appropriate tasks to the appropriate firms and to properly supervise and review their work. Most importantly, once co-sourced, the GP must ensure that those costs are properly charged to the Fund as a partnership expense or to the Management Company as a firm cost.  Co-sourcing doesn’t open the door to charge items to the Fund that otherwise would have been borne by the Management Company.

What kind of functions are you seeing GPs or LPs co-source that enable CFOs and COOs to focus on their core responsibilities?

Lately, I have seen a lot more co-sourcing of middle office responsibilities.  Items such as margin management with prime brokers and ISDA counterparties, cash reconciliation related tasks such as cash break identification, tracking and resolution, and even the outsourcing of the entire cash wire transfer process. Interestingly, I have also started to see alternative asset managers begin to co-source certain accounts payable responsibilities. It’s important to note that co-sourcing does not absolve the GP of owning these responsibilities. The work still needs to be reviewed and approved. These co-sourcing firms are simply extensions of the GP’s team.

When you became an advisor to qashqade in 2021, you said “one of the biggest risks in private equity is the waterfall calculation”. Could you elaborate on this?

Well, it’s not the biggest risk. The biggest risk is obviously making poor investment choices. However, as mentioned above, incorrectly calculating your carried interest is definitely a higher-risk item than it should be. In my experience, private equity waterfall calculations are typically calculated in Excel (by the GP and/or its fund administrator) and those Excel worksheets are passed down/around from controller to controller and tweaked accordingly. When you are not the original maker of a model, there is a much higher likelihood that you don’t fully understand the logic behind it. One added row or column can throw the entire calculation off. One nuanced distribution methodology change by the lawyers can be misinterpreted and calculated incorrectly. And frankly, sometimes the risk is just a bad formula. By the way, this risk applies equally to hedge funds. Even with all the great technology out there, hedge funds, and their administrators, are still performing their partnership allocations in Excel. Again, my best advice is to have an extra set of eyes on these important calculations. Life is too short to get this wrong.

Thank you Jeff!