SEC Private Fund Adviser Reforms: Final Rules

Prepare and distribute quarterly statements for each private fund that they advise to the fund’s investors covering fund-level information, including fees, expenses, performance, and adviser compensation within forty-five (45) days after the first three fiscal quarter ends, and ninety (90) days after the fiscal year end (for a private fund that is a fund of funds, the quarterly statement must be distributed within seventy-five (75) days after the first three fiscal quarter ends, and one hundred twenty (120) days after the fiscal year end). As part of the quarterly statement:

• Disclosures must be presented in table format at both the fund- and portfolio investment-levels (defined as “any entity or issuer in which the private fund has invested directly or indirectly”). In a change from the proposal, SEC did not adopt the requirement that advisers disclose the private fund’s ownership percentage of each covered portfolio investment.
• Fees and expenses must include all compensation paid during the reporting period to the private fund adviser and “related persons” (as defined in the rule).
• Performance information must be presented in a standardized format where:
  • Liquid fund performance is based on net total return on an annual basis for the shorter of ten (10) fiscal years prior to the quarterly statement or since the fund’s inception, as well as over one-, five-, and ten-year periods, and on a cumulative basis for the current year
  • Illiquid fund performance is based on the internal rate of return and a multiple of invested capital since inception, as well as a statement of contributions and distributions.

Obtain an annual independent financial statement audit of each private fund they advise that meets the requirements of the audit provision in the Advisers Act Custody Rule (Rule 206(4)-2)), including:

• The audit must be performed by an independent public accountant that meets SEC standards of independence and is registered with, and subject to review by, the Public Company Accounting Oversight Board (PCAOB).
• The audit must be performed under PCAOB or AICPA auditing standards.
• Audited financial statement must be prepared in accordance with generally accepted accounting principles (US GAAP).
• Annually within 120 days of the private fund’s fiscal year-end and “promptly” upon liquidation, the private fund’s audited financial statements are delivered to investors in the private fund. For private funds that are funds of funds a 180-day time period applies.

Obtain and distribute a fairness or valuation opinion from an independent opinion provider (prior to due date of the election form) in connection with certain adviser-led secondary transactions where an adviser offers fund investors the option to sell their interests in the private fund, or to exchange them for new interests in another vehicle advised by the adviser.

Prepare and distribute to private fund investors a written summary of any material business relationships the adviser or any of its related persons has, or has had within the past two years, with the independent opinion provider.

In a change from the proposal, the final rule restricts private fund advisers from engaging in the following activities unless they satisfy certain disclosure and, in some cases, consent requirements:

• Charging or allocating fees or expenses to the private fund associated with investigations of the adviser or its related persons by any governmental or regulatory authority. Furthermore, regardless of any disclosure or consent, an adviser may not charge or allocate fees and expenses related to investigations that result or have resulted in a court or governmental authority imposing a sanction for violating the Advisers Act or related rules.
• Charging the private fund for any regulatory, examination, or compliance fees or expenses of the adviser or its related persons.
• Reducing the amount of any adviser clawback by actual, potential, or hypothetical taxes applicable to the adviser, its related persons, or their respective owners or interest holders.
• Charging or allocating fees and expenses related to a portfolio investment on a non-pro rata basis when more than one private fund or other client advised by the adviser or its related persons have invested in the same portfolio company.
• Borrowing money, securities, or other private fund assets, or receiving a loan or extension of credit, from a private fund client.

The SEC did not adopt the proposed provisions related to fees for unperformed services or indemnification.

Under the final rule, advisers may not provide preferential treatment to an investor if the adviser reasonably expects the preferential terms would have a material, negative effect on other investors, specifically with respect to:

• Redemptions from the fund, unless the ability to redeem is legally required or the adviser offers the preferential redemption rights to all other investors without qualification.
• Information about portfolio holdings or exposures, unless such preferential information is offered to all investors at the same time or “substantially” the same time.

In addition, an adviser may not provide any preferential treatment for any investor unless the adviser provides written notices disclosing i) certain preferential terms to prospective investors prior to the investor’s investment in the private fund, and ii) at least annually, all preferential terms provided to investors in the same private fund, regardless of whether the fund is liquid or illiquid. 

SEC did not adopt provisions from the proposal related to adviser misconduct regarding:

• Charging a portfolio investment fees for unperformed services.
• Seeking reimbursement, indemnification, exculpation, or limitation of its liability by the private fund or its investors for breach of fiduciary duty, willful misfeasance, bad faith, negligence, or recklessness.