Few regulatory requirements have confused private funds CFOs more than the Securities and Exchange Commission’s new Marketing Rule, which went into implementation late last year. But private equity managers complying with GIPS accounting standards could be better able to meet those – and other – regulatory requirements, according to a recent webcast from ACA Group.
“It’s easier than you think for private equity managers to be compliant with the GIPS standards. And compliance with standards can help your firm satisfy increasing demands from allocators and regulators,” ACA partner Chase Frei noted during the webinar.
ACA senior principal consultant Tanner Beverly noted that the SEC’s new Marketing Rule references GIPS more than 20 times. The rule covers performance calculations, calculation methodologies and required disclosures, and Beverly said that while GIPS compliance is not mandated, the standards are used as a backdrop for the rule’s requirements. That means being compliant with GIPS would make it easier to comply with the Marketing Rule, he said.
An example of this is the related performance section of the Marketing Rule, which requires that where firms present the performance of one portfolio or fund, they must also show the performance of all related portfolios or funds.
“In fact, the new Marketing Rule says specifically that where firms use utilize the GIPS standards composite construction requirements, they’re able to use that body of work to determine which portfolios are related or are substantially similar to the next,” Beverly explained.
Beverly noted that GIPS compliance firms generally do not have to make many changes to their marketing practices in order to comply with the new Marketing Rule, which could be a reason for private equity sponsors to become GIPS-compliant in the future.
In addition to the Marketing Rule, the SEC also looked to the GIPS standards in its proposed private funds rule. The Financial Industry Regulatory Authority (FINRA) referenced the standards in recent guidance about calculating and presenting IRRs that applies to the placement agents and bank platforms that private equity sponsors often use when fundraising.
“The new Marketing Rule, along with FINRA rules, together really point to the GIPS standards being a kind of a backbone for these regulatory requirements and future regulatory requirements that we might see,” said Frei.
Frei explained that one of the proposed elements of the private fund rule would require private fund managers to provide their investors with a standardized quarterly report that included certain fee, expense and performance information.
Included in the private fund rule proposal is the requirement to include gross IRR since fund inception into quarterly reports. The rule would mandate that performance be calculated excluding the impact of any fund-level subscription line, while both gross and net IRR are to use fund-level cashflows, not investment-level cashflows. Actual dates of capital calls and distributions would need to be used in quarterly performance reporting, as well.
All these elements could be leveraged with GIPS compliance, Frei said.
“If you’re already GIPS-compliant, none of this is too revolutionary… GIPS-compliant firms have been calculating performance and fees using these elements for years,” he said.
Frei did point out that although regulators are referencing the GIPS standards and firms can rely on certain GIPS methodologies to comply with different regulations, practitioners should understand that simply using those methodologies does not make them GIPS-compliant, so firms need to be sure they do not claim to be if they are not committing to full compliance with the standards.