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AUGUST 31, 2010 RON S. GEFFNER – SADIS & GOLDBERG LLPINGRID PIERCE – WALKERS GLOBAL
President Obama Signs the Dodd-Frank Wall Street Reform and Consumer Protection Act
Dodd-Frank Wall Street Reform and Consumer Protection Act
On July 21, 2010, President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd Bill") into law.
Numerous aspects of the Dodd Bill impact non-U.S. private fund managers.
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Definition of an "accredited investor"
The Dodd Bill revises the definition of an "accredited investor" under the Securities Act of 1933 ("1933 Act").
Definition pre-Dodd - An "accredited investor" is deemed to include, in part: A natural person with an individual net worth, or joint net worth with his or her spouse, at the time of
purchase in excess of $1,000,000; A natural person with an individual income in excess of $200,000, or in excess of $300,000 with his or
her spouse, in each of the two most recent years and who has a reasonable expectation of an income in excess of $200,000 individually, or in excess of $300,000 with his or her spouse, in the current year;
Any executive officer, director or general partner of the issuer of the securities offered; An employee benefit plan within the meaning of Title I of the Employee Retirement Income Security Act
of 1974, as amended ("ERISA"), (a) whose investment decisions are made by a plan fiduciary, as defined in Section 3(21) of ERISA, which is either a bank, insurance company or registered investment adviser; or (b) having total assets in excess of $5,000,000; or (c) if self-directed, the investment decisions are made solely by persons that are accredited investors;
A trust, with total assets in excess of $5,000,000 which was not formed for the specific purpose of acquiring an interest in the hedge fund, whose purchase is directed by a sophisticated investor; and
An entity in which each of the equity owners are accredited investors.
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Definition of an "accredited investor" (cont.)
Under the Dodd Bill
The value of a natural person’s primary residence must be excluded from the $1 million net worth calculation.
In all other respects, the definition of “accredited investor” under the 1933 Act remains the same.
This change in definition is effective immediately.
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Definition of an "accredited investor" (cont.)
As a result, the Confidential Private Placement Memorandum and Subscription Documents for certain privately placed investment funds should be revised immediately for this new definition of "accredited investor".
For example, in the following circumstances, the Confidential Private Placement Memorandum and Subscription Documents will need to be revised: (i) Non-U.S. domiciled 3(c)(1) investment funds that accept individual U.S.-based
investors (including individuals that invest through a self-directed IRA);• We note that many non-U.S. domiciled 3(c)(1) funds only accept institutional
U.S. tax-exempt investors which will not be affected by the new definition of an accredited investor for individuals; and
(ii) U.S. domiciled 3(c)(1) funds that accept individual U.S.-based investors.
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Definition of an "accredited investor" (cont.)“Which investors are not affected?”
We do not currently believe that you need to recertify existing investors in your hedge funds that are not making additional capital contributions.
With respect to private equity funds, if an investor has already made a capital commitment to the fund, we do not believe that subsequent draw-downs of capital by the fund from such investor will require you to recertify such investor.
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Definition of an "accredited investor" (cont.)“Which investors are affected?”
Absent further guidance from the Securities and Exchange Commission ("SEC"), we currently believe that the new "accredited investor" definition only applies to: (i) investors making an initial investment in 3(c)(1) funds; and (ii) existing investors that make an additional capital contribution in a 3(c)(1)
fund.
As with hedge funds, any investor that is making a new capital commitment to a private equity fund would need to meet the new definition of "accredited investor".
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Accredited Investor/Qualified Client Standard to be Reviewed and Adjusted by the SEC
The SEC will initially review the natural person "accredited investor" standard (other than the net worth test) and possibly adjust, the "accredited investor" standard in its entirety no earlier than four years after the enactment of the Dodd Bill and then every four years thereafter.
The SEC will periodically adjust for inflation any dollar amount used in determining if a client or investor is a “qualified client” under the Investment Advisers Act of 1940 (“Advisers Act”).
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Non-US Investment Adviser Registration
Non-U.S. Investment Advisers. Many investment advisers based outside the United States will be required to register with the SEC. A new “foreign private adviser exemption” will apply only where the investment adviser: (i) has no place of business in the U.S.; (ii) has fewer than 15 U.S. clients and investors in private funds; (iii) has less than $25 million AUM (or such higher amount determined by the SEC) attributable to
U.S. clients and investors in private funds; and (iv) does not:
• (1) hold itself out generally to the U.S. public as an investment adviser; or
• (2) act as an investment adviser to a registered investment company or business development company.
If an investment adviser fails to meet any one of the criteria, it will be required to
register as an investment adviser if another exemption is not applicable to the
investment adviser.
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The SEC Registration Process for Investment Advisers
The Dodd Bill does not specifically provide for the “registration lite” regime that currently applies to many non-U.S. investment advisers.
The Dodd Bill did not change the process of SEC registration. Investment
Advisers must still complete the Form ADV - Parts I and II, which disclose
various aspects of their businesses. However, the SEC voted to adopt a new
form of ADV Part II, which will (like Part I) be publicly available in electronic form.
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The SEC Registration Process for Investment Advisers (cont.)
Under the SEC’s “Compliance Rule,” if a non-U.S. investment adviser
is required to fully register with the SEC, it would need to have: (i) a designated chief compliance officer; (ii) written policies and procedures to prevent violations of the Advisers Act; (iii) Code of Ethics including personal trading reporting; and (iv) an annual review of the adequacy of the firm’s policies and procedures
and the effectiveness of their implementation.
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Other Provisions Directed at Investment Advisers
The Dodd Bill includes other provisions affecting private fund managers, a
number of which are highlighted below. New Recordkeeping and Reporting Requirements. Significant expansions of
recordkeeping and reporting obligations are authorized by the Dodd Bill. The SEC is permitted to require investment advisers (both registered and unregistered) to maintain certain records (which, in the case of registered investment advisers, may be examined by the SEC) and file reports with the SEC, in such form as the SEC deems necessary and appropriate. In addition to the existing Advisers Act requirements, registered investment advisers will be required, for each private fund they advise, to maintain records describing:
• Amount of assets under management; • Use of leverage, including off-balance sheet leverage; • Counterparty credit risk exposure;
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Other Provisions Directed at Investment Advisers (cont.)
• Trading and investment positions; • Valuation policies and practices; • Types of assets held; • Side letter arrangements; • Trading practices; and • Other information the SEC determines necessary.
New confidentiality protections are provided by the Dodd Bill to go along with these
new reporting obligations.
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Other Provisions Directed at Investment Advisers (cont.)
New Short Sale Reporting Requirements. The Dodd Bill creates a new short sale
reporting obligation. Section 13(f) of the Securities Exchange Act of 1934 has been
amended to require the SEC to write rules for the “public disclosure of the name of the
issuer and the title, class, CUSIP number, aggregate amount of the number of short sales
of each security, and any additional information determined by the SEC.” The disclosure of
short sales is to be on at least a monthly basis. Existing reporting on Form 13F applies only
to an institutional investment manager exercising investment discretion with respect to
accounts holding Section 13(f) Securities that have an aggregate value on the last trading
day of any calendar year of at least $100 million and provides for quarterly reporting after an
initial filing. It is unclear whether the SEC will require reports of short sales from all sellers, or
try to integrate the short sale reporting requirement with the institutional investment manager
13F process and require it only from those institutional investment managers required to file
on Form 13F.
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Other Provisions Directed at Investment Advisers (cont.)
Regulation D Private Offering Process. The Dodd Bill includes a requirement
to implement a “bad actor” disqualification provision for Rule 506 of Regulation D,
the private placement safe harbor promulgated under Section 4(2) of the Securities
Act of 1933. In particular, the Dodd Bill requires that the SEC, within one year, issue rules
disqualifying “bad actors” from offering and selling securities under Rule 506. Generally, these
rules would disqualify persons who: (i) are subject to final orders from state and federal regulators barring the person from
association with certain enumerated regulated industries; or (ii) are subject to a final order based on a violation of any law or regulation prohibiting
fraudulent, manipulative, or deceptive conduct within the 10 years prior to the date the offer or sale is filed; or
(iii) have been convicted of a felony or misdemeanor relating to the purchase
or sale of securities or making false filings with the SEC (regardless of when the
conviction occurred).
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Other Provisions Directed at Investment Advisers (cont.)
New SEC Compliance Examiners. The SEC’s Division of Trading and Markets and
Division of Investment Management are each required to have staff to perform
compliance inspections and examinations of entities subject to the jurisdiction of the
respective divisions and to report to the directors of those divisions. No specifics are
provided in the Dodd Bill with respect to how such examination staff will interface with the
SEC’s Office of Compliance Inspections and Examinations, which is separate from the
divisions and does not report to them.
Please note that the SEC will need to issue additional guidance on numerous aspects of
the Dodd Bill relating to investment adviser registration and coordinate their efforts with
various State regulators.
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Walkers Contact
Ingrid Pierce, Partner
WalkersWalker House, 87 Mary Street
KY1-9001 George Town, Grand Cayman, Cayman Islands [email protected]
(345) 814-4667 Direct Tel
www.walkersglobal.com
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Sadis & Goldberg LLP Contact
Ron S. Geffner, Partner and Head of Financial Services
Sadis & Goldberg LLP551 Fifth Avenue, 21st Floor New York, NY 10176 [email protected]
1.212.573.6660 Direct Tel
www.sglawyers.com
www.hedgefundlawyers.com
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