A recent case in a North Dakota district court is a reminder to private equity funds and managers that, under certain conditions, they may be held responsible for actions of a fund’s portfolio companies. Courts allow plaintiffs to pierce the corporate veil as a check against improper abuse of the corporate form. When one corporate entity is under such extensive control by another that the first is merely an alter ego of the second, a court may permit a plaintiff to reach through the corporate structure to gain recovery. This is particularly true if the first entity is undercapitalized. Through this mechanism, limited liability does not mean immunity from liability, and under certain circumstances a plaintiff can hold the ultimate shareholders or owners liable for company obligations.
Proposed Senate Bill Would Significantly Impact Certain Private Funds and Their Affiliates
Recently, a group of Congress members introduced into Congress Senate Bill 2155 named the Stop Wall Street Looting Act of 2019. Although unlikely to be enacted into law as drafted, this proposed legislation would directly and substantially affect a number of fundamental operational aspects of private equity funds and their affiliates.
Third Circuit Discusses Important Differences Between Board Observers and Directors
The Third Circuit recently issued an important decision for private fund advisors who serve on corporate boards. In a precedential decision on a matter of first impression, the Third Circuit distinguished the role of nonvoting board observers from the function of formal corporate directors. And while the decision was issued in the context of liability for alleged violations of the securities laws, the Third Circuit suggested the analysis may apply more broadly to other situations involving board observers.
The case, Obasi Investment Ltd. v. Tibet Pharmaceuticals, Inc. et al, began in New Jersey federal court as a class action lawsuit alleging Tibet Pharmaceuticals failed to disclose certain information about its financial health prior to its IPO. Two of the defendants, Downs and Zou, claimed they were merely observers to Tibet’s board and therefore should not be found liable for any misconduct of the company board. The trial court judge granted summary judgment in the duo’s favor on all counts except a violation of Section 11 of the 1933 Securities Act, stating that the question presented a novel issue ripe for an appellate court.
On appeal, the Third Circuit threw out the last remaining Section 11 claim against the two defendants stating that board observers are not the same as directors. A claim under Section 11 can be brought against any person “named in the registration statement as being or about to become a director, person performing similar functions, or partner.” The issue before the Third Circuit was whether the board observers were “person[s] performing similar functions” to directors.
Proskauer Launches Private Equity SEC Enforcement Tracker
Today, we are launching a proprietary database tracking all SEC enforcement actions involving private equity advisers. The tracker contains key information from the actions, including summaries of key issues, settlement terms, and relevant statutory provisions. The tracker will be an important resource for us and our clients, providing us with
DC Circuit Opinion Reaffirms Fiduciary and Disclosure Obligations of Advisers While Rejecting SEC Finding of “Willful” Violations
The DC Circuit recently released an opinion addressing the SEC’s administrative findings against registered investment adviser The Robare Group (TRG) for failure to disclose alleged conflicts of interest. Although the court affirmed the SEC’s finding of a violation of Section 206(2) of the Advisers Act, it held that Commission could not find willful violations under Section 207 based on the same negligent conduct.
The court’s analysis of 206(2) of the Advisers Act, the key negligence-based antifraud provision for investment advisers, is instructive. The court affirmed that, as a fiduciary to its clients, the adviser was required to make full and fair disclosure of all material facts, including conflicts of interest.
Rent the Runway Walks into the Litigation Spotlight
There’s a new unicorn in town, and this time, it isn’t just another tech company. Rent the Runway, also known as RTR, is now officially valued at over $1 billion after its most recent funding round which raised $125 million.
The high-end rental clothing brand was launched in 2009 by female founders, including co-founder and CEO Jennifer Hyman. Rent the Runway’s third and largest round of funding took place during Hyman’s ninth month of her pregnancy term – a fact that surprises some and empowers all. The company has been sky-rocketing in value since it introduced its subscription rental service which now makes up 60% of the company’s revenues. One of the best parts – the consumer base is 100% female.
Of course, with success comes attention, and not always welcome attention. The same week Rent the Runway reached unicorn status, LA startup FashionPass filed a lawsuit accusing Rent the Runway of monopolizing the high-end clothing rental market. In its lawsuit, FashionPass alleges that RTR conspired with other labels to demand exclusivity in the rental relationship. FashionPass’s complaint alleges in “excess of $3 million” in damages and claims it is entitled to recover treble damages.
Delaware Chancery Declines Post-Filing Use of Section 220 Books and Records Inspection Request
A recent decision by the Delaware Chancery Court suggests that a litigant might forego the ability to file a books and records request if it waits to do so until after the lawsuit is filed. Last month the Delaware Chancery Court dismissed just such an action, characterizing the request for a books and records inspection after the filing of a lawsuit as “inherently contradictory” and an improper attempt to “sue first, ask questions later.”
Section 220 of the Delaware General Corporation Law allows stockholders to inspect books and records of a Delaware corporation for any proper purpose and to compel inspection if such inspection is refused. Section 220 is typically used prior to the filing of a lawsuit as a means to develop information to support a plaintiff’s claims before it has access to discovery rules. The corollaries to a Section 220 demand in the limited partnership and limited liability company contexts are known as a Section 17-305 demand and a Section 18-305 demand, respectively.
The Top Ten Regulatory and Litigation Risks for Private Funds in 2019
An increasingly sophisticated and active OCIE division, innovative market disruptors, a maturing credit cycle, and a philosophical change in how the private fund industry views and utilizes litigation are likely to lead to increased regulatory scrutiny and litigation risk for advisers (and their funds) in 2019. With that backdrop, we are pleased to present our Top Ten Regulatory and Litigation Risks for Private Funds in 2019.
SEC Staff Announces 2019 OCIE Examination Priorities
The SEC’s Office of Compliance Inspections and Examinations has released its annual priorities publication for 2019. Containing both a look back at the program’s accomplishments for fiscal year 2018 and a look forward into its initiatives for 2019, this annual report sets out important guidance for private fund managers in
2018 Annual Review and 2019 Outlook Highlights Private Equity Fund Litigation Risk Areas
In our recently released 2018 Annual Review and 2019 Outlook for Hedge Funds, Private Equity Funds and Other Private Funds, we note that innovative market disruptors, a maturing credit cycle, and a philosophical change in how the industry views and utilizes litigation are likely to lead to increased litigation