Private Equity: The Mechanics of Intellectual Capture

By Nanea, a private equity insider

I thought I would make a brief digression into how private equity GP*s are able to use a web platform called IntraLinks as a vehicle to intellectually capture and, in a sense, hold prisoner their LP investors.

Private equity funds generate a lot of written communications from the GP *s to the LPs. Among other things, the GP*s send the LPs various of the following:

• “Capital calls”- notices that money is needed to fund investments;
• “Distribution notices”- information that money is flowing from the fund to investors and why;
• Quarterly fund financial reports- financial statements for the fund;
• Annual fund financial reports- more financial statements for the fund

It’s a lot of paper, trust me.

During the dot-com boom, somebody at a PE firm got the idea to use a nascent web business called “IntraLinks” to send all of these communications to their LPs. The idea quickly caught on among both GP*s and LPs, to the point where it is used almost universally for this purpose today. For the LPs, IntraLinks has supposed benefits: all of their paperwork for each fund is neatly organized for them on the IntraLinks site, and the service is free for them (IntraLinks business model is to have the GPs foot the bill). The idea of all the paperwork organized in one place has especially powerful appeal to the biggest LP investors, the major government pension funds. These pension funds have hundreds of commitments to private equity funds, and, as governments, they tend to lack the financial resources necessary for support staffs to maintain all these records. So it seems like a no-brainer decision to “outsource” the record keeping for free to IntraLinks.

To some extent, IntraLinks has similar appeal to the GP*s. It gives them a means to centralize communications with their investors. All the GP*s have to do is upload a document to IntraLinks, and from there the site takes responsibility for ensuring that the appropriate individuals among the LPs get to see it.

But there are darker powers inherent in IntraLinks too, one that the GP*s have used ruthlessly to their advantage. Most significant of these, IntraLinks allows the GP*s to see in real-time which of their investors have opened a document. As a result, when an LP comes in for a one-on-one meeting with a GP*, the GP can know beforehand whether the LP is aware of the current portfolio company valuations or not. Anyone who has ever been involved in selling can appreciate what an incredible advantage this information provides to the GP*. It allows the GP* to be more aggressive in spinning what euphemistically might be called “narrative” when the GP* knows that the LP hasn’t done his homework and is in no position to call him on it.

An even darker potential that IntraLinks offers is that it permits the GP* to replace unopened documents with new versions, and the LP has no way of knowing.

I am aware that some LPs make a strong effort to continuously siphon off all the documents on IntraLinks in order to maintain copies on their own computers. But I also know that many LPs do not do this. They have effectively handed over the keys to their own filing cabinets to the GPs with whom they do business.

––––––––

As discussed in an earlier post, GP*s are the natural people who manage the sponsoring private equity firm, as opposed to the general partner (GP), which is a legal entity