Trade groups back challenge to new PF rules

Five separate amicus briefs extend, underline arguments against most sweeping changes since Dodd-Frank.

Six more trade groups have joined the battle against the SEC’s sweeping new private funds rules, filing five separate amicus briefs urging federal appellate judges to set the new regulations aside.

The US Chamber of Commerce, the Committee on Capital Markets Regulation, the Investor Choice Advocates Network and the Alternative Investments Association, the New Civil Liberties Alliance and SIFMA have combined to file five briefs in support of private funds’ advocates lawsuit against the new rules, filed in the US Court of Appeals for the Fifth Circuit.

A divided commission adopted the new private funds rules in August. Among other things, the new rules require registered private fund managers to obtain fairness opinions on secondaries deals they lead, to distribute quarterly expense reports to investors and to conduct yearly compliance reviews. The rules also require all private funds – registered or not – to disclose side letter terms to their investors and to obtain investors’ informed consent before charging exams and investigatory expenses to a fund, charging non-pro-rata fees, opening credit lines or borrowing from a fund’s clients, or reducing claw backs to offset taxes. Combined, the new rules are the most drastic change to private fund regulation since Dodd-Frank took effect.

Five briefs

Within days of the SEC’s vote on the new rules, six trade associations – the National Association of Private Fund Managers, the Alternative Investment Management Association, the American Investment Council, the Loan Syndications and Trading Association, the Managed Funds Association and the National Venture Capital Association – filed suit in Texas to vacate them.

The Fifth Circuit covers Texas, Louisiana and Mississippi. Advocates chose it because it has a long history of hostility to regulatory “overreach.”

The trade groups claim the commission overstepped its Congressional authority. Two elements of the new rules are especially irksome to industry. One is “guidance” language that implies accelerated monitoring fees and indemnification clauses are per se violations of a private fund managers’ fiduciary duties. The other is the commission’s reliance on Sec 211(h) of the Investment Advisers Act, modified by Dodd-Frank.

Five arguments

In the five new amicus briefs, other industry groups expand the arguments against the new rules:

  • The chamber’s brief stresses the commission’s Congressional authority and says the new rules needlessly will disrupt a system that’s working well. “The Commission replaces the successful regime that has persisted since the passage of the Investment Advisers Act of 1940 and the Investment Company Act of 1940 with a prescriptive regime that would needlessly change the market and harm the ability of highly sophisticated investors and advisers to negotiate mutually agreeable terms,” Dechert partner Steven Engel writes for his team.
  • The Committee on Capital Markets Regulation says the SEC and its chairman, Gary Gensler, are preceding from a “false assumption” that private markets are in dire need of more competition. “Indeed, the data and other objective evidence clearly indicate that the US private-funds market is neither uncompetitive nor affected by market failures,” Allen & Overy partner C Wallace DeWitt writes. “On the contrary, the private-funds market is highly competitive and becoming more competitive. Chair Gensler’s and the SEC’s fundamental policy rationale for the Final Rule is therefore fatally flawed. Moreover, and most importantly for this Court, the Final Rule is also a violation of US federal law.
  • ICAN and the Alternative Investments Association say in their brief that the new rules are “an incredible, unwarranted interference in the ability of fund investors to choose contractual provisions that they prefer.” The rules, Paul Hastings’ partner Nicolas Morgan writes, impose “a one-size-fits-all set of contractual terms, substituting the Commission’s preferred fund contract terms for those that investors and fund managers might consensually agree upon.”
  • The New Civil Liberties Alliance and three law professors say the new rules are “a profoundly troubling assertion of administrative power and raises critically important issues of constitutional and administrative law.” The commission not only exceeded its legal authority in adopting the new rules and “thwarted Congressional design,” Alliance attorneys Russel Ryan and Mark Chenoweth Regulators also violated the Administrative Procedures Act by failing to “consider and address substantial reliance interests the new rule disrupted.”
  • SIFMA argues that the new rules run “contrary to Congress’s longstanding hands-off approach to offerings made to sophisticated investors.”
    “Congress has for decades preferred a contract-based model through which advisers, acting on behalf of private funds, negotiate mutually agreeable terms with sophisticated individual investors,” Mayer, Brown partners Nicole A. Saharsky and Carmen N. Longoria-Green claim in the brief. “But now the SEC has decided to upend that regime, which will hamstring private fund advisers and ultimately hurt the funds’ investors.”

The commission has until December 15 to file its own brief in the case. Amicus briefs in favor of the SEC’s position are due December 22. The trade groups’ reply brief is due January 22. Oral arguments have not been scheduled.