Advisory fees have clients taking hard look at Huff

MORRISTOWN, N.J. — W.R. Huff Asset Management Co. LLC, a leading distressed debt investor with a decidedly low profile, is garnering scrutiny from some clients over millions of dollars in fees the money manager received for advisory services to companies in its high-yield bond portfolios.

A Boston-based securities lawyer, who declined to be named, said such fees shouldn't necessarily become a sticking point, especially if Huff's clients knew from the start that the Morristown, N.J., firm could be taking those fees from the companies in which it invested their money.

But some pension fund clients — including the $99 billion State Board of Administration of Florida —said they were not told before June, when the money manager sent them a letter disclosing it had accepted $11.5 million in fees from two U.K. telecom companies in Huff's high-yield bond portfolios.

In recent filings to the Securities and Exchange Commission, NTL Inc., New York — the financial headquarters of one of the two U.K. telecom firms — said it paid W.R. Huff $7.5 million in fees for "financial and business advisory services," while Telewest Global Inc., Wilmington, Del., the financial headquarters of the other firm, disclosed it had paid roughly $4 million to Huff for advisory services connected to its financial restructuring.

With the investment industry in full-alert mode for potential conflicts of interest, those fees are drawing attention.

A senior consultant to some of Huff's big pension fund clients, who requested anonymity, said Huff's decision to take fees from the same companies in which it invests client money calls into question one fiduciary pillar: a money manager's responsibility to show "exclusive loyalty to the client."

Competitors said a money manager's job in a typical distressed debt investment — where the firm used client money to buy the bonds of a struggling company in hopes of reaping outsized gains from a corporate turnaround — is to maximize the value of that company for its clients. Accepting millions in fees for doing that work could amount to dipping into a pot on which clients have a claim, they argued.

If Huff officials had explained to clients beforehand the role the firm planned to take in turning around NTL and Telewest and the fees it would seek for doing so, this wouldn't necessarily have become an issue, said the senior consultant. As it played out, however, the money manager's actions stand as "a blatant lack of attention to written (investment) guidelines," he said.

In an e-mailed reply to questions about the fees, William R. Huff, the founder of Huff, said, "Nothing in our guidelines or contracts prevents us from performing the services, or receiving fees for them. The services were unanticipated, unprecedented and so far out of the realm of normal investment management services that they would not be considered and therefore covered under any contract or guideline."

"We do, however, have the flexibility and latitude to perform such services so long as such services are not adverse to client interests; these services were, in fact, complementary to client interests," he wrote.

Mr. Huff said his firm has been open about what it was doing whenever Huff executives met with clients. "We discussed our heightened level of involvement in NTL and Telewest on a contemporaneous basis with clients throughout our normal account review process. Our clients were pleased with our ability to create value for them even though our work on these two companies was not within the scope of our investment management agreements."

Huff's defenders, including several pension fund clients, said the crux of the matter is whether the NTL and Telewest restructurings, and the money manager's role in them, were indeed typical. They argue that Huff's role in both cases was extraordinary, as were the gains the money manager was able to deliver to clients as a result.

In most cases, investors in distressed debt cash out soon after a restructuring is announced, when creditors take control and get equity, said Brad Eric Scheler. Mr. Scheler is a bankruptcy and restructuring partner with Fried, Frank, Harris, Shriver & Jacobson LLP, New York, who was counsel for the bondholders of both NTL and Telewest, and now serves as outside counsel for those companies.

But Huff decided to put an enormous amount of work into maximizing the value of the equity it got — an unusual effort that paid off greatly for any investor who stuck around, he said.

Some of Huff's pension fund clients, however, remain concerned.

Michael P. McCauley, a spokesman for the State Board of Administration of Florida, Tallahassee, said the SBA has put W.R. Huff on its watch list this quarter because of the fee issue. If matters aren't resolved to the board's satisfaction, terminating a money manager is an option in cases involving issues unrelated to performance, Mr. McCauley noted. W.R Huff manages $359 million in high-yield bonds for the SBA.

Richard Baker, a spokesman for the Ohio Public Employees Retirement System, Columbus, said OPERS staff have scheduled a meeting with Huff representatives to examine potential conflicts of interest in the fees surrounding the NTL and Telewest restructurings. Even though the $58.7 billion pension fund sees no direct impact on its portfolio, OPERS officials are concerned about "the judgment used in determining compensation," he said. W.R. Huff manages $340 million in high-yield bonds for OPERS.

Other clients, including the $32.6 billion Massachusetts Pension Reserves Investment Management Board, Boston, the $33.5 billion New York City Employees' Retirement System and the $30 billion Teachers' Retirement System of the City of New York, said they're studying the matter but haven't reached any conclusions yet on how to proceed.

But several clients are satisfied with the money manager's explanations.

William R. Durgin, the chief investment officer of the $414 million College of the Holy Cross endowment fund, Worcester, Mass., said Huff's experts did work "above and beyond the call of duty," resulting in handsome portfolio returns. It was a "win-win" situation for the company and clients, he said. The executive director of a corporate pension fund with more than $5 billion in assets, who declined to be named, agreed, saying Huff's work on NTL and Telewest had a huge, positive impact on his fund's returns with the money manager.

NTL's stock last traded at $4.95 a share on the National Association of Security Dealers' Over the Counter Bulletin Board at the end of 2002. After the shares of the financially restructured company were listed on Nasdaq when the company emerged from bankruptcy in mid-January 2003, NTL ended up being the Nasdaq market's best performer for the year, said Alison Kirkwood, NTL spokeswoman. The stock traded at $18.10 a share on Jan. 15, 2003, and rose to $69.75 a share on Dec. 31 for a 285% increase.

Jerry Brown, the chairman of the board of trustees for the $2.2 billion Dallas Police and Fire pension fund, said his board "has decided to take no action" on the fee question.

"Personally, I think it's a gray issue," and the firm could have done more to let clients know what was going on. But over a 14-year relationship, Dallas has known Mr. Huff to be "a very good manager, who has always gone to do the best he can for clients," said Mr. Brown. Bill Huff is "very tough, and that's why Dallas hired him," he said.

Over the past month, consultants have begun weighing in on the issue. Some, such as Wilshire Associates Inc., San Francisco, have written off the matter as a "communications issue" and have not urged any action, according to clients. Kim Shephard, a Wilshire spokeswoman, declined to comment.

According to industry sources, a few consultants — including Callan Associates Inc., San Francisco, and Ennis Knupp & Associates Inc., Chicago — have advised their clients to ask Huff to use the $11.5 million in advisory fees it took to offset their money management fees. RepresenCallans at Callan and Ennis Knupp declined to comment.

An executive with another big consulting company, who declined to be named, said many of Huff's competitors have guidelines stipulating that they funnel any extra fees they receive back to clients. "If everybody else does it one way and Huff does it another way, that sort of makes them the odd man out," he said. Those $11.5 million in fees "belong to the clients as much as they belong to Huff," said the executive.

Asked how Huff would respond if clients asked the firm to use that $11.5 million to offset their money management fees, Mr. Huff wrote in his e-mail, "Upon a full discussion of the facts and circumstances, we have made that offer to our clients. Very few have taken us up on that offer."

Mr. Huff said his company's work on NTL and Telewest "brought tremendous value to our clients (and to countless free-riders). However, the experience has been distasteful and thankless as unqualified parties have made baseless, spurious remarks about our firm which are not supportable by either fact or law and which comments have required many hours of our time to explain."