Compliance officers of registered advisers should ensure that all fund offering and marketing materials comply with a number of rules and regulations under the US federal securities laws. But what exactly are ‘offering materials and marketing materials?’ The answer is that virtually anything and everything that is furnished or available to a potential investor, an existing investor or the public may be considered offering or marketing materials. Typically, this list includes at least the following:
• Private placement memoranda (PPM);
• Management presentation (flip book or pitch book);
• Firm brochure;
• Investor communications;
• Press releases; and
• Partner meeting materials.
The fund manager to private equity funds typically is not in the habit of advertising, in the colloquial sense of the word, the fact that it provides investment advice, so many of the limitations set forth in the Investment Advisers Act of 1940 (the ‘Advisers Act’) on adviser advertising may seem inapposite. However, the Advisers Act is not limited by its terms to financial advisers trying to draw in advisory clients, so the managers of the private equity fund must be aware of the limitations on what may or may not be advertising, what may or may not be an ‘advertisement,’ what it can and cannot say therein, and what may or may not give rise to a general solicitation problem under Regulation D under the Securities Act of 1933.
All managers, whether or not registered, are subject to Section 206(4) of the Advisers Act which prohibits the adviser from engaging in any fraudulent, deceptive or manipulative activities. Section 206(4) gives the Securities and Exchange Commission (SEC) rulemaking authority to define certain prescribed activities and to prescribe reasonable means to prevent them. Rule 206(4)-1 defines certain advertising practices as in violation of Section 206(4). For this purpose, an advertisement includes any written communication addressed to more than one person or any notice or announcement in any publication, over radio or television, which offers any analysis, report or publication regarding securities, any graphs, charts, formula or other device for making securities decisions; or any other investment advisory services which relate to investments in securities. This litany would seem to capture most things that a manager would use in marketing a private equity fund to investors or to the public for purposes of branding the fund or sourcing investments. However, the SEC staff generally would not view documents as advertisements where they relate specifically to an adviser’s efforts to maintain good investor relations with its limited partners and are not designed to solicit new investment advisory clients. These documents include, for example, PPMs, private equity firm brochures and fund tombstones identifying completed deals.
It will be the chief compliance officer (CCO)’s responsibility to monitor the use of any disseminated material to ensure compliance with the requirements of Section 206(4). The
Advisers Act does not require that any advertisement or communication be submitted to the SEC staff prior to use. As a matter of policy, the SEC staff would not look at it.
The CCO’s responsibility will include understanding the adviser’s and fund’s business, and to be involved in the review and use of various types of marketing materials. For example, the fund’s PPM attempts by its terms to be the sole legal offer made to an investor to subscribe for an interest in the fund. Whereas a press release is designed to convey to the general public information about the fund, usually what investments it has made and what types of deals it is looking for, changes in its personnel and the like, and is a means of establishing ‘brand.’ The foremost rule for all offering and marketing materials is that they must contain accurate, truthful and complete information. This rule pervades all disclosures and content requirements of the Securities Act of 1933, the Securities Exchange Act of 1934, the Investment Advisers Act of 1940 and the Investment Company Act of 1940, as well as state blue sky laws and truth-in-advertising laws. This means that the CCO must understand his firm and require that all disclosures be subjected to appropriate internal and, if applicable, external review.
Raising capital for a private investment fund typically involves the offer and sale of limited partnership interests or membership interests in the fund, both of which are securities under federal and state laws. Generally, Section 5 of the Securities Act of 1933, as amended, requires the registration of securities prior to their offer and sale, unless an exemption from registration applies.
Funds typically rely on the private placement exemption from registration found in Section 4(2) of the Securities Act which exempts from registration any sale of securities ‘not involving any public offering.’ The SEC adopted Regulation D under the Securities Act, which provides a safe harbor under Section 4(2) and as a result many funds will design the offering of their interests to comply with Rule 506 of Regulation D. Generally, a fund’s offering of its interests may qualify for the safe harbor if the following are met:
• The fund offers its interests only to ‘accredited investors’ with whom it has a pre-existing substantive relationship and, subject to compliance with certain disclosure requirements, up to 35 non-accredited investors if certain information requirements are met. The information requirements generally cannot be satisfied by an issuer with no operating history, so it is generally accepted that a new fund cannot meet those requirements and will limit its offering only to accredited investors; and
• The fund must meet all of the conditions of Rules 501 and 502 of Regulation D which prohibit a fund from making a general solicitation or general advertising with respect to the offer or sale of the fund’s interests.
Currently, under Rule 506, there is no minimum or maximum limit placed on the aggregate offering price of the securities being issued. If an offering complies with Rule 506, the National Securities Markets Improvement Act of 1996 (NSMIA) preempts state securities laws (commonly referred to as ‘blue sky’ laws), reducing what would otherwise be a state level registration to a notice filing (which is often simply a copy of the Federal Form D filing) and/or payment of a fee (usually $300 to $500). Absent Rule 506 compliance,
NSMIA does not apply and funds would have to comply with the state blue sky laws which tend to vary substantially from state to state, making compliance more difficult and expensive.
This partial chapter is one of 24 in The US Private Equity Fund Compliance Guide: How to register and maintain an active and effective compliance program under the Investment Advisers Act of 1940, a new book from PEI Media.