On fees and transparency

Agri is such a diverse sector with varying strategies and risk/return profiles that it is unlikely there will ever be one common fee structure – but consensus is decidedly moving away from the 2-and-20-style model.

Fund structures and fees continue to be a top-of-mind issue for agri investors and this week, once again, I wound up discussing the issue over coffee with a few contacts.

I know, the controversy around the so-called ‘2-and-20’ model is nothing new. And for agri investors that watched some farmland fund managers destroy returns by charging a 2 percent management fee and 20 percent carried interest, and sometimes even layering on more in the form of deal or monitoring fees, the unsuitability of that model seems obvious.

It is understandable why some early-mover agri funds tried to employ that type of fee structure since it’s endured for decades in private equity (albeit with some variation and no less controversy – fee offsets and reductions are a constant talking point for buyout investors).

And we’ve seen the same thing happen in other relatively ‘new’ alternative asset classes that were also lacking a fee structure precedent, like infrastructure. Some early infrastructure funds thought they could get away with charging 2-and-20 while yielding low teen returns. They were soon proved wrong and had to change tack; depending on the strategy, infra funds will charge between 1 percent and 1.5 percent management fee and a 10 percent to 15 percent performance fee.

Agri investors and fund managers also seem to be learning from past missteps and coming to a consensus around a more appropriate model; I hear a lot more now about funds with management fees around the 1 percent to 1.5 percent mark, while performance fees are hovering closer to 10 percent, much like infra funds.

Of course, the difficulty is that agri investment spans numerous different sectors and return profiles, so coming up with a one-size-fits-all structure is unlikely. Private equity or venture capital firms investing into agribusinesses or agtech companies may be able to offer returns that can support a 2-and-20 fee structure. But farmland investment managers are much less likely to reach those returns and in any case, the returns vary greatly depending on the geography, commodity and strategy so there needs to be a variation in fee models.

One thing that all fund managers can and must do is be fully transparent about what fees are charged and why, and who in the corporate structure is responsible for what, argues Tim Lee, director at PPB Advisory, an Australian firm with a dedicated agri team.

“There is often a blurred line as to what role the asset manager is actually playing and who they are actually paying for,” he told me. “Our view is that the annual management fee should come from a low base and should cover all asset management duties – strategy, operational manager performance, investor relations, fund reporting – and be heavily aligned to annual fund performance.”

Incentivising operational on-the-ground staff is another bugbear for investors and again, an area where transparency is needed. How much is the fund, and therefore the investors, likely to pay for this and how can these farm managers, labourers and so on, be rewarded for their successes?

Agri is such a diverse sector that it is unlikely there will ever be one common fee structure and, judging by the increasing demands of the institutional investor community for strong governance, accountability and transparency, we should expect to see a lot of custom-made offerings. And with a somewhat “chequered history to fees in agriculture investment”, according to Lee, I expect I’ll be discussing fees over coffee for a while yet as the industry works to develop best practice.