`It's Good to Be King' for Blackstone, Fortress

Date: Tuesday, April 24, 2007
Author: Susan Antilla, Bloomberg

April 24 (Bloomberg) -- Decked out as Louis XVI in the comedy ``History of the World: Part I,'' Mel Brooks advised us ``It's good to be king.'' The shameless monarch didn't know the half of it: they hadn't invented hedge funds and their buyout- firm brethren back then.

It's hardly a bombshell to suggest that people who operate these firms can act in regal ways. Any industry that can run more than a trillion dollars and dodge most of the federal rules that apply to brokers and investment advisers is kingly indeed - - to say nothing of all those royal mansions in Greenwich, Connecticut.

Just how imperial, though, we are only beginning to understand, as hedge funds and buyout firms for the first time file the necessary documents to offer shares to public investors in the U.S. Public corporations up to now have largely been stuck with regulatory directives that call for shareholder rights, fiduciary and personal responsibility. Not so these latest offerings.

Take the proposed initial public offering of Blackstone Group LP, manager of $78.7 billion in assets, which filed a registration statement with the Securities and Exchange Commission on March 22.

Blackstone, the New York-based buyout firm, was founded by Stephen A. Schwarzman and Peter G. Peterson, who served as commerce secretary under President Richard Nixon and went on to become chairman of Lehman Brothers. Don't confuse Blackstone's unitholders, as they will be called, with shareholders in most other public companies. Unitholders will have negligible say in matters of corporate governance: They won't be allowed to elect the general partner made up of the executives who own the firm, won't elect directors and will have limited voting rights ``on matters affecting our business, and therefore limited ability to influence decisions,'' the registration statement says.

Rules Bypass

Just in case there were lingering uncertainties, if the unitholders decide that the general partner stinks, the document explains that ``they will have little ability'' to boot the partner.

Nor will Blackstone follow certain New York Stock Exchange rules that dictate corporate governance. A limited partnership such as Blackstone, which is incorporated in Delaware, can skirt those rules. Thus, it will not have a board of directors controlled by outsiders; it will not have an annual meeting of unitholders; and it won't have corporate governance and compensation committees made up entirely of outside directors.

It can ``contract around and alter'' the fiduciary duties to which an ordinary Delaware corporation would be obliged, says Larry E. Ribstein, a specialist in corporate partnership and securities law who teaches at the University of Illinois College of Law in Champaign.

`Few Rights'

Unitholders ``will have very few rights -- next to no rights at all,'' Ribstein says.

But this is America, so shareholders can always sue if things go awry in the corporate suite. Not that it would ever happen, but say a chief executive started buying $6,000 shower curtains and throwing $2.1 million parties for his wife and putting it on the company tab.

Blackstone, though, is not a corporation. As a public company, it will be run by a legal entity known as the general partner, which is owned by Schwarzman, Peterson and 55 other senior managing directors. Could shareholders successfully sue those owners if their ethics went on tilt? Ribstein says it would be a dicey bet under the law in Delaware whether unitholders could ``pierce the veil to get to the individual owners.''

``They're trying to give themselves maximum flexibility, which is the history of the hedge-fund industry,'' says Barbara Lucas, partner at Capital Markets Risk Advisors, a New York consulting firm that specializes in hedge funds and risk management.

Fortress Offering

By comparison, Fortress Investment Group, the New York- based hedge fund that went public in a $634 million offering in February, voluntarily complied with NYSE standards that include a board with a majority of independent members. It will also have a conflict committee made up entirely of independent directors. Blackstone allows for a conflict of interest ``committee'' of as few as one person, which the general partner needn't consult in the case of a conflict.

Fortress, though, whose shares have soared from the offering price of $18.50 on Feb. 9 to $30.24 yesterday, also has elected to enjoy some of the goodies that come with being a Delaware limited partnership. Directors and officers will be indemnified ``to the fullest extent allowed under law,'' which gives them more protection from investors' suits than they would be allowed in a corporation, where they would be on the hook for naughty acts such as intentional misconduct.

Ganging Up

Shareholders who might be inclined to get feisty and gang up against management had better keep this in mind: like many companies in which the selling shareholders retain a big stake, Fortress principals control 76.7 percent of the shares. That means if they decide to vote as a bloc, they will exercise control ``over all matters requiring approval of shareholders,'' according to the 10-K filed with the SEC on April 17.

Blackstone and Fortress officials declined to comment.

Fortress may be different from a humdrum corporation in some ways. In others it sounds like a routine operator. The brother- in-law of Peter L. Briger, a Fortress president who is responsible for the hybrid hedge-fund business, worked at the firm for part of last year. And John Novogratz, brother of another Fortress president, Michael Novogratz, is managing director of investor relations for Fortress. It's good to be the king's relative, too.

(Susan Antilla is a Bloomberg News columnist. The opinions expressed are her own.)

To contact the writer of this column: Susan Antilla in New York at santilla@bloomberg.net .