Dan Och’s $37 Billion Question: Will Investors Stand By Him?by , , and
Och-Ziff assets have slid by almost a fifth this year
Settlement may spur investors to mull reputations, guidelines
Dan Och must now try to convince investors to stick with his firm.
As the hedge fund industry suffers outflows from clients frustrated with lackluster returns, Och-Ziff Capital Management Group LLC faces an added burden. It will have to get clients to stay after a five-year probe revealed widespread bribery at one of its units and singled out Och, its chief executive officer, for approving some of the offending investments over the objections of his legal team.
“This is a black mark,” said Michael Rosen, chief investment officer at Angeles Investment Advisors, who has known Och for a decade. “How he and his firm respond to questions about the case and his involvement will determine whether or not we stay invested,” said Rosen, whose Santa Monica, California-based company invests $2.5 billion in outside managers including Och-Ziff.
Och, 55, who regulators say was unaware of the bribes, said he’s learned from the experience and taken steps to strengthen the firm, according to a Sept. 29 statement. “This conduct is inconsistent with our core values and not representative of our hundreds of employees worldwide, who are dedicated to serving our clients with the utmost integrity,” he said.
As Och-Ziff was finalizing an accord with authorities, assets dropped $2.3 billion last month, the second-biggest decline on a percentage basis this year. All told, the company’s assets have slid by almost a fifth since the end 2015 to $36.9 billion as of Oct. 1, it said Tuesday.
The firm settled last week with the U.S. Securities and Exchange Commission and Department of Justice. It agreed to pay more than $400 million in fines, penalties and disgorgements -- with Och personally agreeing to pay nearly $2.2 million -- and enter into a deferred prosecution agreement with the Justice Department in exchange for cooperation and good behavior, as well as to install a monitor to verify that. Its OZ Africa Management GP unit pleaded guilty to conspiring to bribe officials of the Democratic Republic of Congo. Several bribes were paid with investor funds, the SEC said.
“This case is significant because it focuses on the responsibilities of CEOs,” Andrew Ceresney, head of the SEC’s enforcement division, told reporters. “When faced with these sorts of risks and red flags, CEOs must say no.”
Och-Ziff shares fell 8.6 percent at 1:32 p.m. in New York, the most in six months, deepening a selloff since the settlement was announced to 12 percent.
Och started the hedge fund firm in 1994 after spending more than a decade at Goldman Sachs Group Inc. Och-Ziff, whose main fund became one of the most profitable hedge funds in the history of the industry, sold shares to the public in 2007.
According to the SEC, Och personally approved funding two transactions in which bribes were paid. Those bribes were then recorded as investments or loans, the SEC said. Though the SEC said Och didn’t know about the bribes, the firm acknowledged it failed to accurately reflect how assets were used and didn’t have adequate internal controls.
“The facts stated will be extremely disturbing to investors,” said Guy Talarico, CEO of consulting firm Alaric Compliance Services LLC. “The use of investor funds, the risks the investors were subsequently exposed to, makes this more than a” violation of bribery rules.
Fitch Ratings signaled Friday that it could cut Och-Ziff to junk, saying the accord may “contribute to reputational damage for the overall firm and result in near-term” asset outflows. Still, the fact that a subsidiary, rather than the holding company, pleaded guilty may help limit withdrawals, Bank of America Corp. analysts led by Michael Carrier wrote Sept. 29.
When the investigation was publicly disclosed in March 2014, investors were undeterred and the firm attracted cash over the next three quarters. As the probe progressed, Och-Ziff suffered outflows and assets under management fell to $39.2 billion as of Sept. 1 from $45.5 billion at the end of 2015. The firm was pulling in less cash than usual from clients this year because of a combination of “industry issues” and the government’s investigation, Och told analysts on an Aug. 2 earnings call.
Pension funds, foundations and endowments, which are sensitive to reputational risk and often guided by ethics rules, comprised almost half of the investor base in the firm’s funds as of July 1.
Some of them have already made withdrawals. The Public Employees Retirement Association of New Mexico decided last year to pull its investment for reasons including “headline risk” from the probe, along with a move to trim the system’s hedge-fund exposure, according to CIO Jon Grabel. By policy the pension, which still has about $1 million at Och-Ziff to be paid out, must consider whether managers have complied with all federal and state securities laws.
“The uncertainty around the investigation was not a positive by any means,” Grabel said.
Goldman Sachs’s retirement plan is liquidating its $350 million investment in Och-Ziff’s multistrategy fund, Bloomberg reported in August. The Orange County Employees Retirement System decided in July to redeem its $57 million investment because of multiple factors, according to spokesman Robert Kinsler, who declined to elaborate.
It’ll be a judgment call for pensions such as Missouri’s Department of Transportation and Highway Patrol Employees’ Retirement System, which remains invested in Och-Ziff but has a policy that external managers must maintain a record of ethical behavior. CIO Larry Krummen said he can’t comment on manager-specific issues.
The New Jersey Division of Investment submitted a $190 million redemption request from Och-Ziff last week. Joseph Perone, a state treasury spokesman, said the decision is part of a restructuring of the hedge fund portfolio at the pension, which voted in August to halve its allocation to the industry. New Jersey still has $2 billion committed to Och-Ziff through real estate, energy and credit funds.
The pension isn’t prevented by its investment guidelines from using a manager linked to criminal activities, although such behavior would be considered when the investment committee performs due-diligence screening, according to Perone.
Before last week’s revelations, Och-Ziff representatives had kept some clients from pulling money by telling them that any bribery offenses were isolated to two former employees and that the firm’s investors wouldn’t have to pay any fines, according to people familiar with matter.
Joe Snodgrass, a spokesman for the firm, declined to comment on client discussions.
Michael Cohen and Vanja Baros, two former Och-Ziff executives involved in the probe, left the firm’s London office in 2013 and haven’t been charged. Cohen has denied wrongdoing through a lawyer. Baros didn’t respond to requests for comment.
The government’s investigation into the roles of individuals is continuing, people familiar with the matter have said. Och and other executives agreed to buy about $400 million of perpetual preferred units to help pay for the settlement, according to Thursday’s statement.
Despite Och-Ziff’s legal woes, “they’re a good firm -- that’s the problem,” said Alaric’s Talarico, referring to the manager’s strong long-term performance. Investors “have to scrutinize what’s happening and balance all these factors, because you have a fiduciary obligation and that means you have to make sure you deliver the returns to your constituents.”