Look for more in this series to come.
Look for more of this series to come.

The number of private equity fund restructurings is likely to rise in the coming years.  The current economic expansion will inevitably come to an end (at 87 months and counting, this expansion is already the third longest post-WWII) making exits more challenging, just as the terms expire on funds raised during the “golden era” (2003-2007).  At the same time, some managers will seek to continue managing certain portfolio assets, by extending the terms of the funds and/or restructuring the funds to bring in new capital and provide liquidity to existing limited partners.

On a simplified basis, a restructuring often involves the manager forming a new fund (with a combination of new LPs and continuing or “rolling” LPs) and the new fund merging with or otherwise acquiring the remaining assets of the existing fund.  The influx of new cash from a secondary buyer creates liquidity for some existing LPs to cash out.  The purpose of the transaction structure is to give the manager additional time to maximize the value of the portfolio, while providing liquidity to those investors who prefer an immediate exit.

SECThe Securities and Exchange Commission today announced its enforcement results for fiscal year 2016, reaching new highs in the number of actions filed and money ordered forfeited through disgorgement and penalties.  The SEC noted that it brought the most ever cases involving investment advisers or investment companies, including 8 enforcement actions related to private equity advisers, an area that has clearly been a priority for the Commission over the past year, and a record 21 cases under the Foreign Corrupt Practices Act, an area of increasing importance to the SEC. 

Is your organization equipped to stay on top of regulator demands?  Join Proskauer’s Tim Mungovan, co-head of the Private Equity & Hedge Fund Litigation Group, and Marsh’s FINPRO U.S. Chief Innovation Officer Machua Millett on June 15 at 2:00 p.m. ET for a webinar on the new regulatory landscape for

SECOn May 16, 2016, six federal agencies issued a joint release inviting public comment on a proposed rule to prohibit or condition certain incentive-based compensation arrangements. This proposed rule was mandated by section 956 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank) and is a revision of the proposed rule the agencies previously published in the Federal Register on April 14, 2011.

As one of the six agencies, the U.S. Securities and Exchange Commission (SEC), is seeking to apply the rule to covered institutions with average total consolidated assets greater than or equal to $1 billion that offer incentive-based compensation to covered persons. By its terms, the definition of “covered financial institution” in section 956 of Dodd-Frank includes any institution that meets the definition of “investment adviser” under the Investment Advisers Act of 1940, as amended (the Advisers Act), regardless of whether the institution is registered, or exempted or prohibited from registration, as an investment adviser under the Advisers Act.

In the wake of a host of negative developments, Theranos Inc. is reportedly under investigation by the Department of Justice and the Securities and Exchange Commission.  The SEC and DOJ inquiries are likely to focus on whether Theranos misled investors about the state of its technology and operations.  Even beyond potential misrepresentation issues, we believe the SEC may also be focused on the adequacy of internal controls at privately-held companies, potentially viewing governance and control problems as contributing factors to other issues.

Theranos has also been dealing with issues raised by the FDA and the Centers for Medicare and Medicaid Services (CMS), including quality control concerns involving the company’s lab testing process.  The SEC may have parallel concerns about the company’s internal controls over financial reporting.  Under pressure to perform to the expectations of the company’s $9 billion valuation and to prove the viability of its signature technology, it is possible that enhancing internal controls may not have been the company’s top priority.

Private companies are still subject to SEC action for violations of the antifraud provisions, even though they are not typically subject to reporting and internal control requirements set out in the federal securities laws.  We believe the SEC may expand its footprint and focus on whether internal controls are adequate at rapidly-growing private companies. 

Partners Timothy W. Mungovan (co-head of Private Equity & Hedge Fund Litigation Group) and Christopher M. Wells (head of Hedge Funds Group)  have been invited to join a large collection of senior regulators at the Regulatory Compliance Association’s Enforcement, Compliance & Operations (ECO) 2016 Symposium.  The conference will take place on Tuesday May 17 at the Mandarin Oriental Hotel in New York City.

Tim will be chairing the session entitled: “Enforcement 2016 – New Priorities, Initiatives and Latest Developments.”

Chris will be chairing the panel entitled: “SEC Exam and NFA Audit Practice: 2016 Areas of Focus with Case Studies.”

Individuals affiliated with private fund managers are increasingly being named as defendants in lawsuits involving fund portfolio companies, particularly where the fund controls one or more seats on the portfolio company’s board, or where an individual affiliated with the fund sponsor serves as a senior executive at the portfolio company.

When an individual affiliated with a fund manager is named as a defendant in a lawsuit involving a portfolio company, some important questions should be addressed from the outset:

SECAs we previously discussed, SEC Chair Mary Jo White recently delivered the keynote address at the Silicon Valley Initiative hosted by the SEC-Rock Center for Corporate Governance at Stanford University.   While the speech and its focus on unicorns attracted some initial media attention, the subsequent response has been surprisingly muted given that Chair White provided a number of regulatory signals not only to unicorns (and other investment-backed private companies) but also to the venture capital and private equity funds that invest in them.

SECThe SEC’s regulation of the private investment funds industry has generated significant attention and commentary, as well as a fair amount of hand-wringing.  From our perspective as lawyers, however, there is a relatively commonsense explanation for the SEC’s approach.  Rather than acting with a heavy-hand by imposing a comprehensive set of “regulations,” the SEC is implementing its regulatory regime primarily through a combination of examinations, enforcement proceedings, and speeches, with a clear focus on potential and undisclosed conflicts of interest.

The SEC’s regulatory strategy can be described as an attempt to create “community standards” for the private funds industry.  The SEC is establishing standards of conduct by publicly declaring certain practices improper through enforcement proceedings and public statements.  While some might prefer the “certainty” of a comprehensive and detailed set of regulations, the private funds industry is too large and diverse to lend itself to simple rule-making, especially at the beginning of the regulatory process.  Moreover, the most significant drawback (arguably) of the SEC’s current approach—uncertainty—is preferable in most instances to a set of “one size fits all” regulations from a new regulator.

SECOn March 31, 2016, SEC Chair Mary Jo White delivered the keynote address at the Silicon Valley Initiative hosted by the SEC-Rock Center for Corporate Governance at Stanford University.  A substantial portion of Chair White’s remarks focused on “unicorns,” or private start-up companies with valuations exceeding $1 billion.  Chair White’s comments reflect the SEC’s apparent focus on, and concerns with, unicorn companies.  Specifically, Chair White voiced concern over the accuracy of the financial information used to secure financing prior to an initial public offering (IPO), as well as the enterprise valuations which are calculated at or near unicorn levels.