NPS to cease paying management fees for Korean PEF project funds

The National Pension Service has decided to stop paying management fees for project funds to be launched by South Korean private equity firms, after receiving capital from the pension scheme for blind pool funds, said NPS and PEF sources on Sept. 17.

The NPS recently created a clause regarding the management fee in its articles of association. It has been notifying domestic PEFs, which are setting up blind pool funds with money from the NPS and other limited partners, of the new clause: From this year, the NPS will not pay management fees for project funds in which it participates as a co-investor.

This year, the NPS has allocated a combined 800 billion won ($682 million) to five Korean PEFs -- Glenwood Private Equity, Macquarie Investment Management, SkyLake Investment, IMM Investment and JKL Partners.

Last year, it committed a total of 1 trillion won to seven domestic PEFs, including H&Q Korea, VIG Partners, SG Private Equity and Praxis Capital Partners.

Those PEFs are set to launch blind pool funds worth between 500 billion and 700 billion won.

PEFs tend to set up a separate project fund to finance an acquisition deal worth more than 500 billion won, because they cannot cover the full cost of the transaction with blind pool funds and debt financing.

They are allowed to use up to 20% of the blind pool fund money to finance an M&A deal. So they reach out to the limited partners of their blind pool funds to raise additional capital in a project fund.

“We decided that there is no need to pay a supplemental management fee to the fund house, because they are raising further capital for an investment to be financed by the fund to which we have already committed,” an NPS source told The Korean Investors. “The decision was made with reference to the benchmarks used by global institutional investors.”

These project funds managed by domestic PEFs charge a management fee of 0.5-2% on average. This compares to 1.5-2.3% charged by global PEFs. Further, Korean LPs tend to pay an additional fee to global PEFs, paying a premium for deals more likely to generate good returns.

No rules have been set for management fees of project funds. Recently, some investment firms voluntarily cut management fees to better compete with established rivals.

A PEF source complained about the NPS decision, saying: “Given the already low fee rate compared to that of global PEFs, NPS is wringing out a dry towel.”

The NPS move may discourage big Korean private equity houses with strong track records from seeking mandates from the $634 billion pension scheme, and could be replaced by emerging PEFs that need to establish their track records.

“Korean PEFs will be unlikely to chase trillion won deals, which require project funding. Global PEFs may fill the void,” said another Korean PEF source.

Write to Ri-Ahn Kim, Jun Ho Cha and Jung-hwan Hwang at knra@hankyung.com