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On January 26, 2022, the US Securities and Exchange Commission
(SEC or Commission) voted in favor of proposing amendments to Form
PF, which is the confidential reporting form that certain
SEC-registered investment advisers to private funds must file with
the SEC. In the SEC’s press
release regarding the proposed amendments, Chair Gary Gensler
pointed to the decade of experience the SEC and Financial Stability
Oversight Council (FSOC) have had analyzing the information
collected on Form PF, and stated: “We have identified
significant information gaps and situations where we would benefit
from additional information.”
The proposed rules,
which will be open for a 30-day public comment period, would (i)
require large advisers to hedge funds and private equity funds to
file reports within one business day of the occurrence of certain
reporting events, (ii) lower the reporting threshold for large
private equity advisers from $2 billion to $1.5 billion in private
equity fund assets under management, and (iii) require additional
information regarding large private equity funds and large
liquidity funds to be reported.
This Advisory discusses the background of Form PF, explains the
amendments that have been proposed by the SEC, and identifies
certain practical considerations related to the proposed
amendments.
Background
The Dodd-Frank Wall Street Reform and Consumer Protection Act
(Dodd-Frank Act) amended Section 204(b) of the Investment Advisers
Act of 1940 to require
certain disclosures by private fund investment advisers. The
purpose of these disclosures, which became the basis for Form
PF in 2011, is to assist FSOC in assessing systemic risk in the US
financial system and protect investors. The requirements came about
in response to the financial crisis of 2008 and the subsequent
regulatory push to improve the ability of the SEC—and the
federal government more broadly—to assess the health of the
financial system and respond to developments that may threaten the
stability of the markets and negatively impact individual
investors.
Currently, registered investment advisers that have at least
$150 million in private fund assets under management (AUM) must
file Form PF. “Large” advisers must provide more detailed
information on Form PF than smaller advisers, and the required
filing deadlines depend on the type of adviser and AUM.
Specifically:
- Advisers with at least $1 billion in liquidity fund and money
market fund AUM are large liquidity fund advisers and must file
Form PF with specific information within 15 days after the end of
each quarter. - Advisers with at least $1.5 billion in hedge fund AUM are large
hedge fund advisers and must file Form PF with specific information
within 60 days after the end of each quarter. - Advisers with at least $2 billion in private equity fund AUM
are large private equity advisers and must file form PF with
specific information within 120 days after the end of each
quarter.
For nearly a full decade after Form PF was first adopted, the
SEC did not make changes to the form, and there was no apparent
appetite at the Commission for major changes to the reporting
structure. Recent market events, however, appear to have prompted
the proposed amendments, and the proposing release cites to
“the March 2020 COVID-19 turmoil and the January 2021 market
volatility in certain stocks” as a justification for the
proposal.1
The Proposed Amendments
The proposed amendments fall into three categories: (1) new
requirements for rapid reporting by certain funds; (2) decreasing
the reporting threshold for large private equity advisers; and (3)
requiring additional information to be reported by advisers to
certain funds.
Rapid Reporting of Certain Events. The new rapid
reporting requirements would apply to large hedge fund advisers and
advisers to private equity funds. The SEC has proposed that these
advisers would have one business day from the occurrence of certain
reporting events to file with the SEC. As a general matter, the SEC
has said that these reporting events are those that “indicate
significant stress at a fund that could harm investors or signal
risk in the broader financial system.” In particular, for
large hedge funds, the reporting events include extraordinary
investment losses, significant margin and default events, material
changes in relationship with a prime broker, changes in
unencumbered cash, significant disruption or degradation of a
fund’s operations, and large or suspended withdrawals and
redemptions. As for private equity funds, reporting events include
adviser-led secondary transactions, implementation of a partner
clawback, removal of a fund’s general partner, termination of
an investment period, or termination of the fund itself. Both hedge
fund and private equity advisers would be allowed to append their
disclosures with explanatory statements.
Lowered Reporting Threshold. The second category of
proposed amendments would lower the threshold for reporting as a
large private equity adviser from $2 billion to $1.5 billion in
private equity fund AUM. According to the proposing release, the $2
billion threshold from 2011 captured some 75% of the private equity
market in the US, but only two-thirds of the market
today—and, by lowering the AUM level to $1.5 billion, the SEC
hopes to get back to 75% of market coverage. This is in alignment
with a
statement from Commissioner Allison Herren Lee, who notes that
the total amount under private fund management has doubled to $11.7
trillion in the past seven years.
Additional Information Reporting. Finally, the proposed
amendments would require additional information to be reported by
large private equity advisers and large liquidity fund advisers, as
follows:
- The proposed amendments would add a question to Form PF for
large private equity advisers that is designed to elicit
information about investment strategies. The new question would
mirror a question on the current Form that is directed at hedge
fund advisers, so that large private equity advisers would be
required to estimate the percentage of their funds that are
invested according to a list of mutually exclusive investing
strategies. The SEC’s stated reason for proposing this new
question is to allow the FSOC to monitor investment trends and
analyze risk in a more targeted fashion. - The proposed amendments would require large liquidity fund
advisers to supplement their current reporting such that it is
substantially identical to the requirements placed on money market
funds pursuant to Form N-MFP. Practically speaking, this means that
liquidity fund advisers would be required, among other things, to
report certain operational information, to state whether their
funds seek to maintain stable prices per share, and to describe
certain asset, portfolio, financing, and other information with
more particularity. The SEC has stated that these changes are
designed to “enhance the Commission and FSOC’s ability to
assess short-term financing markets and facilitate our oversight of
those markets and their participants.”
A Divided Commission
While the 2011 rulemaking that led to Form PF passed
unanimously, the recent amendments were proposed after a 3-1 vote
by the Commission, with Republican Commissioner Hester M. Peirce as
the dissenter. Peirce released her own statement
in response to the proposal, in which she broadly criticizes the
additional reporting requirements as seeming to be “intended
primarily to provide the Commission with additional information to
support its regulatory and enforcement programs,” rather than
to advance the stated purpose of Form PF, which is “primarily
intended to assist [FSOC] in its monitoring obligations under the
Dodd-Frank Act.” Many of Commissioner Peirce’s critiques
are likely to be echoed by industry participants, as she takes
issue with the increased burden of “almost immediate reporting
of localized events,” taking her fellow Commissioners to task
for seeking to “distend Form PF into a tool for government to
micromanage private fund risk management.”
Practical Considerations
There are several practical considerations and open questions
resulting from the proposed amendments, including the
following:
- Impact of rapid reporting requirement.
Requiring current reporting with a turnaround time of one business
day is likely to cause a significant increase in reporting and
compliance costs. Large advisers may need to commit additional
resources to help ensure compliance. - Impact of lowered reporting threshold and additional
information reporting. The lowered reporting threshold
will capture more private equity advisers and will require more
advisers to be aware of and comply with the Form PF requirements.
Chief Compliance Officers will need to get up to speed on the new
reporting requirements and dedicate the necessary resources to
completion of Form PF, both on a periodic basis and following
reportable events. - The possibility of increased enforcement
activity. The enhanced reporting requirements could spur
increased enforcement activity for large advisers, as the SEC could
initiate investigations in response to what is seen in the Form PF
filings. This can further result in a “pile on” effect
with other state and federal regulators, such that one filing can
spur multiple investigations and possibly private litigation if
those investigations become public. Even if this activity does not
result in any meaningful findings of inappropriate conduct, the
time, cost, and reputational damage associated with the
investigations can be highly disruptive to the business of an
adviser and can spook investors. - Reaction by industry participants. We expect
strong opposition to certain of the proposed changes, such as the
events that would require rapid reporting by private equity
advisers, certain of which would result from a private equity
fund’s investors banding together to exercise rights they have
negotiated for their own protection and would seem to have no or
little impact on the US financial system.
Conclusion
By proposing the amendments to Form PF, the SEC is signaling
that it considers short-term and quickly evolving changes to the
financial markets worthy of its attention. The proposed rule was
expressly drafted in the wake of recent market disruption caused by
COVID-19 and the “meme stock” phenomenon, and the
amendments appear designed to give the Commission and FSOC insight
into market changes nearly in real time. If the proposed amendments
are approved in their current form, advisers should be prepared for
an increase in the time, talent, and resources that will be
required to help ensure compliance and to anticipate additional
enforcement activity.
Footnote
1 In early 2021, the phenomenon of “
meme stocks” disrupted financial markets in unforeseen and
unprecedented ways. As noted in a prior
advisory, the disruption caused by this phenomenon led
lawmakers and regulators to consider whether a legislative or
regulatory response would be prudent.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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