UK: Pay-to-Play: New Restrictions for Placement Agents Soliciting Public Pension Funds in California

Last Updated: 11 November 2010
Article by Edward L. Pittman and Brenden P. Carroll

California Governor Arnold Schwarzenegger recently signed into law Assembly Bill 1743 ("AB 1743"), a broad bill that will require placement agents and others who solicit a state public pension plan in the State of California on behalf of investment advisers, including advisers to private equity and hedge funds, to register as lobbyists.1 The new law also will subject both external placement agents and internal sales staff of investment advisers to limits on the receipt of contingent compensation and other requirements that apply to legislative lobbyists, including ethics laws, limitations on gifts to public officials, and periodic reporting requirements.2 The new law was enacted in large part due to high-profile civil and criminal investigations in California and elsewhere involving allegations of attempts by money managers to improperly influence decisions of state pension and retirement funds.

How Broad is the New Law?

Primary portions of the new legislation amend the California Political Reform Act of 1974 ("Reform Act") and apply only to those persons who solicit business from plans that are part of the State retirement system, including CalPERS and CalSTRS. However, the new law also requires placement agents who solicit local retirement funds within the State to comply with any applicable local lobbying laws that require lobbyists to register.3 Thus, if a municipality or county requires the registration of lobbyists, or imposes any other requirements on lobbyists, then placement agents will be subject to those requirements, including, if relevant, any local ban on contingent compensation.

Placement Agents

AB 1743 amends the definition of "lobbyist" under the Reform Act to include "placement agents,"4 a term that is broadly defined as:

an individual hired, engaged, or retained by, or serving for the benefit of or on behalf of, an external manager,5 or onbehalf of another placement agent, who acts or has acted for compensation as a finder, solicitor, marketer, consultant, broker, or other intermediary in connection with the offer or sale of the securities, assets, or services of an external manager to a state public retirement system in California or an investment vehicle, either directly or indirectly.

The definition thus includes both third-party placement agents, as well as individual employees of an investment adviser who solicit state retirement funds on behalf of the adviser. The definition will apply to persons soliciting separate account investments, as well as private equity and other alternative investments. In addition, persons who solicit business from "investment vehicles" in which a State public retirement system is the "majority investor" also will be covered – even if the investment vehicle is managed by an external adviser and has other non-governmental investors.6

Exceptions

As noted above, the definition of a placement agent includes internal sales staff of an adviser that solicit public pension plans in California. However, an exception is provided where the persons involved in the lobbying activity on behalf of the money manager spend one-third or more of their time during a calendar year, "managing the securities or assets owned, controlled, invested or held by the external manager."

A second exception from the definition of a placement agent, which relates only to persons lobbying State retirement funds, is provided in instances in which (i) the adviser is registered with the SEC or a state securities regulator; (ii) the adviser has been selected through a competitive bidding process (subject to California law) and is providing services pursuant to a contract executed as a result of that process; and (iii) the adviser has agreed to a fiduciary standard of care (as defined by California law) when managing the assets of a California state public retirement system.

Requirements for Placement Agents, Including Internal Sales Staff, Under California Lobbying Law

Placement agents, and others, who fall within the definition of a lobbyist as a result of the new law will be subject to the same restrictions that pertain to legisla-tive lobbyists under the Reform Act. The Reform Act is administered by the Political Reform Division of the California Secretary of State ("Reform Division"), which registers lobbyists and receives periodic reports. In addition, the California Fair Political Practices Commission ("FPPC") is responsible for adopting regulations, providing interpretations, and enforcing provisions of the Reform Act. Major requirements imposed on placement agents under the Reform Act are summa-rized below.

Registration as Lobbyists

There are multiple categories of persons who must register with the State as lobbyists. These include "lobbyist firms," "lobbyist employees" and "lobbyist employers." Forms for registration are available on the website of the Reform Division.7

Reporting

Lobbyist firms and their employees are required to file quarterly reports, or disclosure statements, listing fees received for lobbying activity as well as lobbying-related payments and campaign contributions in excess of $100, among other items.

Ethics Training

Individuals registering as lobbyists must complete an ethics education course and also are required to certify on an annual basis that they have attended a required course on ethical issues and laws relating to lobbying within the previous 12 months.

Prohibition on Contingent Compensation

The Reform Act states that no lobbyist shall: "[a]ccept or agree to accept any payment in any way contingent upon the defeat, enactment, or outcome of any proposed legislative or administrative action."8 The limitation applies both to external placement agents and their employees and the internal sales staff of advisers. However, the new law expressly permits non-contingent fees to be paid to broker-dealers registered with the SEC, and members of the Financial Industry Regulatory Authority.

Limits on Political Contributions and Other Provisions

In addition to the provisions that are described above, lobbyists are subject to laws limiting their political contributions, 9 establishing limits on gifts,10 and prohibiting deceptive statements in connection with lobbying activity.11

Effective Date and Penalties for Non-Compliance

The effective date for the registration provisions under AB 1743 is January 1, 2011. At that time, managers and third-party placement agents should have in effect policies to ensure compliance. Violations of the Reform Act may result in fines, criminal actions, and a ban on lobbying.

Conclusion

AB 1743 has received a lot of attention in the press because of its sponsorship by CalPERS and CalSTRS, and the high profile scandals involving former directors and employees of CalPERS and other pension funds. State and local laws requiring registration of procurement lobbyists seeking business from government agencies are not uncommon, but until recently generally have not been applied to the financial services industry. There still are interpretive questions and other issues relating to AB 1743 that may need to be resolved by the FPPC. However, firms that do business with pension funds in California should be careful that they comply with any State or local lobbying laws.

Footnotes

1 See California Assembly Bill 1743, available at http://www.leginfo.ca.gov/pub/09-10/bill/asm/ab_1701-1750/ab_1743_bill_20100930_chaptered.pdf

2 Recently adopted amendments to the California Government Code, which became effective on June 30, 2010, require placement agents seek-ing business from CalPERS to provide detailed disclosure regarding their compensation, cam-paign contributions, gifts to board members, and whether or not they were registered with the Securities and Exchange Commission ("SEC") as broker-dealers. Cal. Code §§ 7513.85, 7513.9.

3 Cal. Code § 7513.87.

4 Cal. Code § 82047.3(a).

5 An "external manager" means either of the following: (1) a person who is seeking to be, or is, retained by a state public retirement system in California to manage a portfolio of securities or other assets for compensation; or (2) a per-son who is engaged, or proposes to be engaged, in the business of investing, reinvesting, owning, holding, or trading securities or other assets and who offers or sells, or has offered or sold, secu-rities to a state public retirement system in California. Cal. Code § 82025.3

6 An "investment vehicle" means a corporation, partner-ship, limited partnership, limited liability company, asso-ciation, or other entity, either domestic or foreign, consti-tuting or managed by an external manager in which a state public retirement system in California is the majority investor and that is organized in order to invest with, or retain the investment management services of, other external managers. Cal. Code § 82047.3(d).

It is unclear at this point, however, how the law will be interpreted in the context of the many different invest-ment vehicles that are offered – particularly where an external manager may be solicited directly by brokers and other managers to offer investments or provide services, as for example with a fund-of-funds.

7 Information, including forms and regulations, can be found on the website of the Reform Division at www.sos.ca.gov/prd/ Information about the FPPC is found atwww.fppc.ca.gov. General information regarding the lobbying disclosure requirements is found in the FPPC's Lobbying Disclosure Information Manual (2005).

8 Cal. Code § 86205(f).

9 Cal. Code § 85702.

10 Cal. Code § 86203.

11 Cal. Code § 86205(b).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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