The following memo, Proposed Rules Under the Investment Advisers Act, was sent in by our friends at Sullivan & Cromwell.
SEC Proposes Rules to Implement Dodd-Frank Act Registration Requirements for Advisers to Private Funds; Registration Exemptions for Venture Capital Funds, Certain Private Fund Advisers and Foreign Private Advisers; and Reporting Requirements for Registered Advisers and Certain Exempted Advisers.
The SEC has proposed rules to implement certain provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act regarding investment advisers to private funds, such as hedge funds and private equity funds. The proposals would:
• establish reporting requirements for private fund advisers that will be required by the Dodd-Frank Act to register under the Investment Advisers Act of 1940 and more limited reporting requirements for certain private fund advisers that will continue to be exempted from registration under the Advisers Act;
• increase the scope of disclosure required of all registered investment advisers on Form ADV;
• clarify the exemptions from Advisers Act registration available to advisers to venture capital funds and private funds with less than $150 million in assets under management in the United States, and foreign private advisers; and
• clarify the parameters of the prohibition from SEC registration applicable to “mid-sized” investment advisers with between $25 million and $100 million in assets under management.
The SEC requests comments on these proposals within 45 days after their publication in the Federal Register, which we expect to occur shortly. For further background on the Dodd-Frank Act provisions that the SEC’s proposed rules would implement, please see our memorandum entitled “Implications of Financial Services Reform for Hedge Funds and Private Equity Funds.”
PROPOSED REPORTING REQUIREMENTS FOR CERTAIN ADVISERS TO PRIVATE FUNDS (INCLUDING HEDGE FUNDS AND PRIVATE EQUITY FUNDS) AND OTHER REGISTERED INVESTMENT ADVISERS
The Dodd-Frank Act eliminated the “private adviser” exemption from registration under the Advisers Act for investment advisers with fewer than 15 clients, thereby subjecting many previously exempt advisers, including advisers to hedge funds and private equity funds, to the regulatory regime of the Advisers Act (including registration, substantive regulation, disclosure requirements and SEC examination). The SEC has proposed specific reporting requirements for these advisers, and also proposes to modify Form ADV to require greater disclosure from all registered investment advisers about their operations.
REPORTING REQUIREMENTS FOR ADVISERS TO PRIVATE FUNDS
The proposed rules would implement disclosure requirements for advisers to private funds that are separate and distinct from those applicable to other registered advisers. Under the Dodd-Frank Act, a private fund is an issuer that would be an investment company (as defined in the Investment Company Act (the “ICA”)) but for an exemption under section 3(c)(1) or 3(c)(7) of the ICA. In general, private funds include hedge funds, private equity funds, liquidity funds, real estate funds and securitized asset funds.
Currently, Section 7.B of Schedule D to Form ADV requires advisers to complete the information required therein for any “investment-related limited partnership” that the adviser or a “related person” advises (where “related person” is defined as any advisory affiliate and any person that is under common control with the adviser’s firm). The proposed rules would modify this item to require completion of the information required therein only for a private fund that the adviser (and not a related person) advises.
This change would require advisers to report on pooled investment vehicles they advise regardless of whether the vehicles are organized as limited partnerships. To avoid multiple reporting, sub-advisers would be permitted to exclude private funds for which another adviser is reporting on Schedule D, and an adviser to a master-feeder fund arrangement would be permitted to submit a single Schedule D for the master fund and all of the feeder funds. Advisers with a principal office and place of business outside the United States would be permitted to omit a Schedule D for a private fund that is not organized in the United States and that is not offered to, or owned by, any U.S. person.
Currently, Section 7.B of Schedule D requires limited information about the “investment-related limited partnerships” advised by an adviser. The reporting requirements of Section 7.B would be expanded to require advisers to private funds to disclose basic organizational, operational and investment characteristics of each fund it advises. This would require private advisers to report, among other things:
• identifying information, including the name and identification number of the private fund, the state or country where the private fund is organized, and the name of its general partner, manager, directors, trustees or persons occupying similar positions;
• whether the fund qualifies for the 3(c)(1) or the 3(c)(7) exclusion under the ICA;
• the organization of the fund (e.g., whether the fund is a master fund, a feeder fund or fund of funds);
• whether the adviser is subject to a foreign financial regulatory authority;
• whether the fund relies on an exemption from registration of its securities under Regulation D of the Securities Act of 1933;
• the fund’s gross and net assets;
• the type of investment strategy employed by the adviser (i.e., hedge fund, liquidity fund, private equity fund, real estate fund, securitized asset fund, venture capital fund or other private fund);
• the assets held by the fund by class and categorization in the fair value hierarchy established under U.S. GAAP (i.e., Level 1, Level 2 and Level 3);
• the number and types of investors in the fund and minimum investment commitments required of fund investors;
• any characteristics of the fund that may present the fund adviser with conflicts of interest with fund investors (e.g., whether clients of the adviser are solicited to invest in the fund and what percentage of the other clients has invested in the fund); and
• identification of and basic information about service providers (or “gatekeepers”) in five areas deemed critical by the SEC: auditors, prime brokers, custodians, administrators and marketers.
NEW REPORTING REQUIREMENTS FOR REGISTERED INVESTMENT ADVISERS
The SEC also proposes to modify Form ADV to require greater disclosure by all registered investment advisers about their operations. The new disclosure requirements would include information about the following items:
• Advisory Business. The proposed rules would require additional information from advisers about their advisory activities, the types of clients they have and the number of their employees that are registered as investment adviser representatives or insurance agents.
• Non-Advisory Activities. The proposed rules would require expanded disclosure of any non-advisory activities that the adviser is actively engaged in, including business as a trust company, registered municipal advisor, registered security-based swap dealer, major security-based swap participant, accountant or lawyer. An adviser that is engaged in any of these activities under a different name would be required to list those other business names and the other lines of business in which the adviser engages using that name.
• Potential Conflicts of Interest. The proposed rules would require identifying information regarding sixteen types of related persons as listed in Item 7.A of Form ADV and information about the relationship with that related person. The proposed rules also include expanded disclosure regarding advisers and their business practices that may present significant conflicts of interest (such as the use of affiliated brokers, soft dollar arrangements, compensation for client referrals and financial industry affiliations), due to participation or interest in client transactions.
Click here to continue reading the Sullivan & Cromwell publication, Proposed Rules Under the Investment Advisers Act.
 Proposed Rule: Rules Implementing Amendments to the Investment Advisers Act of 1940, Release No. IA-3110 (November 19, 2010), available at http://www.sec.gov/rules/proposed/2010/ia-3110.pdf (the “implementing release”); and Proposed Rule: Exemptions for Advisers to Venture Capital Funds, Private Fund Advisers With Less Than $150 Million in Assets Under Management, and Foreign Private Advisers, Release No. IA-3111 (November 19, 2010), available at http://www.sec.gov/rules/proposed/2010/ia-3111.pdf (the “exemptions release”).
 This memorandum, published on July 19, 2010, is available here.