Analysis | Winter 2016/17
Unlike their private practice counterparts, in-house private equity (PE) lawyers prefer a low profile. Or, as one private practice partner puts it: ‘PE is a murky, sharp-elbowed world. In-house lawyers like to stay out of the limelight.’
Yet despite being publicity shy, in-house PE lawyers need to be very visible internally and, unlike many in-house teams, are required to practise effective integration with all business lines, rather than paying lip service to it. Working in a business where internal clients feel they know more about the subject matter – deals and investments – than their in-house lawyers, Gavin Gordon, a partner at Kirkland & Ellis, observes: ‘The more successful in-house PE lawyers tend to be quite forceful characters, because you are in an organisation with a lot of alpha personalities. One of your roles is to curb behaviours where they’re going to put the general partner and/or the fund at risk, and maintain discipline with respect to risk mitigation.’
‘Culturally PE firms tend to be innovative, commercially aggressive and have a very high calibre of people,’ says one PE general counsel who manages the European side of an international house. ‘It may be a bit different from a hedge fund because we are stuck with our decisions for about four to seven years. Nobody wants to be the guy who made a bad investment decision.’
PE legal teams are typically much leaner than the average corporate in-house function with some houses, such as Apax Partners, functioning with only one in-house lawyer (GC Simon Cresswell) while others, like The Carlyle Group, have a team of 11 to service global investment across the company as the house covers alternative asset classes including funds of funds, credit debt and corporate PE (although this number is closer to 30 if you include compliance, tax, regulatory, public company and litigation). Hellman & Friedman has a total of five lawyers globally in Europe and the US with Arrie Park, managing director and chief legal officer, responsible for overseeing the firm’s legal and compliance function as well as advising on legal matters for prospective investments and portfolio companies, while Stuart Banks is GC for Europe.
For Bart Gombert, European GC at Bain Capital, the fact that buyout houses are not strictly delineated means that legal can end up dealing with a wide range of issues. ‘Very often legal plays this weird legal/financial/operational/HR role. It is very typical of PE, because all these organisations are not mature governance-wise. If you want to, as a GC at a PE firm you can grab quite a lot of territory. In a corporation it is much clearer who does what.’
Increasing regulation and an increasing risk appetite are factors currently driving a greater need for lawyers in private equity houses than ever before. Yet despite a combination of the Alternative Investment Fund Managers Directive 2011, the Financial Conduct Authority, the aggression of US regulators and an evolving tax environment all making life more complicated for in-house PE lawyers, the bottom line remains successful deal execution.
Deal mechanics involve an incredibly steep learning curve. That
is one area where
can really help.
The Carlyle Group
‘Deal mechanics involve an incredibly steep learning curve for people not constantly in the deal flow or with our firm. That is one area where in-house lawyers can really help, as we know the firm and see a constant stream of transactions,’ says Heather Mitchell, partner, managing director and Carlyle’s global GC for investments. ‘Our bread and butter is getting deals done, and done in such a way that adds to investors’ returns. If you have the credibility to assist with that, you can work closely with the deal teams who are your clients, and can also effect real change. If you don’t understand at the end of the day what drives Carlyle, it is very hard to make a difference. I view our role as marrying the utmost commerciality with downside protection.’
Harder, longer, stronger
The entrepreneurial, deal-making culture within PE houses creates
a faster-paced working environment for lawyers compared to FTSE 100 companies.
‘Someone who is at a corporate will normally have a week to put together a plan and they will bounce it around and take it to the board,’ says one GC. ‘That is a slower pace of decision-making. When you are in a business made up of people who do deals for a living and the leadership of the firm is people who have done deals for a living for a long time, you are required to make decisions pretty quickly.’
This tends to mean that it is important for PE lawyers in-house to be structured alongside business lines. At Carlyle there is the ‘One Carlyle’ philosophy, which emphasises the need for the legal team to work with the deal team in a very collaborative way with an in-house lawyer assigned to each fund. This also makes it easier to demonstrate value-add, because a lawyer across multiple funds will constantly be doing deals and will therefore be familiar with the latest deal technology or the latest terms compared to a deal team member on a single fund who may not have worked on a transaction for some time.
The increase in regulation and the growth in multi-line PE businesses has also provided in-house lawyers with additional opportunities to demonstrate what they bring to the business.
Chris Hale, senior partner at Travers Smith, says: ‘The changes in PE toward a multi-asset investment approach, particularly at the lawyer end of the market, mean that the head of the team often has to cover different products with different regulatory requirements and different deal expectations. What some do – like 3i – is have a head of legal and specific lawyers who work in an embedded way with a different product line.’
This means at 3i there are different in-house lawyers for infrastructure, debt products and PE, as well as lawyers who deal with internal issues for 3i as a FTSE 100 company. The entire legal function is overseen and co-ordinated by GC and company secretary Kevin Dunn.
Although in-house PE lawyers are typically well embedded in the business, it can take a while to gain the trust of the dealmakers, particularly if they are seen as a blocker or responsible for slowing down deal activity.
Says one sponsor GC: ‘Where you may see some friction is when you are seen as a drag on the things people want to do. When you are seen to be slowing the deal teams down. Where lawyers thrive is when deal teams recognise that having an in-house legal team resource is a way of doing what they do better. Having a lawyer on the team is like having a doctor in the army. You can fight harder, longer and stronger.’
Individual lawyers that are highly rated within PE houses include Blackstone’s managing director in the legal and compliance group, Geoffrey Bailhache, who is described as ‘very commercial, very responsive and very good to deal with’, while 3i’s Dunn, Hellman & Friedman’s Banks and Charles Barter, GC at Bridgepoint, are singled out as being ‘exceptionally capable individuals’ by one PE partner. Barter is also described by the same partner as ‘being on a lot of the key committees with the executives’, while Banks ‘has a legal background, does the legal work, but is very plugged into the commercial side of the deal’.
Lean and mean
Typically there are two different models when it comes to in-house legal teams at PE houses: either the GC brings much of the work in-house and hires a team to work on it, or most of the work is sent to external counsel, particularly the transactional work, usually alongside other people in the business that are not necessarily lawyers working on compliance and regulatory and/or execution and deal process matters. In this case, the GC spends more time dealing with reputational matters, investor relations and risk issues than deal execution.
According to one PE legal head, who prefers the law firm approach, there is a risk of doubling up if you have transactional lawyers working both internally and externally. ‘It can be duplicative if you are paying a couple of million dollars to a law firm to have ten people working around the clock for a month to get the deal done. Certainly from my experience at least, I’d be on the call giving my view on a document, and the law firm partner would also be on the call giving their view, and sometimes you think: “Hang on, it’s 2am in the morning. Why am I doing this because we are paying this partner to do it?”’
Although some PE in-house teams are growing, they remain much leaner than most corporates and are likely to remain this way for a number of reasons, not least because legal fees are paid by the fund rather than PE house and while sponsor GCs may not be under the same cost-cutting pressures as corporates, awareness of costs and getting the best value from their law firms is something they are becoming increasingly aware of.
Adds one buyout GC who looks after global investments: ‘If you have investment banker fees or lawyer fees to do a deal, those fees are paid by the fund. Obviously limited partners get that money back before any PE firm gets its carry. The long and short of it is that it is a cost borne by the fund, so that is why the in-house legal function has not really grown because the PE house was transferring the cost from the limited partners to its own balance sheet.’
Additionally, some buyout GCs prefer to keep their teams small because of the natural ebb and flow of deal making. Having too much legal resource internally means the PE lawyers could end up doing more process work and are less able to act as a problem solver or as a sounding board for the dealmaker.
‘PE teams have stayed lean because there is such a fluctuation in the volume of work flow,’ says another PE GC at an international house. ‘The nature of deals means that when deals aren’t happening or you’re not fundraising, if you have ten lawyers there won’t be a lot for them to do.’
Although law firms may worry about losing ground to a rival if a partner jumps ship (see box, ‘Cult of the individual’, below), unlike most practice areas, PE lawyers in private practice do not need to worry about losing work to clients keen to bring work in-house. While PE houses tend to recruit decent junior lawyers straight from private practice, they are also perfect clients for law firms in that they are not as typically sensitive to costs and fee arrangements and, although they are becoming more sophisticated, they are unlikely to put their external advisers through painfully long panel processes or demand value-adds in the same way that has become the new normal for corporates and banks.
We won’t ever go completely in the direction of corporates because the market is just so different. Our business is to do deals.
Bart Gombert – Bain Capital
As Gombert concludes: ‘We won’t ever go completely in the direction of corporates because the market is just so different. In a way, if you are a corporate that makes widgets, your business is to make widgets and any legal cost that comes with that is something that you need to bring down. For us, our business is to do deals. And doing deals means contracts, merger agreements, purchase agreements, due diligence – with lawyers. You can try and bring costs down and you can be rational but you can only do that to a certain extent, because at some point you have to be careful that you aren’t cutting corners.’
Additional reporting by Madeleine Farman.
Cult of the individual: the declining influence of law firm PE stars
As private equity (PE) in-house legal teams are small and tend to use external counsel regularly this has traditionally resulted in much closer personal relationships between PE in-house lawyers and partners in private practice. Law firms, particularly US outfits, have paid big money over the last few years to secure lateral hires that may entice buyout houses to switch loyalties.
Some of the most high-profile hires in the City include the defection of Linklaters duo Richard Youle and Ian Bagshaw to build a London-based PE practice at White & Case in 2013, as well as Freshfields Bruckhaus Deringer’s hire last year of high-yield heavyweight Ward McKimm from Kirkland & Ellis, which itself paid out $8m a year to lure Stephen Lucas from Weil, Gotshal & Manges in 2014.
‘PE houses often have very institutionalised relationships but the influx of American firms to London – and their frequent hiring of top PE guys from the “old guard” – has left those relationships somewhat shaky and more prone to change,’ reflects Paul Dolman, head of private equity at Travers Smith.
Although there was a move towards formal panels a few years ago, PE houses generally prefer to work closely with a group of preferred law firms on a looser basis. ‘The majority of houses will have relationships with more than one firm,’ adds Travers senior partner Chris Hale. ‘Not least because conflicts arise and the relationship partners may not be available. Most adopt the approach that it is sensible to have two or three firms they will work with.’
However, the increasing complexity of transactions means that it has become less straightforward for a GC at a sponsor to simply follow a preferred law firm partner when they move firm. Relationships are now less personal and deals more multi-faceted – PE houses also need antitrust, tax, employment, anti-bribery and environmental counsel in addition to transactional advice. Law firms are also protecting themselves from individual losses by sharing client relationships among as many senior hands as possible.
One PE house that regularly instructs both Freshfields and Clifford Chance says there is clearly a drive among firms to build a bench and cross-sell services to clients, with a relationship partner in addition to two or three other partners who are familiar with the business as well as a team of associates who repeatedly do deals for the client.
‘The cult of the individual is less influential now,’ says one PE GC. ‘It is all about skills and competence. Because these deals are so complicated you need the platform of the firm.’
Another GC adds: ‘The firm relationship is important, the individual lead partner relationship is important. But there is none of this: “If you move, I will move with you.” The way it is set up is that there are a number of relationships and if one of our main outside lawyers were to make a big move we’d say: “Interesting move, let’s see how it goes and let’s stay in touch.”’
For Bart Gombert, European GC at Bain Capital, it depends on the team an individual brings with them: ‘If we are tracking an individual whose team is not following them, we would think twice. You have the main M&A guy, you have the main finance person – those are the two most important ones, those are the ones you would follow if they were to go. But you avoid the risk as a sponsor by making sure you are not dependent on a too small group of people. We work with four or five firms. Then you become more flexible, you become more independent.’