AIC Calls on the SEC to Withdraw “Unnecessary” Private Funds Rules

Bipartisan Opposition Continues to Grow

WASHINGTON, D.C. — Today, the American Investment Council (AIC) released a letter the organization filed with the U.S. Securities and Exchange Commission (SEC) calling on the agency to withdraw its proposal to create new burdensome rules for private fund advisers (proposal).  In the letter, the AIC outlines numerous concerns about the implications for businesses, workers and retirees who rely on the private funds industry for capital or investment returns. The proposal also exceeds the Commission’s statutory authority to regulate the industry. The AIC joins other prominent critics from both sides of the aisle who have called on the SEC to abandon this proposal, including Members of Congress, academics and former high-ranking SEC officials.

The proposal would prohibit well-established and widely-accepted contract terms that have benefited investors, private funds and advisers. The proposal also seeks to impose a number of burdensome requirements that could dampen returns for investors, limit their investment choices, and increase their costs, including disclosure requirements and new limits on the secondary transactions that offer investors an alternative way to exit a private fund.

The cumulative effect of these unnecessary changes will be to stifle a particularly vibrant sector of the financial services industry – saddling it with unjustified burdens and constraints,” the AIC letter states. “Entrepreneurialism will be curbed, together with the contributions that private-equity-backed companies make to the U.S. economy. The blow will fall particularly hard on new market entrants and small fund sponsors, which are more likely to be women- or minority-owned than larger private equity firms but often lack the resources to implement these requirements. Efficiency, competition, and capital formation will all be impaired.”

The full AIC letter is available here. A number of bipartisan academics and former SEC officials have echoed these concerns, including former Chairman Harvey Pitt:

  • Former SEC Chairman Harvey PittHistorically, the Commission has generally and properly refrained from intervention in markets in the absence of a perceived significant market failure or inadequacy, particularly when, as here (and as discussed below) the investors in those markets are highly sophisticated (or have sufficient assets to hire highly sophisticated advisors), are easily capable of understanding and protecting their own interests, and the nature of the market is such that there are many participants operating competitively with whom those investors can interact … There has been no market failure or inadequacy indicating a need for regulatory intervention, and the Proposing Release suggests none.”
  • Mark J. Flannery, Bank of America Eminent Scholar in Finance at the Warrington College of Business Administration at the University of Florida and the former Chief Economist and Director of the Division of Economic and Risk Analysis at the SEC: “I concluded that the economic analysis in this proposal is conceptually flawed and cannot support the proposal. To start, it does not clearly identify why government regulation of this part of our capital markets is required and why it can make those markets more efficient. The economic analysis also fails to recognize important differences among the investors in a private fund, fails to identify and measure significant costs associated with the proposed rules, and fails to consider the adverse long-term social costs regarding efficiency, competition, and capital formation.”
  • S.P. Kothari, Gordon Y. Billard Professor of Accounting and Finance at MIT’s Sloan School of Management and the former Chief Economist and Director of the Division of Economic and Risk Analysis at the SEC: “The proposed rules have negative implications for efficiency and competitiveness, both of which lower investor net returns. Additionally, certain of the proposed rules may curtail the amount of capital invested in private equity … ultimately leading to diminished capital formation. These cumulative effects are likely to have stronger negative implications for investors than each individual rule proposal on its own. For example, investors’ ability to obtain their desired allocation to private equity investment opportunities would be significantly affected by the combination of decreased attractiveness of co-investing opportunities (e.g., due to requirements to co-investors pay pro rata allocations of deal break expenses) and decreased risk-reward potential of fund investments (e.g., due to higher fees or diminished risk appetite). Likewise, because several rules are likely to disproportionately affect small and first-time advisers, the cumulative effects on such advisers are likely to be significant impediments to fund formation and competition.”

On April 13th, 47 members of Congress from both sides of the aisle wrote to SEC Chairman Gary Gensler to express concern about the speed of his rulemaking process. They wrote.

We write to express concern over some of the Securities and Exchange Commission’s comment periods for complex rulemakings that may hamper the ability for the public to provide effective and meaningful input. Specifically, we write to request that the Commission revise the comment periods for its Private Fund Adviser proposal and Form PF proposal to at least 90 days post-publication in the Federal Register. Many of these rulemakings will have complex and sweeping effects on the industry and its stakeholders; we ought to allow the public sufficient time to conduct the analysis required for meaningful input on complex or highly significant proposed rules. We believe the interests of Congress, the Commission, stakeholders, and the public would be best served by an extended comment period for such rule proposals.”

On April 25th, Republican Members of Congress Bill Huizenga (R-FL) and French Hill (R-KY), wrote to SEC Chairman Gary Gensler expressing concern the Proposed Rules represent an overreach of SEC authority that would impose unprecedented new restrictions on private markets. They wrote:

“We are concerned that the proposed rulemaking represents a meaningful shift in the SEC’s statutory authority; is not consistent with the Commission’s statutory duty to promote efficiency, competition, and capital formation; and in our judgment, is arbitrary and capricious … The Proposed Rules would impose unprecedented new prohibitions on various activities of investment advisers to private funds, expand burdens for both investors and private fund advisers in many additional contexts and establish new financial reporting requirements. While we share the SEC’s general view of the importance of market transparency, we are concerned that the Proposed Rules reflect a serious overreach by the SEC.”

The National Association of Investment Companies, the nation’s largest network of diverse-owned private equity firms and hedge funds, also filed a letter warning that the Proposed Rules would impose additional burdens on the growth of small and diverse managers. They wrote:

“The Proposed Rules would undermine the recent progress that has been achieved and limit the potential of private equity managers to create jobs, generate wealth, and improve communities across this country. In addition, the Proposal’s reporting requirements will add significant costs and expenses that will be difficult for emerging and smaller diverse and women-owned investment firms to bear. Firms with the back-office infrastructure able to comply with the requirements will need to pass the additional costs and expenses to investors, making them and their investment offerings less competitive.”