SEC exams top compliance worry for GPs

US-based fund managers worry more about a surprise visit from the Securities and Exchange Commission (SEC) examinations than any other regulatory issue, according to a survey conducted by the Association for Corporate Growth (ACG). The organization, dedicated to driving mid-market growth, polled some 200 US-based investment advisers, many of them smaller shops with less resources to hire dedicated compliance staff. 

The ACG has also put together a “SEC Task Force” made up of industry representatives that seeks regular dialogue with the commission about compliance and regulatory issues affecting the private funds industry. Recently pfm provided a behind the scenes look at one of those first meetings (see: Inside look: PE taskforce meets with the SEC) 

A strong majority (75 percent) of respondents cited SEC exams as the biggest compliance issue keeping them up at night. 

“It’s because examinations are a new thing, we have never had this kind of situation, some of the rules are not clear and as written under Dodd-Frank don’t seem to apply to private equity,” explained to pfm Pam Hendrickson, chief operating officer of The Riverside Company and chairman of the ACG’s global board of directors.

Somewhat surprisingly, given recent SEC cases and speeches from regulators, the “improper allocation of fees and expenses” and “proper disclosure of fees to investors or perspective investors” were only considered a concern from 50 and 36 percent of GPs respectively.

Last month in one of its first major cases on private equity fund fees and expenses, the SEC charged Lincolnshire Management with misallocating shared expenses between two companies owned by two of its funds. The New York-based private equity firm agreed to pay approximately $2.3 million to settle the charges. SEC watchers note the case highlights the level of detail SEC inspectors may wish to see in firms’ expense allocation policies and procedures.

“I did notice that fees and expenses were lower [on the list of regulatory concerns] than I expected, and I believe this is because for most funds out there the LPA is unambiguous regarding fees and expenses,” explained Scott Gluck, a regulatory lawyer with law firm Venable and a member of the ACG's SEC task force. “The GPs know what they should be doing and are following both the letter and the spirit of the LPA, so it isn’t a concern for them.” 

Perhaps another surprising result: only 39 percent of respondents cited cybersecurity as a concern. In recent months the commission has highlighted cybersecurity as a new focus area for inspectors. 

“Last year 31 percent of companies with fewer than 250 employees were hacked, and that is expected to be a much higher number this year,” said Hendrickson. “Even the bigger companies are struggling and I think it is an enormous and scary issue.”

The SEC’s required level of compliance to cybersecurity risk is also a major problem for many GPs, added Gluck.

“The SEC would like registered investment advisers to have robust cybersecurity programs and processes in place. This is overwhelming for CCOs and CFOs who are already confronted with a host of other regulatory challenges. Smaller firms may not have in-house expertise in this area and they don’t have the resources to go out and spend thousands of dollars on a cybersecurity upgrade either, so they are really in a bind.”