United States: Form PF: Private Fund Systemic Risk Reporting In The United States

The Securities and Exchange Commission ("SEC") on October 26, 2011 unanimously adopted a new rule ("Rule") and new Form PF under the Investment Advisers Act of 1940 ("Advisers Act") that must be completed by certain SEC registered investment advisers that manage private funds.¹ Among other things, Form PF will provide the new Financial Stability Oversight Council ("FSOC") with information necessary to help it monitor the systemic risk created by private funds and to determine whether particular entities should be designated as "significant financial institutions" ("SIFIs").² In addition, the information obtained by the FSOC from Form PF filings is intended to enable the FSOC to consider and recommend to primary financial regulators new regulations designed to mitigate systemic risk.³

New Form PF

While those who commented on the proposed rule generally supported the goal of Form PF to serve as part of a regime to monitor systemic risk, many were concerned about the scope, frequency and timing of the proposed reporting. In response to commenters, the SEC sought to tailor the Rule and the Form to ease the reporting burden on private fund advisers without materially impacting the quality of information from a systemic risk monitoring perspective.

As adopted, Form PF seeks a broad array of information, including: identifying information, assets under management, leverage and performance information for each private fund advised; aggregate information regarding fund asset values and portfolio holdings; and fund-specific data about such characteristics as portfolio liquidity, concentration, collateral practices and risk metrics.

Two-Tier Reporting Requirement

Form PF provides for a two-tier reporting requirement, whereby "large" advisers to particular types of funds will be subject to a more detailed reporting requirement than are smaller advisers and large advisers to other types of funds. The largest fund managers are also subject to accelerated initial filing dates for Form PF.

Advisers to hedge funds having, in the aggregate, at least $1.5 billion in "regulatory assets under management" ("RAUM") in hedge funds will be subject to the more detailed reporting requirements.⁴ RAUM consists of the assets of the applicable funds managed by an adviser and is calculated gross of outstanding indebtedness and other accrued but unpaid liabilities. RAUM also includes uncalled capital commitments. Advisers may use the total assets on the fund's balance sheet to determine gross assets. This calculation methodology is the same as that used for determining RAUM for purposes of Form ADV. Advisers to private funds with less than $150 million in RAUM need not file Form PF.

Advisers to liquidity funds having, in the aggregate, at least $1 billion in RAUM in liquidity funds and money market funds will be subject to the more detailed reporting requirements.⁵ Liquidity fund advisers must count registered money market fund assets towards the RAUM threshold. Advisers to private equity funds having, in the aggregate, at least $2 billion in RAUM in private equity funds will be subject to the more detailed reporting requirements.⁶

Aggregation of Assets

For purposes of determining whether an adviser meets any of the asset thresholds described above, an adviser must aggregate assets of accounts that pursue substantially the same investment objective and strategy and invest side-by-side in substantially the same positions as the private funds managed by the adviser ("Parallel Accounts"), unless the value of the Parallel Accounts exceeds the value of the private funds. This provides significant relief to advisers that are not primarily private fund advisers. Further, an adviser must aggregate assets of persons advised by any "related person" that is not operated separately from the adviser.

Liability for the Information Filed

Form PF does not contain an initially proposed certification requiring an authorized individual from the adviser to affirm under penalty of perjury that the statements made in the Form PF are true and correct. Commenters had expressed concern that the estimates and judgment calls required by Form PF would not allow an officer to state with certainty that the Form is true and correct, and officers could not rightly be held liable for perjury in such circumstances. Advisers can still be held liable under the Advisers Act for willful misstatements or omissions of a material fact in any report filed with the SEC.

When calculating the data required by Form PF, the rule allows advisers to use the methodologies that they use for internal and investor reporting purposes, rather than detailed formulas initially prescribed by the SEC in the proposed Form. Further, Form PF permits, but does not require, an adviser to explain any assumptions it makes in responding to the Form's questions. Given the opportunity, it could prove useful to an adviser to explain its assumptions in order to demonstrate its good faith in completing the Form, particularly if the SEC or CFTC staff disagrees with the data reported on the Form.

Confidentiality

The CFTC and SEC will share information collected on Form PF with the FSOC to the extent requested by the FSOC in furtherance of its assessment and monitoring of systemic risk. Under amendments to the Advisers Act added by the Dodd-Frank Act, the CFTC, SEC and FSOC may be compelled to reveal any information provided on Form PF, but only under very limited circumstances. For example, upon proper request, Form PF data may be shared with other federal departments or agencies or with self-regulatory organizations, in addition to the CFTC and FSOC, for purposes within the scope of their jurisdiction. Information may also be shared with Congress, but only in accordance with a confidentiality agreement. Form PF information may be used in examinations as well as enforcement actions brought by the United States or the SEC. The SEC is working to design controls and systems to protect the confidentiality of the information contained in Form PF. If the SEC staff does not believe that such systems are adequate by the compliance date for required Form PF filings, the SEC will consider delaying the compliance date.

International Coordination

The Dodd-Frank Act requires the FSOC to coordinate with foreign regulators in monitoring systemic risk. Therefore, the SEC staff consulted with the UK's Financial Services Authority ("FSA"), the European Securities and Markets Authority ("ESMA"), the International Organization of Securities Commissions and Hong Kong's Securities and Futures Commission, to develop a consistent regime for hedge fund reporting. The collection of comparable information regarding private funds in each regulator's jurisdiction will better allow for the coordinated assessment of systemic risk on a global basis. ESMA has published its advice on implementing these requirements. Although the SEC staff did draw on ideas from the FSA's voluntary semi-annual survey of hedge funds and ESMA's draft guidance on the form of systemic risk reporting that may be required under the Alternative Investment Fund Managers Directive, ultimately the scope and frequency of the reporting and the data required to be reported on Form PF does differ from the reporting proposed by ESMA in its recently published advice. The differences in these systemic risk reporting regimes will present challenges for managers and funds that are subject to both sets of reporting requirements. For further information, see Harmony or Dissonance: A Comparison of Form PF and the Template Reporting Form Proposed in ESMA's Level II Advice in this Quarterly Report.

Compliance Date

The SEC adopted a two-stage phase-in period for compliance with the Form PF filing requirements. Advisers with at least $5 billion in RAUM attributable to hedge funds, liquidity funds or private equity funds as of the last day of the fiscal quarter most recently completed prior to June 15, 2012 must begin filing for periods on or after June 15, 2012. Advisers who do not meet that threshold must begin filing for periods on or after December 15, 2012. All other advisers must file their first Form PF for the first period ending after December 15, 2012.

Conclusion

The final Form PF incorporates many significant revisions that should ease the burden on reporting advisers. The SEC staff clearly considered the comments it received and implemented suggestions, such as increasing the threshold for advisers subject to the detailed reporting requirements, delaying the compliance date for the rule, increasing the amount of time after the end of the fiscal period for filing, eliminating the certification under penalty of perjury and allowing advisers to use their internal methods for calculating the information required by Form PF. These revisions allowed Form PF to be unanimously adopted by the SEC, which praised the SEC staff's efforts to reduce the reporting burden while still gathering the information required by the FSOC.

Footnotes

* Robert H. Ledig, Gordon L. Miller and Eric D. Simanek also contributed to this article.

1 The Commodity Futures Trading Commission ("CFTC") simultaneously adopted new Rule 4.27 under the Commodity Exchange Act, which requires private fund advisers that are registered with the SEC and registered as commodity pool operators or commodity trading advisors with the CFTC to file Form PF with the SEC. Because the CFTC's rule adds no reporting requirements, this article addresses the SEC's rule only.

2 The Rule and Form implement provisions of Title IV of the Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank Act"). The Dodd-Frank Act gave the FSOC a range of responsibilities including: (i) monitoring for potential threats to U.S. financial stability; (ii) designating non-bank financial companies for supervision by the Board of Governors of the Federal Reserve System ("FRB") as SIFIs; (iii) making recommendations to the FRB as to the heightened capital and other prudential standards that will apply to SIFIs and bank holding companies with consolidated assets of $50 billion or more; and (iv) making recommendations to primary financial regulatory agencies to apply heightened prudential standards for activities and practices that are deemed to pose significant risks. The SEC and CFTC consulted extensively with the member agencies of the FSOC in developing Form PF to tailor the information to what the FSOC requires to exercise its responsibilities.

3 For additional information, please refer to "SEC and CFTC Adopt Private Funds Systemic Risk Reporting on Form PF," available at http://www.dechert.com/SEC_and_CFTC_Adopt_Private_Fund_Systemic_Risk_Reporting_on_Form_PF_12-06-2011/.

4 Form PF defines "hedge fund" generally to include any private fund having any one of three common characteristics of a hedge fund: (i) a performance fee that takes into account market value (instead of only realized gains); (ii) high leverage; or (iii) short selling. This definition excludes private equity funds that calculate currently payable performance fees in a way that takes into account unrealized gains solely for the purpose of reducing such fees to reflect net unrealized losses. It also excludes funds that use short selling solely to hedge currency exposure or to manage duration. Lastly, it excludes vehicles established for the purpose of issuing asset-backed securities. A commodity pool that is required to be reported on Form PF is treated as a hedge fund for such purpose.

5 A "liquidity fund" is defined in Form PF as any private fund that seeks to generate income by investing in a portfolio of short-term obligations, in order to maintain a stable net asset value per unit or minimize principal volatility for investors. Essentially, a liquidity fund is an unregistered money market fund.

6 A "private equity fund" is defined in Form PF as any private fund that is not a hedge fund, liquidity fund, real estate fund, securitized asset fund or venture capital fund and does not provide investors with redemption rights in the ordinary course.

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