Why Is FTI Consulting Making It Look Like Apollo Overpaid Its Real Estate Execs $50 Million?

Confidentiality ain’t all it’s cracked up to be, at least when it gets in the way of prospecting for new business.

This is the first of two posts on a confidential document we’ve obtained and embedded at the end of this post. It shows, and not in a good way, the sort of work that so-called forensic consultants perform on behalf of clients. It also demonstrates how investigative reporters use technology to unearth sensitive information.

This case study is of FTI Consulting, a large, publicly-traded professional services firm. It also involves our friends and frequent topic of discussion on the blog, some of the California public pension funds. The other main character is Apollo, one of the largest firms in private equity, another favorite topic.

FTI provided the super-secret document, a written proposal, to the Los Angeles County Employees Retirement Association (LACERA) in response to a request for proposal to examine private equity fees and costs.¹ As we will discuss in our second post, as part of its proposal, FTI provided an example of its work, a confidential, attorney-client privileged draft report prepared for another client, CalPERS.

On its face, FTI’s provision of the document to LACERA breached both FTI’s confidentiality and attorney-client privilege obligations to CalPERS. FTI attempted to legitimate breaching its confidentiality duties by heavily redacting both all references to CalPERS in the report and also all of its findings. However, the report was improperly redacted, andin a technology conjurer’s trick, we were able to remove all of the black squares on top of the text, thus exposing private equity firm information which CalPERS believes to be highly confidential.

But today we will focus on the way FTI did a disservice to yet another client, Apollo, in making its pitch to LACERA. As we’ll discuss in more detail, the pitch contains both descriptions of relevant client projects, most of which are confidential, and then a list of clients for who FTI did relevant work. A reader looking at both sections of the proposal, which are right next to each other, would be likely to connect a project discussing a serious failure in internal controls that led to $50 million of excessive compensation being paid out, to Apollo. Needless to say, Apollo would not be happy to learn it’s been made to look guilty, particularly by a firm Apollo presumably paid well

And if we have two improprieties of this magnitude in a single proposal, how much supposedly privileged information is FTI casually tossing over the wall in its efforts to get new business?

Background on Forensic Consultants

Companies in hot water regularly engage consultants and law firms to perform independent investigations when the matter has or has the potential to become a public embarrassment. As we’ve discussed, if a company really wants to come clean, it will hire a consultant because it is giving up the ability to keep the investigation attorney-client privileged and then decide what if anything it will share with employees and outside parties. One of the reasons Gene Ludwig was able to build Promontory Group into a shadow financial services regulator is that he quickly staked out the niche of doing rogue trader investigations, where boards were eager to demonstrate that they were being open about what had gone wrong.

Headquartered in Washington, FTI Consulting, is a public company with roughly 4600 employees. Firms like FTI can be engaged directly by the client, or they can be brought in as subcontractors to law firms, which means their work product would also be subject to attorney-client privilege.

How Did FTI Embarrass Its Client, Apollo?

We’ve attached the FTI proposal, which includes the supposedly redacted version of the client report. We’re also including the version of the client report with the faulty redaction removed via our parlor trick to show that it was performed for CalPERS.

The first section of the proposal answers LACERA’s questions. Question 3, starting on numbered page 6, “Describe similar consulting engagements that your firm has performed within the past five years.” Question 4, on numbered page 8, is “List institutional clients (public and private pension funds, endowments, and foundations) served by your firm relating to this type of consulting service including…Dates of consulting service”

Further keep in mind that the incentives of anyone who is responding to a request for proposal is to appear as experienced as possible, meaning to list as many engagements as possible.

What we see is that FTI is not terribly careful in letting readers of the document puzzle out for whom it did various forms of confidential work. In question 3, FTI tries to hide the identity of the clients for whom it is describing the assignments, such as “Large public pension fund” and “Privately‐owned private equity investment firm.” But in its braggadocio, it give so much detail that readers would surmise that FTI has let the cat out of the bag regarding for whom it has done what work. For instance, about “Large public pension fund,” it says, “FTI is currently retained by the manager of one of the largest pension funds in the United States…Between 2011 and 2014, FTI was engaged by the same pension fund….”

If you look at the clients named in Question 4, FTI lists CalPERS and CalSTRS, both of which are “one of the largest pension funds in the United States”. But it shows CalPERS as having “Multiple engagements from 2011-present” while CalSTRS is “October ’15-present”. So “Large public pension fund” looks like CalPERS.

FTI also appears to do a lot of outsourced accounting work in the real estate space. The only named client in the Assignments section is The Praedium Group, and FTI describes the work it has done for them in some detail. In that section, it also says it has been engaged by but has not yet started a similar relationship with “Asset Manager that is the sponsor of over $76 billion of open and closed end funds”. Since that project hasn’t started, FTI would not be able to use that firm as a referrer or include it in a list with service dates.

In the client list, in addition to CalPERS, CalSTRS, and the Praedum Group, FTI also lists Western Asset Mortgage Capital Corp and Invesco Real Estate Advisors and under “Client Mandate” says for both, “FTI acts as outsourced corporate accounting group for this externally managed mortgage REIT.” So we know what FTI has done for those named client.

Thus we have only two remaining clients listed in response to Question 4, CalSTRS and Apollo, where the “Client Mandate” is “Confidential” where we have yet to determine if there might be a match from the assignments described in response to Question 3. There are also two matched assignments. One is for the aforementioned “Privately‐owned private equity investment firm.” That can’t be CalSTRS or Apollo, since Apollo is a public company and CalSTRS is a government pension fund. The other assignment was for “Global Investment Bank.” However, if you read the entry, the assignment was not done for a “global investment bank” but the real estate fund group (which may or may not be global) that is part of a bigger financial firm that is public. Note that under the answer to another question that is also confusingly numbered 4, on text page 10, to provide references, Apollo is listed, with the contact as Stuart Rothstein, Partner and COO of Apollo Global Real Estate Management. And when you read the dollar amounts at stake in the assignment, the project would have to have been performed for a very large fund management group.

Regardless of who the client actually was, FTI’s assignment description does not put that company in a very good light:

Some of the troubling elements:

Foxes running the henhouse. The text above effectively says that FTI was working for the management of the very same entity that received the $50 million of overpayments. FTI depicts the breakdown as taking place at the company level and says it gave advice only to “the Company” and worked with its internal auditors.

For this sort of review to be credible, the client needs to be independent of the people who benefitted from the control failure and may well have been aware of what was happening but chose to remain silent. Here, there was no apparent involvement of parent company internal or external auditors, management, legal team, or compliance. Reading this in isolation, a savvy reader would infer that FTI’s job was to help keep top management and parent company compliance officers out of the mix by papering up a solution at the subsidiary level.

No indication that the $50 million was to be paid back or credited against future compensation. If correct, this would be a windfall to the executives of the unit. The narrative discusses only determining who got what overpayment and assessing tax and accounting impacts at the company and parent level.

Possible SEC violation. While the amounts at issue are presumably too small from an accounting perspective for the parent company to refile its financial statements, even FTI depicts the large overpayment to executives as “a breakdown in controls.” This violation is very similar to the sort that the SEC repeatedly used as a basis for charging fines and ordering disgorgements in private equity exams. The text above makes it seem as if it was the public shareholders rather than real estate limited partners that lost out as a result of this overpayment which appears still to be outstanding. But the underlying issue that the SEC uses to assess fines is failure to disclose and that appears to be operative here.

Francine McKenna, who has worked at major accounting firms and now writes on accounting and compliance matters, confirmed our take: “As a public company the amount would probably not be material but as a lack of disclosure item the SEC would likely consider it material. ”

Incorrect terminology. The description says FTI worked with internal auditors to assess the impact on parent company public financials, “based on Generally Accepted Accounting Procedures”. The term of art is “generally accepted accounting principles”. This level of sloppiness in a presentation to a prospective client does not speak well regarding FTI’s professionalism.

And we have additional issues that relates to the proposed LACERA work and potentially the “Global Investment Bank” assignment:

Possible exaggeration of CPA credentials. In the bios presented, FTI has four individuals who present themselves as CPAs Scott D. Friedland and Clara Chin in New York and Scott W. Carnahan and Michael Garibaldi in California. You can input the names as I did in the New York and the California Board of Accountancy as appropriate. Clara Chin came up with no results.² Perhaps she is licensed in another state, but she is located in New York and one would expect her to be licensed in the state in which she performs most of her work.

Now it may be that FTI has given a misleading picture in its LACERA. But if I were Apollo, I would be plenty unhappy, particularly since LACERA is a regular investor in the sort of funds that Apollo manages.
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¹ Perversely, LACERA’s Public Records Act log shows the records being provided to Gretchen Morgenson of the New York Times in 2016, but not from the source that obtained them earlier and provided them to Gretchen and us around the same time. We thought it was better for Gretchen to run the story, and then let it slip when she didn’t. We have the complete record of the source’s e-mail exchanges with LACERA, which included the provision of the FTI proposal with its CalPERS report, from March 3, 2017 to March 17, 2017. We obtained the documents again directly from LACERA to make sure that the agency was still handing out the version it had been provided by FTI, as in an improperly-redacted document. Why we are being so nit-picky about the document’s provenance will become clear when we discuss its significance for CalPERS in a later post.

² “Clara Chin” is no longer listed in FTI’s directory on the “C” last name page of its FTI Consulting – All Professionals directory. Nor does a listing for her come up if you search the FTI site using her name. Nevertheless, at LinkedIn, she depicts herself as “Clara Chin, CPA, CFE…Greater New York City Area” and the most recent bio entry is “Senior Director, Forensic and Litigation Consulting,FTI Consulting, Jun 2005 – Present, 11 yrs 10 mos”

FTI Proposal_5_10_9_2015_Redacted
CalPERS FTI Report