On January 26, 2011, the Securities Exchange Commission (the “SEC”) and the Commodity Futures Trading Commission (the “CFTC”) jointly proposed Rule 204(b)-1 under the Investment Advisers Act of 1940 (the “Proposed Rule”) which would require SEC registered investment advisers that advise one or more “Private Funds”¹ (“Reporting Private Fund Advisers”) to file new Form PF with the SEC.² The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) mandated that the SEC require Reporting Private Fund Advisers to keep records and file reports containing such information as the SEC deems necessary and appropriate in the public interest and for investor protection or for the assessment of systemic risk by the Financial Stability Oversight Council (“FSOC”). Form PF is intended to assist the FSOC in assessing systemic risk in the U.S. financial system.

The CFTC has released proposed rule 4.27(d) under the Commodity Exchange Act that would require commodity pool operators (“CPOs”) and commodity trading advisers (“CTAs”) registered with the CFTC that are also SEC registered investment advisers and advise Private Funds to satisfy certain proposed CFTC filing requirements by filing Form PF with the SEC.³ Registered CPOs or CTAs that advise commodity pools that are not Private Funds would not be required to file Form PF, but instead would be required to file proposed Form CPO-PQR and/or proposed Form CTA-PR, as applicable, with the CFTC.⁴ SEC registered investment advisers that do not advise Private Funds and investment advisers that are exempt from SEC registration⁵ would not have a Form PF filing obligation. Additionally, if an adviser’s principal office and place of business is outside of the U.S., the adviser will be permitted to exclude any Private Fund that during the last fiscal year was neither a U.S. person nor offered to, or beneficially owned by, any U.S. persons for purposes of determining whether such adviser has a Form PF filing obligation.

The level and frequency of reporting on Form PF would vary depending on the size and type of Private Funds advised by the Reporting Private Fund Adviser, and more detailed information would be required with respect to hedge funds, private equity funds and liquidity funds.⁶ The Release defines a hedge fund as any Private Fund that: has a performance fee or allocation calculated by taking into account unrealized gains; may borrow an amount in excess of one-half of its net asset value (including any committed capital) or may have gross notional exposure in excess of twice its net asset value (including any committed capital); or may sell securities or other assets short (“Hedge Fund”). The Release defines a private equity fund as any Private Fund that is not a Hedge Fund, liquidity fund, real estate fund⁷, securitized asset fund⁸ or venture capital fund⁹ and does not provide investors with redemption rights in the ordinary course (“Private Equity Fund”).

General Reporting Obligations

All Reporting Private Fund Advisers would be required to report the following basic information annually:

• identifying information about the Reporting Private Fund Adviser (e.g., its name and the name of any related persons also reported on the Form PF) and basic aggregate information about the Private Funds managed by the Adviser (such as total regulatory assets under management¹⁰ and total net assets under management and the amount of those assets that are attributable to certain types of Private Funds);¹¹
• for each Private Fund, identifying information, and: (i) gross and net assets; (ii) aggregate notional value of derivative positions; (iii) borrowings (including a breakdown of borrowing based on whether creditors are U.S. financial institutions, foreign financial institutions, or a non-financial institutions);¹² and (iv) information regarding investor concentration; and
• monthly and quarterly performance information for each Private Fund.

All Reporting Private Fund Advisers would also be required to report additional information about any Hedge Funds advised, including:

• investment strategies;
• the percentage of each Hedge Fund’s assets managed using computer-driven trading algorithms;
• significant counterparty exposures (including the identity of counterparties); and
• trading and clearing practices.

More Detailed Reporting Obligations for Large Private Fund Advisers

Significantly more detailed information would be required to be reported on a quarterly basis by any Reporting Private Fund Adviser with at least $1 billion in regulatory assets under management attributable to Hedge Funds or Private Equity Funds, as applicable (a “Large Filer”). For purposes of determining whether a Reporting Private Fund Adviser and/or its Private Funds meet a Form PF reporting threshold (including the $1 billion threshold for Large Filers), an adviser would be required to aggregate the assets of parallel funds, parallel managed accounts and feeder funds which are part of a master-feeder arrangement. Large Filers would be required to make the quarterly Form PF filing no later than 15 days after the end of each calendar quarter.

Large Filers that advise Hedge Funds would also be required to report additional information, including:

• aggregate Hedge Fund exposures (value of long and short positions by sub-asset class);
• geographical breakdown of investments;
• portfolio turnover rate; and
• additional information for each Hedge Fund managed by a Large Filer that has a net asset value of at least $500 million as of the close of business on any day during the calendar quarter including:
  • reporting Hedge Fund exposures (value of long and short positions by sub-asset class);
  • portfolio liquidity;
  • concentration of positions;
  • collateral practices with significant counterparties;
  • investor composition;
  • liquidity (including disclosure of side pockets and gating arrangements);
  • counterparties; and
  • risk management items that seek to analyze the effects of hypothetical market events on a Hedge Fund’s portfolio (e.g., fluctuations in equity prices, risk free interest rates, credit spreads, and corporate bond default rates).

Large Filers that advise Private Equity Funds would be required to report the identity of institutions providing bridge financing to portfolio companies and the amount of such financing, as well as information about the Private Equity Funds managed, including:

• borrowings and guarantees;
• portfolio company investments (including such companies’ leverage, debt to equity ratio, debt maturity profile and previous default events); and
• the concentration of investments with respect to industry and geography.

Proposed Form PF would be filed electronically on a confidential basis and elicit non-public information about Private Funds and their trading strategies which the SEC recognizes in many cases, could adversely affect the funds and their investors. The Dodd-Frank Act requires the SEC and the CFTC to share information reported on Form PF with the FSOC, subject to the confidentiality provisions of the Dodd-Frank Act. In addition, the Dodd-Frank Act requires the FSOC to coordinate with foreign financial regulators, in its assessment of systemic risk. The Release discloses that the SEC and the CFTC expect that they might share information reported on Form PF with foreign financial regulators under information sharing agreements in which the foreign regulator agrees to maintain the confidentiality of such information. The Release indicates that the SEC may use information reported on Form PF during examinations and/or enforcement actions, but it does not intend to make public Form PF information identifiable to any particular adviser or Private Fund.

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Comments may be submitted within 60 days after publication of the Proposed Rule in the Federal Register, which has not yet occurred. If you have any questions about the Proposed Rule amendments discussed above, please contact an attorney in the Investment Management Group at Seward & Kissel LLP.

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¹ A “private fund” is defined in Section 202(a)(29) of the Investment Advisers Act of 1940, as amended (the “Advisers Act”), as any issuer that would be an investment company as defined in section 3 of the Investment Company Act of 1940 but for sections 3(c)(1) or 3(c)(7) of that Act.

² See the Release and Proposed Rule.

³ In addition to filing Form PF, such registered CPOs and CTAs would be required to file Schedule A of the proposed Form CPO-PQR and/or the proposed Form CTA-PR, as applicable, with the CFTC.

⁴ See the Seward & Kissel LLP Memorandum regarding the CFTC’s proposed filing obligations for CPOs and CTAs dated February 9, 2011.

⁵ E.g., advisers solely to venture capital funds, advisers to Private Funds that in the aggregate have less than $150 million in assets under management in the United States, and certain foreign private fund advisers with less than $25 million in aggregate U.S. investor assets under management will not be required to file Form PF.

⁶ Liquidity fund is defined in the Release 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.

⁷ Defined in the Release as any Private Fund that is not a Hedge Fund, that does not provide investors with redemption rights in the ordinary course and that invests primarily in real estate and real estate related assets.

⁸ Defined in the Release as any Private Fund that is not a Hedge Fund and that issues asset backed securities and whose investors are primarily debt-holders.

⁹ Any Private Fund meeting the definition of venture capital fund in proposed rule 203(l)-1 of the Advisers Act.

¹⁰ Regulatory assets under management would be calculated in accordance with proposed Part 1A, Instruction 5b of Form ADV.

¹¹ For questions on Form PF that request information about individual Private Funds, a Reporting Private Fund Adviser would be required to report aggregate information for parallel managed accounts and master-feeder funds.

¹² In cases where an amount owed to a creditor is greater than 5% of a Private Fund’s net asset value as of the reporting date, an adviser must report the amount owed and the identity of the creditor.