Reasonable Goals in a Poorly Constructed Bill: Burying Public Records
Just after starting to work in the governor’s office in New York in 1980, I was asked to draft a piece of legislation. I don’t remember the subject matter, but I vividly recall the mark-up of my work that I received back from the legislative draftsman who edited my work. No more than a few of my original words survived. I remembered this story after reading North Carolina House Bill 1209; legislation that implements selected recommendations of the State Treasurer’s Investment Fiduciary Governance Commission. Although this bill has some laudable goals, it needs to be substantially edited, shortened, and substantively amended.
I appeal to my readers, especially those outside North Carolina, to bear with me. While many of my quibbles will seem technical and picayune, good intentions embodied in poorly drafted legislation almost always lead to bad policy and unintended consequences. It is going to take a couple of posts to take you through this matter. Today I am going to start by looking at the most controversial component, which attempts to deal with public records and confidential information.
At the outset, I’ll outline the bill’s objectives. H. 1209 would:
- Require an outside accounting firm to audit the pension plan. This audit would be in addition to the audit performed by the State Auditor.
- Require the State Treasurer to hire an outside consulting firm to produce a quadrennial performance review of the pensions’ investments.
- Spell out the annual requirements for reporting the performance of and fees charged by external money managers.
- Provide the State Treasurer with flexibility in hiring and compensating investment professionals.
- Require placement agents to register as lobbyists.
- Exempt most of the legal documents concerning investments from the public records law for a period of ten years after the investment vehicle is terminated.
The provision restricting public disclosure of investment documents is a clever idea. The proposal looks like the State Treasurer is advocating greater public disclosure. In reality she is surrendering to the far-fetched arguments made by alternative money managers that their legal documents are trade secrets and confidential. I have a host of concerns about this approach.
First, ten years after a fund is terminated is a time. By the time the current round of documents is subject to scrutiny, I’ll either be dead or no longer sharp enough to read this material. The standard private equity deal lasts ten years, but the legal entities often exist for many more years even after the last dollar has been returned to the pension. For example, some of the investment entities created over twenty years ago under Treasurer Boyles appear to be around today. Thus the content of those relationships wouldn’t be available for public review for another ten years even if they were terminated immediately. Treasurers will come and go, and the documents will be locked away. Ex-presidents release materials from their White House days more quickly.
Second, the provision puts all the power in the hands of the money managers. All the manager has to do is stamp confidential on a private placement memorandum, and it’s sealed up for a couple of decades. Similarly, the contractual arrangements between the Treasurer and an external manager can be hidden if the document uses the magic word. Every legal document pertaining to an investment will have the word “confidential” conveniently inserted in the header or footer.
I’m probably one of the few people around with the time and interest to peruse the thousands of pages of materials on SEANC’s website which are the result of their public record requests. Some managers have allowed all their legal materials to be posted, and others have heavily redacted the material. The managers who have allowed the posting have not given up anything material to their business, and the managers who have redacted materials simply look evasive. In other words, the bill creates a system of protection for material that doesn’t deserve protection.
Third, the ten-year lock up doesn’t apply to the State Auditor or the General Assembly. Remarkably, the bill doesn’t say anything about what the State Auditor or member of the General Assembly can do with the information. As best I can tell, they could make the information public. Curiously, the legislation excludes the external auditor and performance consultant from reviewing this material. I’m not sure how one is supposed to test the valuations, cash flows, and performance of the pensions’ investments without access to this material.
Fourth, the lock-up strategy doesn’t solve the money managers’ problems if they really have any. If the legal documents and contracts contain confidential matters or trade secrets, as some of those managers alleged in their letters blocking or redacting part of SEANC’s public record requests, then the release of material in the future will still be damaging to the manager’s long-term business interests. In reality, there’s virtually nothing proprietary in this material. The State Treasurer and her legal team are unwilling to stand up to the money managers, and the managers would prefer that the public didn’t see the advantageous and/or broad terms under which alternative investments are managed.
The State Treasurer’s approach to protecting money managers and their documents is best exemplified in her Department’s reaction to a different approach to this matter. At the behest of SEANC, Representatives Setzer, T. Moore, Johnson, and Moffitt introduced H. 1237, which makes the fees, performance, and “all other documents related to these investments” public records. While I think H. 1237 goes too far, the reaction from the Department of State Treasurer is a bit over the top, and reminds me of the writing style of the Department’s critic Edward Seidle. In an email to the sponsors of H. 1237, Anthony Solari, political and policy advisor to the State Treasurer, asserted:
I am told that were this legislation to be enacted our counterparts would immediately enact clauses specifying damages to their interests, clauses that would prevent us from doing business with them.
Furthermore, staff tells me that an initial and admittedly rough estimate of losses as a result of the breaking of these contracts is $1.8 billion — a figure that does not include penalties and fees charged against us.
I doubt that many managers would actually invoke these kinds of provisions since the fees they’re receiving from the pension are so lucrative. However, if a few external managers invoked these kinds of provisions in their contracts, I’d like to see the State Treasurer take on that fight. I’m guessing that judges, who are members of public pension systems, would find that the vast amount of material claimed as confidential or a trade secret are no such thing, and that these kinds of claims don’t stand up to scrutiny.
As I mentioned earlier, H. 1237 goes too far. There are a few matters such as the valuations and details of underlying portfolio companies that deserve protection. The Attorney General’s office has already backed this position in an opinion issued in 2006. Moreover, the State Treasurer’s side letters with alternative managers appear to acknowledge this state of play. According to a side letter (I think it is I signed by the GP and State Treasurer, but I can’t tell because the signatures are redacted; really?) the manager and the State Treasurer acknowledge that the Treasure may be required to disclose documents unless there’s a specific statutory protection.
While I’m not sure why any member of the public would want to wade through all of this material, I don’t see why it couldn’t be public. At worst, the external manager might be embarrassed. However, making much of the material a public record wouldn’t pose any harm to the people I really care about: state employees and retirees. The trove of documents available on SEANC’s website demonstrate the inconsistency with which external managers claim that their documents deserve to be treated as trade secrets (see, “The Real Public Records Revelation: Trying to Make a Commodity Look Proprietary [April 14, 2014]”). In the end, the Treasurer’s ten-year lock-up is far worse than the current state of affairs, which is admittedly a bit messy.
 see for example, https://www.dropbox.com/sh/h20dzvocw9dgicf/AAAiexktLCMEblXMs5JFxxqaa/Castle%20Harlan%20Partners%20V%20-%20Side%20Letter_redacted.pdf
 The side letter with Castle Harlan, a private equity manager, redacts the date of the attorney general’s opinion. I’m not sure who took out the black pen to blot out this information, but it’s clearly wrong to try and hide the content of a public document. Ibid, page 3. See also page 7, where the pensions’ capital commitment is redacted. It makes no sense. Meanwhile Hawkeye’s side letter doesn’t redact the commitment amount or the signatures. See, https://www.dropbox.com/sh/1k0ei3sosx26ggu/AACwnkZgewz5Xsev4UeS76Ppa/Hawkeye%20-%20Scout%20Fund%20II%20NC%20Side%20Letter%20%28Redacted%29.pdf