The growth in discretionary consulting and fund-of-funds offerings among pension fund real estate consultants is being challenged.
Institutional Property Consultants, San Diego, has been asked by the board of the $68 billion California State Teachers' Retirement System, Sacramento, to attend the April board meeting to explain its involvement in discretionary consulting and its participation in a fund of funds sponsored by Bessemer Trust Co., a fund official confirmed.
An official with the $55 billion New York State Teachers' Retirement System, Albany, said that fund also is monitoring its relationship with IPC because of IPC's new business activities.
Separately, the $20 billion Los Angeles County Employees' Retirement Association, Pasadena, last year reduced the duties - and the fee - of its real estate consultant, Cleveland-based Townsend Group. That occurred when the board determined Townsend's discretionary consulting activities could present the appearance of a conflict of interest.
A trustee for Los Angeles County said the board is reducing the powers of its consultants across the board, but the decision regarding Townsend was accelerated when trustees learned of its discretionary consulting activities.
Townsend performs discretionary real estate consulting for the $2.8 billion Milwaukee Employes' Retirement System and the $7.3 billion pension fund of Pacific Gas & Electric Co., San Francisco. The firm also has a fund-of-funds program for real estate investment trusts that it tailors for investors.
IPC serves as the investment adviser to the Meadowbrook Real Estate Fund L.L.C., an opportunistic fund-of-funds sponsored by New York-based Bessemer Trust. The fund-of-fund advisers recommended by IPC are The Blackstone Group L.P.; a joint venture between Hicks, Muse, Tate & Furst Inc. and Olympus Real Estate Corp.; and Starwood Capital Group L.L.C.
IPC also is advising the $8.7 billion Utah State Retirement System, Salt Lake City, on its tender offer to pension fund investors in the Metric Institutional Apartment Fund (P&I, Dec. 9).
Discretionary consulting and fund-of-fund offerings are accepted practices in venture capital and other private market investing. There also is a precedent in real estate. Frank Russell Trust Co., Tacoma, Wash., had a real estate fund-of-funds as well as a real estate consulting practice.
But the recent initiatives are meeting resistance in real estate, primarily among money managers and some consultants that don't engage in the newer practices.
These managers opposed argue the proponents, acting in their consulting roles, might recommend an investment with a firm with which they are in partnership.
Also, managers said they are uncomfortable sharing information with fund-of-funds sponsors because they aren't sure if the firm is an unbiased consultant or a competing real estate manager.
Former IPC partner Paul Saylor said the industry shouldn't be judgmental of Townsend's and IPC's new lines of business.
"It's up to the plan sponsor and the consultant to work (potential conflicts) out," said Mr. Saylor, a partner in Chadwick-Saylor, a real estate investment banking firm in Los Angeles.
Bryan D. Kelley, a consultant with Wilshire Associates Inc.'s private markets group, suggests the opposition to fund-of-funds practices in real estate - or a multiple-manager approach as Townsend officials prefer - has to do with the participants being comfortable with established business practices.
"Real estate investors and real estate managers have been around for a long time," said Mr. Kelley. Alternative investment consultants have not.
"There aren't these established relationships between the manager and the underlying institutional investor," said Mr. Kelley, explaining why fund-of-funds work for other alternative investments.
"General partners look at fund-of-funds very positively," he said. "It's another place to access institutional capital."
Specific to IPC, opponents said its advice to Utah is akin to investment banking. IPC is not large enough to have a wall between its consulting and investment banking businesses, they maintain.
Fees are another issue.
If the fee paid to a fund-of-funds manager is based on assets invested, there is an incentive to get the money invested quickly and keep it invested, despite market conditions.
Frank Blaschka, a Townsend consultant, said the firm gives client both options regarding fees. "Most of our clients feel comfortable to do it on an allocation basis, so there is no incentive for us to get money invested," he said.
Officials at IPC and Townsend - proponents but not allies - argue the emergence of these business lines is an evolution in the real estate consulting business, and they are providing a service clients want. One client would not have leverage over another because consultants are fiduciaries, senior officials with the two firms said. Traditional real estate consulting remains their core business, they said.
The LACERA board nevertheless voted to reduce the scope of Townsend's business.
"If Townsend is going to take on a (discretionary) assignment for another client, then we are in competition with our own consultant," said Robert J. Hermann, chairman of the board.
"We felt there could be a potential conflict of interests, especially if we had them in the loop for property acquisitions," he said.
The LACERA board, said Mr. Hermann, prefers that its staff handle such duties as gatekeeper and manager searching and use the consultant as a sounding board for ideas.
"We would have eventually progressed in that area with Townsend," said Mr. Hermann. "Obviously, when they opted to do (discretionary consulting), that hastened our move."
According to the minutes of one of the meetings during which the issue was discussed, Townsend officials said their fiduciary role would prevent them from showing favoritism.
Likewise, state teacher pension funds in California and New York are looking over IPC's shoulder to see that no conflicts arise, officials with those systems confirm.
But Barbara Cambon, chairman of IPC, said: "We have to be responsive to the changing markets, and if (pension funds) want us to take on more responsibility for their investment decisions, we will do that."
"There are all kinds of areas in every business that have the potential for conflict of interests," said Ms. Cambon. "We manage our business responsibly. We use all due diligence and care and we use legal counsel to make sure (conflict) doesn't arise.
