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Welcome to SCA’s client news brief. We highlight the latest regulatory news and information in the SEC investment adviser space in a brief, easy to read format. You can “go deeper” by linking to more detailed information. Please contact Cheryl Young at cyoung@secadvisors.com with any questions or comments. All feedback is welcome!
SCA Client News Brief
By Cheryl YoungMar 02, 2022

Smart Brevity™ count: 4 mins... 1010 words

Welcome to SCA’s client news brief. We highlight the latest regulatory news and information in the SEC investment adviser space in a brief, easy to read format. You can “go deeper” by linking to more detailed information. Please contact Cheryl Young at cyoung@secadvisors.com with any questions or comments. All feedback is welcome!

1 Big Thing: Meet the New SEC Proposed Cybersecurity Rules

Cyber security image

Sweeping new cyber rules proposed by the SEC add to what is already a nightmare for all of us. Financial services firms are prime targets of cyber criminals, so the proposals are not unexpected.

Entities covered are SEC registered investment advisers, registered funds, and business development companies. Private funds are also covered when the fund is managed by an SEC registered adviser.

The proposal covers required policies and procedures, incident reporting to the SEC, disclosures to clients, and books and records. In contrast to existing rules which cover personal information of natural persons, the proposed rules also cover the entities’ information systems and cyber practices more broadly.

Cyber risk management rules will require your firm to adopt policies and procedures to mitigate cyber risk. Required elements include periodic risk assessments and an annual review.

Incident reporting to the SEC would be required no later than 48 hours after concluding that a significant cybersecurity incident occurred. The reporting would be done on new proposed Form ADV-C which asks for details on the incident including whether the incident was disclosed to clients and whether the incident is covered by cyber insurance.

Cybersecurity risk and incidents disclosure to clients and prospective clients would be reported under new “Item 20” to Form ADV 2A.

Our Take: We expect an active comment period focused on SEC and client reporting issues.

  • Cyber P&P’s are currently considered a best practice, though not specifically required. We expect the P&P requirement to be included in the final rule.

  • Compliance with the SEC reporting timeline of 48 hours could be a difficult hurdle. It is not easy to compile all required information in the middle of managing an attack.

  • Clarification of the timing of client disclosure of incidents is important due to the changing factual landscape resulting from sophisticated actors.

2. Game Changing SEC Proposals for Private Fund Advisers

Shooting chess pieces in my studio on my day off..

What's new: The much anticipated proposed PF adviser rules have arrived and they represent a radical shift in the way private funds are regulated. The SEC focuses on investor transparency, performance metrics, and the prohibition of certain perceived conflicts of interest.

The following prohibited activities cover both registered and unregistered PF advisers:

  • Charging fees for (i) unperformed services (e.g. accelerated monitoring fees), (ii) fees or expenses associated with regulatory exams/investigations, and (iii) fees for regulatory and compliance

  • Charging or allocating fees on a non-pro-rata basis when multiple private funds and other clients advised by the adviser invest in the same portfolio investment

  • Limiting or eliminating liability for adviser misconduct

  • Borrowing from private fund clients

  • Reducing the amount of clawbacks for taxes

  • Granting liquidation preference if other investors are negatively impacted

  • Allowing preferential transparency of portfolio holdings and exposures

Quarterly statements to investors in private funds would be required within 45 days after the end of a calendar quarter. The statements must include prescribed information covering:

  • All compensation, fees and other amounts allocated or paid to the adviser or related persons by the fund during the quarter

  • All other fees and expenses paid by the fund

  • The amount of any offsets or rebates carried forward

  • All portfolio investment compensation allocated or paid to the adviser or related persons by the covered portfolio investment

  • The fund’s ownership percentage of each covered portfolio investment

  • Disclosure regarding calculation methodology

  • Prescribed performance information for both liquid and illiquid funds

Mandatory private fund audits would be required for each private fund managed by the adviser, annually, and upon liquidation.

Adviser-led secondaries would need a fairness opinion from an independent provider.

The proposed transition period is one year. The comment period ends April 11th.

Our take: We expect a very active comment period and the rulemaking process could take several months.

  • If adopted as proposed, the rules would result in material changes to various longstanding business and legal practices in the private fund industry.

  • There are no grandfathering provisions for existing private funds so advisers would need to modify their established terms and practices.

3. Onslaught of New Proposals Reflect Gensler’s Reform Ambitions

Caution Tape at the United States Capitol in Washington D.C.

What else is new: During the month of February a slew of proposed rules were submitted by the SEC for comment. In addition to the cyber and PF adviser proposals, several other proposals are out for comment.

Details: Check out the following proposals on Form PF, beneficial ownership, annual review documentation, short sale disclosure, and T+1 security transaction settlement.

  • Form PF would require that certain reporting events be disclosed within 1 day of the event for Large Hedge Fund Advisers and Private Equity Advisers.

  • Annual reviews for all advisers will need to be documented. Most firms do this, but there is not a specific requirement. This proposal changes that.

  • Proposed changes to beneficial ownership reporting shorten the deadlines for more-than 5% beneficial owners and make holders of certain cash-settled equity derivatives beneficial owners of the underlying equity.

  • Institutional Managers that short stocks would be required to report, on a monthly certain short position data and short activity data for equity securities. This relates to short squeezes on meme stocks among other things.

  • Proposed T+1 Settlement of Securities transactions has been expected for some time. Trades will settle one day rather than 2 days following trade date.

We hope you found this news brief helpful. Please let us know if there is a topic you would like for us to cover by contacting cyoung@secadvisors.com.

The information in this newsletter is for general guidance, only. It does not constitute the provision of legal or tax advice, or professional consulting of any kind.

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