The $2.5 billion Hicks, Muse, Tate & Furst Inc. Equity Fund III, a leveraged buy-out fund popular with institutional investors, was blasted by CalPERS' staff.
Newly released documents reveal staff at the California Public Employees' Retirement System, Sacramento, believe Hicks, Muse overpaid for radio stations and has little alignment of fees with performance.
They said executives at Dallas-based Hicks, Muse have limited investment experience in one key potential investment area, Latin America, and no experience with a fund as large as Fund III.
But other pension fund investors in Equity Fund III dismissed CalPERS' criticism as almost incomprehensible bitterness.
Several of them described it as a case of "sour grapes."
In recently released transcripts of a closed-door discussion earlier this year, Barry Gonder, CalPERS' senior investment officer for alternative investments, said he was concerned about Hicks, Muse buying into radio stations "when multiples for radio stations are at an all-time high. I think it would be a better strategy to be exiting radio stations."
Mr. Gonder also expressed concern about "organizational issues," such as how much time Hicks, Muse executives "will be dedicated to the fund vs. other activities by the general partner."
Another issue was fees.
Hicks, Muse "could lose all the money (in Equity Fund III) and they would still make $40 million to $45 million in profit per year over a 10-year period. That is a lot of money," said Mr. Gonder.
The way the Hicks, Muse fund is currently structured, said Sheryl Pressler, chief investment officer, the general partners make a profit whether or not CalPERS does.
In response, Dan H. Banks, a senior vice president with Hicks, Muse, said: "We have to perform well enough that we repay the fee before we get anything.
"If we just do well enough to generate returns that equal the management fee of 1.5% a year, we would have to repay that, and we end up getting nothing," said Mr. Banks.
CalPERS staff also raised these concerns:
The fund's expected internal rate of return was not as high as other partnerships already in the CalPERS portfolio.
The fund employs a higher risk strategy than comparable partnerships because it paid relatively higher prices for its acquisitions and exercised lower levels of direct control over operations.
Hicks, Muse does not have a long track record in foreign investments, though 20% of the funds assets could be invested in Latin America.
Equity Fund III is almost triple the amount Hicks, Muse has invested in the past.
The transcript also showed Hamilton Lane Advisors, Philadelphia, one of CalPERS' alternative investment consultants, recommended against the investment.
Investors in Equity Fund III include the $12 billion pension fund of American Airlines Inc., Fort Worth; the $4 billion pension fund of Goodyear Tire & Rubber Co., Akron; the $62 billion Florida State Board of Administration, Tallahassee; $34.4 billion Michigan State Employees' Retirement System, Lansing; the $25 billion Oregon Public Employes' Retirement Fund, Salem; $34 billion Washington State Investment Board, Olympia; $58 billion New York State Teachers' Retirement System, Albany; $19 billion Colorado Public Employees Association, Denver; and the $8 billion Louisiana State Teachers' Retirement System, Baton Rouge.
In March, a vote to delay a relatively small $100 million investment by CalPERS in Hicks, Muse's Equity Fund III failed by one vote. A subsequent 7-4 vote approved the investment.
Meantime, Equity Fund III became so popular with investors that it grew from the original planned size of $1 billion to $2 billion and, finally, to $2.5 billion.
William F. Quinn, president of AMR Investment Services Inc., which oversees American Airlines' pension fund investments, dismissed criticism of the fund as being bad information, and described Equity Fund III as an excellent investment.
Hicks, Muse "may not buy at the cheapest price, but they buy at a fair price and then they build businesses around that, and the synergy of those businesses add value and good returns," he said.
Mr. Quinn said the partners have had substantial success in Latin America.
On fees, he said general partners receiving fees regardless of the profit of a partnership is true of any similar partnership.
"It (the CalPERS criticism) sounds like sour grapes," he said.
Officials at both the Colorado and Oregon funds said they have been happy with Hicks, Muse's performance.
Tom Hicks, chairman of Hicks, Muse, Tate & Furst Inc., said the CalPERS staff criticism was "unfortunate" and results from "an agenda that I don't understand."
"We have most of the prestigious investment groups and pension funds in the country," said Mr. Hicks.
He said compound annual return for Hicks, Muse's Equity Fund I was about 30%; Fund II will be over 40%; and Fund III, he believes, will be over 40%.
"We operate in a high-priced environment very successfully because we have been among the most successful in the country to use operating strategy where we buy a core business and use it to buy other companies as a way of lowering our prices at effective multiples," said Mr. Hicks.
Fund II, he said, had a cost basis of $6 per share and is worth $43 per share today; investments in Fund III already have doubled in the last year.
Mr. Hicks also said the partnership has invested in Latin America for more than five years and is now "the leading investor in Latin America of all U.S. investment firms."