Friday Letter You're fired (I wish)!

The desire to replace the GP is running high in some partnerships, but actually doing so is technically and politically difficult. 

In terms of public relations, it has not been RREEF’s week.

On Monday, the New York-based based firm flagged a plan to get investors to vote on whether to liquidate assets in two poor performing vehicles, DWS RREEF Real Estate Fund and DWS RREEF Real Estate Fund II, which invest in shares of real estate companies.

On Wednesday, The Wall Street Journal reported another fund, RREEF America REIT III, could receive a management takeover from San Francisco-based Stockbridge Real Estate Funds.

Then on Thursday, revealed the firm had quietly dropped plans to raise its next global offering, RREEF Global Opportunities III, which had a provisional target of $1.5 billion equity.

Though all three situations are noteworthy, the first one merits close inspection because it underlines a live issue that is not really being talked about in the open – that of investors wanting to replace the incumbent fund manager with another.

The condensed back story is this: In May the board of DWS RREEF Real Estate Fund and DWS RREEF Real Estate Fund II – which have been hammered by falling REIT shares and too much leverage – did not receive enough votes from investors to liquidate the assets. The largest shareholder, The Susan L. Ciciora Trust, with 5 percent, instead wants to oust RREEF and replace the GP team with the Horejsi Group.

Since that May meeting, there has been plenty of mudslinging but still no settlement.

On August 7, a spokesperson for Horejsi stated stockholders were “anxious” for change and could not understand why “the fund’s board of directors has not acted in the best interest of the fund’s stockholders”.

Horejsi added: “The only action we have seen from the fund’s board of directors are changes to the fund’s bylaws which make it harder for stockholders to submit proposals and otherwise act on behalf of their own fund.”

For its part, the board volleyed back on Monday. Paul Freeman, independent chairman of the board of each fund, said in a statement that the Horejsi group had “demonstrated a course of dealing with other closed-end funds that makes it clear that their primary motive is to seek personal financial gain by taking and operating them in a self-serving manner”. He added: “We will continue to oppose their efforts to achieve control.”

Though titillating to read, the reality is that this kind of tension between incumbent manager, investors and potential incoming manger is not the preserve of RREEF. In recent weeks, PERE has spoken with a number of investors, lawyers and advisers to private equity real estate funds involved in such awkward situations (though haven’t voiced them so publicly).

But in nearly all cases the conclusion they come to is that no matter how poorly a fund many have performed or how unable or unwilling a team is to improve the situation, it is very hard for LPs to replace the manager, and certainly it is very ugly. It is also a tough call to liquidate assets.

The case against replacing a manager run to more than half a dozen and range from a requirement for an LP supermajority buy in, to the high potential cost of compensating the GP to get lost. The other option, of simply throwing assets in a liquidating trust, is no less fraught with unattractive potential consequences.

Limited partnerships are structured precisely to incent the long-term attention of the GP. These partnerships intentionally make it difficult to enact a divorce. In good times all agree that this is a good thing. In today’s market, many LPs are wishing there was the equivalent of a Las Vegas quickie divorce.

The September issue of PERE magazine will include a more detailed look at the barriers to GP removal.