Private Investment Funds Update - October 2009

Author:Mr Proskauer Rose LLP's Private Investment Funds Practice Group
Profession:Proskauer Rose LLP

Private Fund Investment Advisers Registration Act Of 2009 Proposals to require the registration of investment advisers to private funds continue to work their way through Congress. On October 1, 2009, Congressman Paul E. Kanjorski introduced in the House of Representatives the Private Fund Investment Advisers Registration Act of 2009 (the "PFIARA"), which is aimed at regulating hedge funds and private equity funds. Congressman Barney Frank, Chairman of the House Financial Services Committee, intends to hold a meeting this week to mark-up this bill.

The proposed legislation would generally require all advisers to private funds to be registered with the SEC as an investment adviser.

Importantly, the legislation would exempt advisers to "venture capital funds" from the requirement to register and would require the SEC to define the term "venture capital fund." The PFIARA would also exempt "foreign private fund advisers," meaning investment advisers that have no place of business in the United States, do not generally hold themselves out to the public in the United States, have fewer then 15 clients in the United States during the preceding 12 months, and have less than $25 million in assets under management that are attributable to U.S. clients.

House Committee Passes Proposed Legislation Of Derivatives On October 15, 2009, the House Financial Services Committee passed proposed legislation to regulate the over-the-counter derivatives market.

The bill includes many of the themes set forth in the principles stated by Chairman Frank and House Agriculture Committee Chairman Colin Peterson in July. The Financial Services Committee has jurisdiction over the federal banking regulators and the SEC while the Agriculture Committee has jurisdiction over the CFTC. The proposal also closely follows the bill offered by Treasury Secretary Timothy Geithner and CFTC Chairman Gary Gensler earlier this year.

Pursuant to the bill, derivatives would be exempt from centralized clearing if "one of the counterparties to the transaction is not a swap dealer or major swap participant." It is important to note however, that such swaps would still be required to be reported to regulators. This exemption would exclude many end-users of swaps, such as firms that use derivatives to hedge their operations, from some requirements to post cash margin in connection with derivatives.

The bill defines a swap dealer as "any person engaged in the business of buying and selling swaps for such person's own account, through a broker or otherwise," but exempts from the definition of swap dealer any entity that "buys or sells swaps for its own account, either individually or in a fiduciary capacity, but not as a part of a regular business." This compares with the Treasury's proposed definition of swap dealer, which captured market participants who use swaps for hedging, if their hedging activity does not qualify as hedging under Generally Accepted Accounting Principles ("GAAP").

The Frank proposal defines a major swap participant as an entity "who is not a swap dealer" but who has a "substantial net position" in outstanding swaps, excluding positions held primarily for hedging (including balance sheet hedging) or risk management purposes.

Major swap participants are defined more narrowly in the House bill than in the Treasury proposal, as the Treasury definition of major swap participants include end-users whose hedging activities do not qualify as hedging under GAAP. Although the bill excludes a broader range of end-users from regulation than the Treasury proposal, by excluding end-users that use swaps for hedging purposes, whether or not the hedging qualifies under GAAP, the bill's definition of major swap participant may capture at least some hedge funds and investments advisers that invest in swaps for purposes other than hedging, as did the Treasury proposal.

Under the House bill, the SEC and CFTC would also be given the authority to "prohibit transactions in any swap" that they determine "would be detrimental to the stability of a financial market or of participants in a financial market." The CFTC would also be given authority to regulate certain foreign boards of trade offering access to U.S. investors on any linked "agreement, contract or transaction," whereby the foreign boards of trade would be required to release trading data, establish rules to prevent market manipulation and excessive speculation and set position limits.

ILPA Private Equity Principles The Institutional Limited Partners Association, a trade association representing over 215 institutional investors in private equity with approximately $1 trillion in private equity assets under management, recently published its "Private Equity Principles." According to the ILPA, the goal of the Private Equity Principles is to strengthen the long-term viability of the asset class as an institutional investment strategy through (i) aligning interests between general partners and limited partners, (ii) enhanced partnership governance and (iii) improved investor reporting and transparency.

The ILPA acknowledges that the typical "80/20" profit split has worked well to align partner interests. However, the proposed guidelines call for economic changes to other...

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