Tag: Form ADV

The Clock is Ticking

With a registration deadline of March 30, 2012 and a 45 day period for the SEC to review the application, private fund managers need to file their Form ADV by February 14. I know that there are fund managers still on the fence on whether to register or not.

The trouble came from Title IV of Dodd-Frank using the new term “private fund” instead of merely removing the 15 client rule exemption. The private fund definition involves parsing the definitions and exemptions under the Investment Company Act. That puts fund managers into the first week of securities law class having a discussion on “what is a security?” That may be an interesting intellectual discussion, but not one for a business owner trying stay in compliance with the law.

You add on top of that the new exemption for “venture capital fund“, leaving VCs scratching their heads on whether they are a venture capital fund manager or not?

The big unknown is the expectation of the limited partner. In the past, limited partners have accepted the fact that fund managers were not registered with the SEC. That was the nature of the industry. After March 30, many (most?) private fund managers will be registered. How many potential investors will throw your proposal in the trash because you can’t check the “registered with the SEC” box?

The decision time is here. To register or not register?

Sources:

Private Fund Managers and SEC Registration

The SEC has provided a no action letter in response to an American Bar Association request on guidance for private fund managers. The ABA requested clarification that a group of funds could use a singe registration where the fund managers are in a control relationship and conduct a single advisory business subject to a unified compliance program. The theory is that permitting a single registration (and a single Form ADV filing) to cover the entire group of related advisers would more accurately reflect the full nature and scope of the single advisory business conducted by the group. Therefore it would be more informative for advisory clients and private fund investors as well as the SEC.

The SEC agreed, subject to the following limits:

  1. The filing adviser and each relying adviser advise only private funds and separate account clients that are qualified clients (as defined in Advisers Act rule 205-3) and are otherwise eligible to invest in the private funds advised by the filing adviser or a relying adviser and whose accounts pursue investment objectives and strategies that are substantially similar or otherwise related to those private funds.
  2. Each relying adviser, its employees and the persons acting on its behalf are subject to the filing adviser’s supervision and control and, therefore, each relying adviser, its employees and the persons acting on its behalf are “persons associated with” the filing adviser (as defined in section 202(a)(17) of the Advisers Act).
  3. The filing adviser has its principal office and place of business in the United States and, therefore, all of the substantive provisions of the Advisers Act and the rules thereunder apply to the filing adviser’s and each relying adviser’s dealings with each of its clients, regardless of whether any client or the filing adviser or relying adviser providing the advice is a United States person.9
  4. The advisory activities of each relying adviser are subject to the Advisers Act and the rules thereunder,and each relying adviser is subject to examination by the Commission.10
  5. The filing adviser and each relying adviser operate under a single code of ethics adopted in accordance with Advisers Act rule 204A-1 and a single set of written policies and procedures adopted and implemented in accordance with Advisers Act rule 206(4)-(7) and administered by a single chief compliance officer in accordance with that rule.11
  6. The filing adviser discloses in its Form ADV (Miscellaneous Section of Schedule D) that it and its relying advisers are together filing a single Form ADV in reliance on the position expressed in this letter and identifies each relying adviser by completing a separate Section 1.B., Schedule D, of Form ADV for each relying adviser and identifying it as such by including the notation “(relying adviser).”

If I’m reading this right, it looks like you may be able to wrap the registration requirement for the general partners of funds into a single Form ADV Registration. Prior to this no action letter, I assumed you needed to have each general partner enter into an investment management agreement with the management company.

Given this, it looks like you may be able to take that item off your list of things to do in the next few weeks and merely list the general partners on the Form ADV (assuming you meet the other requirements).

Sources:

Form ADV, Valuations, and Timing for New Registrations

With hundreds (thousands?) of private fund managers set to register with the Securities and Exchange Commission next quarter, the new form ADV is on the IARD system and ready for you to start uploading information.

I noticed the first problem.

Question 5 asks you to “determine your regulatory assets under management based on the current market value of the assets as determined within 90 days prior to the date of filing this Form ADV.” I expect most private fund managers to wait until the filing deadline in the middle of February. That means third quarter valuations, presumably accurate as of September 30, will be older than 90 days. For private equity firms with very illiquid assets like interests in real estate and private companies, they are unlikely to have valuations as of December 31 finalized by the middle of February. Even if they do have final valuations, they probably have not yet disclosed the final valuations to the investors in their funds.

With a normal end of March annual filing deadline for Form ADV, this is less likely to be a problem. But initial registrants need to file 45 days ahead of that deadline to meet the SEC’s 45 approval period.

Perhaps I’m missing something, but I’m wondering if anyone else has thought about this issue and how they are handling it. One option is to use the third quarter valuations and be worried about getting a negative SEC response. Another is to get valuations finalized and disclosed earlier than usual.

I’d appreciate any of your thoughts on this. You can leave a comment or send an email to [email protected]

Yes, the SEC Wants Real Estate Fund Managers to Register

After six months baking in the oven, the new Form ADV is ready. (To be more precise, the new Part 1 is ready. Part 2 has been sitting on the table for almost a year.) Form ADV still calls for real estate fund managers to register as investment advisers

Earlier I had pointed out how a real estate fund manager could be considered an investment adviser and have to register with the SEC under the Investment Advisers Act. In the Proposed Changes to Form ADV the SEC included “real estate fund”. They also changed the way you calculate assets under management, taking in the value of the fund assets, not just securities held by the fund.

While waiting for Form ADV to finish baking, I wondered if there might be some clarification or changes to pull real estate funds out of the registration requirement. It didn’t happen.

As you can see from the image above, “real estate fund” is still one of the choices when it comes to designating the type of fund. That gives it equal status with hedge fund, venture capital fund, and private equity fund. The definition of real estate fund is unchanged in the instructions for Part 1A of Form ADV:

“Real estate fund” means any private fund that is not a hedge fund, that does not provide investors with redemption rights in the ordinary course, and that invests primarily in real estate and real estate related assets.

Maybe there is room under the definition of “private fund”? In the Glossary it’s defined as “An issuer that would be an investment company as defined in section 3 of the Investment Company Act of 1940 but for section 3(c)(1) or 3(c)(7) of that Act.” That does leave open the position that the fund could be exempt under section 3(c)(5). That’s a murkier exemption than the one provided by 3(c)(1) or 3(c)(7).

The other confusion over how to value the assets under management is gone. The old version of Form ADV had a 50% test for assets under management. If less than 50% of the value was not securities, then you didn’t have a securities portfolio and the value was zero.

The new way of calculating assets under management for a private fund from the Instructions for Part 1A:

For purposes of this definition, treat all of the assets of a private fund as a securities portfolio, regardless of the nature of such assets. For accounts of private funds, moreover, include in the securities portfolio any uncalled commitment pursuant to which a person is obligated to acquire an interest in, or make a capital contribution to, the private fund.

It still gets back to being a “private fund” and relying on a 3(c)(1) or 3(c)(7), instead of a 3(c)(5) definition. One thing to realize is that the definition of “private fund” actually comes from Section 402 of Dodd-Frank, not from the wishes of the SEC. The intent of the SEC is clear, even if there may be some wiggle room.

Sources:

Have You Set Up Your IARD Account?

With the impending deadline for filing Form ADV to register as an investment adviser, you need to jump through some hoops before you can do the filing. First step is visiting the Investment Adviser Registration Depository. Form ADV needs to be filed electronically and this is the electronic mailbox.

But first you need an account. To get an account you need an IARD Super Account Administrator. To get an IARD Super Account Administrator, you need to fill out the SEC Registrant Entitlement Packet (.pdf). It’s a simple form, but you need to mail it back to get your account. (There is an overnight delivery address.)

Once IARD gets the form they are supposed to send you emails with your username and password. Then you need create a financial account. To fund the account you need to use bank wire or check and that has a two day delay in funding.

I’m not trying to give you a tutorial. I’m just pointing that it will take at least a few days for you to get the mechanics set up to file.

There are only eight business days left until the June 6 filing deadline for fund managers. (Unless the SEC acts to extend the deadline.) Seems like its time to get the mechanics moving.

Risk Disclosures and Form ADV Part 2 for Fund Managers

If you’re a fund manager getting ready to register because you’ve been Dodd-Frank’ed, then you are likely in the middle of drafting Part 2 of Form ADV, the brochure. One item that caused my to pause was the risk factor requirements in Item 8.

8.B:  For each significant investment strategy or method of analysis you use, explain the material risks involved. If the method of analysis or strategy involves significant or unusual risks, discuss these risks in detail. If your primary strategy involves frequent trading of securities, explain how frequent trading can affect investment performance, particularly through increased brokerage and other transaction costs and taxes.

Fund sponsors spend a great deal of time, money, and energy drafting risk factors for their fund’s private placement offering memorandum.

Do you need to duplicate those risk factors in response to 8B or can you ignore them?

The SEC staff answered that question about Part 2 of Form ADV.

Question II. 4

Q: Item 8.B of Part 2A requires an adviser to explain the material risks for each significant investment strategy or method of analysis the adviser uses. Does Item 8.B require an adviser that uses pooled investment vehicles as a significant investment strategy or method of analysis to duplicate the risk disclosures contained in a prospectus or other offering document for the pooled investment vehicle?

A: An adviser may satisfy the requirement of Item 8.B by providing a brief explanation of the material risks for each strategy and referring clients to the prospectus, offering memoranda, or other documents that a client participating in the pool will or has received that set out a more detailed discussion of risks. (Posted March 18, 2011)

Sources:

Possible Extension to Registration for Private Fund Managers

Dodd-Frank put enormous pressure on the Securities and Exchange Commission to create dozens of new rules. Tile IV of the law, the Private Fund Investment Advisers Registration Act of 2010, shifts thousands of mid-sized investment advisers from federal to state registration. It also repeals the private adviser exemption, causing most private fund managers to register with the SEC.

Section 419 of Dodd-Frank pegs the transition period at one year. That means there is July 21, 2011 registration deadline. The SEC may be bending on that deadline for the registration of private fund advisers.

In an April 8, 2011 letter to the president of the North American Securities Administrators Association, the SEC indicated it may try to push back that July 21 deadline to the first quarter of 2012.

The letter states that the SEC intends to have the necessary rulemaking done by July 21. Of course, that means the subjects of the rules need to get in line. Since there is only three months until that deadline, the clock is ticking very loudly.

The SEC also needs to get the computer systems in place. Once the rules and forms are finished, they need to update the Investment Adviser Registration Depository System. Back in November, the SEC proposed big changes to the Part 1 of Form ADV to address these new registration and reporting requirements. The final form has not been released. I thought the release may have been because they were re-programming IARD to deal with the new form, allowing them to release the final Form ADV and the registration at the same time. According to this letter, that is not the case. The SEC does not expect IARD to be re-programmed until the end of 2011.

Obviously, this letter merely indicates that at least one person inside the SEC thinks the deadline could be extended. That is a long way from actually extending the deadline. I still have a question about whether the SEC can extend the deadline without some sort of legislative action.

Sources:

More Information on Part 2 of Form ADV

In October 2010, the Securities and Exchange Commission created a new Part 2 for Form ADV. Instead of filling in blanks, investment advisers need to create a brochure for delivery to clients and prospective clients. For fund managers getting ready to register, that means writing a brochure, not just filling in boxes.

One question for fund managers is “who do you have to give the brochure to?” The SEC answered that question and many others about Part 2 of Form ADV.

Question III. 2

Q: Rule 204-3 requires an adviser to deliver a brochure and one or more brochure supplements to each client or prospective client. Does rule 204-3 require an adviser to a hedge or other private fund to deliver a brochure and supplement(s) to investors in the private fund?

A: Rule 204-3 requires only that brochures be delivered to “clients.” A federal court has stated that a “client” of an investment adviser managing a hedge fund is the hedge fund itself, not an investor in the hedge fund. (Goldstein v. Securities and Exchange Commission, 451 F.3d 873 (D.C. Cir. 2006)). An adviser could meet its delivery obligation to a hedge fund client by delivering its brochure to a legal representative of the fund, such as the fund’s general partner, manager or person serving in a similar capacity. (Posted March 18, 2011)

Question III. 3

Q: Must an adviser to a hedge fund or other private fund file as part of its Form ADV the brochure it is required to deliver to the hedge fund or other private fund?

A: Yes.

That answers the legal questions. You don’t have to deliver it to investors, but you do need to file it with the SEC.  From a practical perspective, potential investors in the fund often ask for a copy of the Form ADV as part of their due diligence. So you end up giving it to many of your investors and not just the fund.

The other missing piece for fund managers is the new Part 1 of Form ADV. The SEC proposed some significant changes and has not yet released the final form. The SEC is cutting this one close. Early June is the hard deadline for filing. Before that the SEC will need to get the IARD system updated with the new fields. Perhaps they are updating IARD now so it will be ready when the final rule comes out? I doubt it.

Sources:

Calculating Regulatory Assets Under Management for Private Funds

For private fund managers, one troubling aspect of Form ADV had been the calculation of  “assets under management” in item 5.F. If securities are less than 50% of the portfolio then the portfolio would not be a securities account.

Except for real estate debt funds, most real estate funds would end up with $0. (I’m not sure whether that would mean you do not have to register since you are then not giving advice for a securities portfolio or whether that would push you into state registration.)

As a private equity fund or real estate fund purchased assets and sold assets, the manager could be ping-ponged in and out of SEC registration.

In the Proposed Changes to Form ADV published on November 19, the SEC has  proposed revisions to Form ADV that better addresses the reality pf private funds.

In the proposed changes, the SEC has come up with a new method for calculating values that makes much more sense for private funds.

5(b)(4). Determine your regulatory assets under management based on the current market value of the assets as determined within 90 days prior to the date of filing this Form ADV. Determine market value using the same method you used to report account values to clients or to calculate fees for investment advisory services.

In the case of a private fund, determine the current market value (or fair value) of the private fund’s assets and the contractual amount of any uncalled commitment pursuant to which a person is obligated to acquire an interest in, or make a capital contribution to, the private fund.

In the release, the SEC states the an adviser should include “in its regulatory assets under management the value of any private fund over which it exercises continuous and regular supervisory or management services, regardless of the nature of the assets held by the fund.”

This calculation makes it very clear that private fund managers with even a small amount of securities in their funds are going to be forced to register with either the SEC or their state regulators as an investment adviser.

Sources:

Yes, the SEC Wants Real Estate Fund Managers to Register

Earlier I had pointed out how a real estate fund manager could be considered an investment adviser and have to register with the SEC under the Investment Advisers Act.

In the Proposed Changes to Form ADV published on November 19, the SEC has made it clear that real estate funds are part of the mix.  They have proposed  revisions to Form ADV that better deal with more private funds being covered by the Investment Advisers Act.

In the proposed new Schedule D to Form ADV, the SEC requires you to designate the type of fund.  If you are still wondering if a real estate fund might need to register, look through the list of fund types:

Question 10: Type of Private Fund: For purposes of this question the following definitions apply:

“Hedge fund” means any private fund that:

a. Has a performance fee or allocation calculated by taking into account unrealized gains;
b. May borrow an amount in excess of one-half of its net asset value (including any committed capital) or may have gross notional exposure in excess of twice its net asset value (including any committed capital); or
c. May sell securities or other assets short.

A commodity pool is categorized as a hedge fund solely for purposes of this question. For purposes of this definition, do not net long and short positions. Include any borrowings or notional exposure of another person that are guaranteed by the private fund or that the private fund may otherwise be obligated to satisfy.

“Liquidity fund” means any private fund that seeks to generate income by investing in a portfolio of short term obligations in order to maintain a stable net asset value per unit or minimize principal volatility for investors.

“Private equity fund” means any private fund that is not a hedge fund, liquidity fund, real estate fund, securitized asset fund, or venture capital fund and does not provide investors with redemption rights in the ordinary course.

“Real estate fund” means any private fund that is not a hedge fund, that does not provide investors with redemption rights in the ordinary course and that invests primarily in real estate and real estate related assets.

“Securitized asset fund” means any private fund that is not a hedge fund and that issues asset backed securities and whose investors are primarily debt-holders.

“Venture capital fund” means any private fund meeting the definition of venture capital fund in rule 203(l)-1 under the Advisers Act.

“Other private fund” means any private fund that is not a hedge fund, liquidity fund, private equity fund, real estate fund, securitized asset fund, or venture capital fund.

“Real estate fund” made the list. I take that as a clear sign that the SEC wants real estate fund managers to register under the Investment Advisers Act.

Sources:

Image of the Empire State Building is by Christian Mehlführer