How do CCOs keep track of rulemaking?

Chief compliance officers face similar challenges – the best example being the difficulties in tracking compliance across the firm’s entire operation – but differences begin to appear when comparing these roles across firms of various sizes. 

When the industry was smaller, and less regulated, this was not always the case. In the past most firms didn’t even have a specialist compliance department. And although larger firms have for some time now been subject to supervision as registered entities, the majority of unregulated firms were only required to police a firm’s internal policies.

But now there is a need to read, digest and understand large swathes of new rules and legislation, much of which is still in a state of flux. Doing so will require resources that are more often found in full service law firms than in-house compliance departments, notes James Burdett, head of investment funds at Baker &McKenzie, a law firm.

“Many private equity firms are too small to have really deep resources to monitor compliance. Whilst most are required to have a designated compliance officer, such office holders will often also have other roles within the firm which place competing demands on their time,” says Burdett.

The different reporting requirements of firms registered with the US’ private equity watchdog, the Securities and Exchange Commission (SEC), is one example of size dictating compliance check-lists.

Firms with more than $150 million in assets under management (AUM) must file a Form PF, a document intended to highlight systemic risk. This requires compliance officers to report information detailing types of funds under management as well as fund ownership and performance data.

But firms with more than $2 billion in AUM will need to submit Form PF plus more detailed fund information – such as the use of bridge loans, leverage placed on portfolio companies and other metrics regulators’ feel important for the wider economy.

Those firms whose assets comfortably surpass the $2 billion threshold are required to work out not only how to report the extra information, but also how to source it. In large firms this can often be difficult as many different business lines often means many different data sources.

For firms hovering around thresholds the challenge they face is ensuring they are not breaching compliance objectives if they reach or surpass the threshold. This requires the monitoring of AUM constantly. They must also make sure they are prepared to deal with any extra compliance obligations in the event of a threshold breach.

“If you are a small firm just over the threshold, that is the worst place to be,” says Burdett. He adds smaller firms may not be resourced enough to efficiently monitor changes which could lead to non-compliance.

Even for larger firms monitoring regulatory change is still a daunting prospect. For many this is the first time they have needed someone to perform this function, say legal sources. And this is not always easy, as was proven last month when the SEC issued a risk alert highlighting private equity failings in its custody rule. Some registered private equity firms were caught off-guard and were unaware they even needed to comply with the rule.

Even greater challenges arise for compliance officers when new rules fail to stipulate exactly which firms must comply with them and to what extent. 

A good example is the proposed remuneration code as part of the EU’s incoming Alternative Investment Fund Managers directive (AIFM).  The European Securities and Markets Authority’s (ESMA), guidelines ask a GP to consider the “size of funds it manages, its internal organization, the nature, scope and complexity of its activities” when deciding what aspects of the remuneration rule to apply.

For instance, some firms will need to set-up a remuneration committee and follow a remuneration code, which could cause some GPs to significantly alter their current compensation models. But certain areas of the remuneration code can be “disapplied” by firms on a proportionality principle – in essence smaller firms will have fewer hoops to jump through. But the remuneration guidelines remain a somewhat gray area.

ESMA, which wrote the guidelines for the code, said it wasn’t possible to create an airtight definition on what constitutes a firm that needs a remuneration committee.

GETTING THE JOB DONE

Compliance offers are using a number of tools to help juggle the need to watch and prepare for key regulatory developments alongside continuing the day job of policing the firm’s internal policies. Most everyone admits to subscribing to multiple law firms’ email newsletters and client alert services.

“The law firms are falling over themselves to give you advice,” says one UK-based general counsel.

Though one chief compliance officer says that, while useful, the law memos should merely be used as a tool to be aware of key developments, as without further work they don’t tell you anything about the impact on your firm or specific portfolio issues.

The same reasoning – what’s the right advice for one firm may not be for another – applies to using outside advisers, whether legal counsel or specialist compliance consultants. Some firms use their services to augment in-house compliance programs, or simply to consult and advise on the strength of their firms’ procedures and program. Compliance officers did stress the benefit of having good outsourced advisers, and said advisers were able to catch the regulatory updates that compliance officers may miss. They also act as a sounding board when a firm has taken a position but is still unsure whether it meets the regulatory requirements.

One of the best ways to stay abreast of the latest regulatory issues and share best practices with peers is active engagement at industry conferences and events, sources say.

Conferences: a chance to make friends who can share compliance best practices

“Talking among peers is invaluable because you are talking about the practical aspects and challenges of regulations. It allows you to pick up tips that translate directly to your firm,” says one UK-based compliance manager.

If you look at the AIFM remuneration code, for example, sharing ideas can help firms be consistent on what is and what isn’t proportionate, says a second UK compliance officer.

In creating consistency across the asset class the industry can better argue that it has interpreted regulatory gray areas correctly, adds another chief compliance officer source.

As even greater demands are placed on chief compliance officers’ time, one UK-based compliance manager gives some advice on meeting these challenges: “Take a holistic approach. You need a combination of reading legal text, attending seminars and workshops and having good advisors. It’s a case of constant knowledge management.”