SEC Adopts Final Rules Regarding Investment Adviser Registration Under Dodd-Frank Act and Extends Deadline for Compliance

On June 22, 2011, the Securities and Exchange Commission (SEC) adopted final rules relating to the implementation of the provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) that created exemptions from the requirements to register under the Investment Advisers Act of 1940 (the Advisers Act) for advisers to venture capital funds, private fund advisers with less than $150 million in assets under management, and foreign private advisors. The final rules extend the original July 21, 2011 private adviser registration and reporting deadline under the Dodd-Frank Act to March 30, 2012. For SEC registered investment advisers that must withdraw their federal registration and transition to state registration as a result of the new rules (discussed below), such transition must be made by June 28, 2012. Highlights of the final rules are below.

Exemption for Investment Advisers that Advise Solely Venture Capital Funds

The final definition of "venture capital fund" largely remains the same as the definition proposed by the SEC in November 2010 with one significant change that is beneficial to venture capital fund managers. While the proposed definition only applied to private funds that own solely cash, cash equivalents, short term U.S. treasuries and equity securities of "qualifying portfolio companies," the final definition permits venture capital fund managers to invest up to 20 percent of a fund's aggregate capital commitments in "non-qualifying investments" (i.e., investments by the fund that do not otherwise conform to the requirements of the new rule). This "non-qualifying basket" was not part of the original proposed rules issued by the SEC and was generally created as an alternative to adopting a long list of specific investment exceptions (such as interests in other venture capital funds, non-convertible debt securities or publicly traded securities) to address the concerns of commentators to the proposed rules regarding occasional deviations from typical venture capital investing activity or inadvertent violations of the definition criteria. Also worth noting is that the final rules exclude from the definition of venture capital fund the requirement in the proposed rule that the fund provide a significant degree of managerial assistance to, or control, its qualifying portfolio companies. The SEC was persuaded that defining managerial assistance under the rule would introduce additional complexity and may not distinguish venture capital funds from other types of funds. The final rules also adopt largely as proposed the grandfathering provision for a fund that sold securities to one or more unrelated investors prior to December 31, 2010, that held itself out as a venture capital fund at the time of the offering of the securities, and that does not accept any additional capital commitments after July 21, 2011.

Exemption for Investment Advisers Solely to Private Funds With Less Than $150 Million in Assets Under Management

The exemption relating to investment advisers that only advise private funds and have less than $150 million in assets under management was adopted largely as proposed, although the frequency of calculating the amount of assets under management and the transition period to registration (if required) were lengthened. The final rules only require advisers to determine assets under management on an annual basis (rather than quarterly as proposed), and if the fair value of assets under management exceeds the $150 million threshold in a given year, the adviser would then have 90 days after filing its annual updating amendment (due by March 30 of each year) reporting assets under management greater than $150 million to register under the Advisers Act (effectively a transition period of up to 180 days after the end of a fund's fiscal year rather than the 90 day transition period set out in the proposed rules).

Exempt Reporting Advisers

The SEC approved rules that would require "exempt reporting advisers" (i.e., advisers relying on either of the two exemptions set forth above) to file an abbreviated version of Form ADV Part 1 annually, the first filing of which is due no later than March 30, 2012. The SEC also noted that "exempt reporting advisers" would be subject to recordkeeping rules to be adopted in the future and would be subject to limited SEC examination oversight.

Reallocation to States of Primary Responsibility for Regulatory Oversight of "Mid-Size Advisers"

Section 410 of the Dodd-Frank Act, effective July 21, 2011, creates a new group of "mid-size advisers" under the Advisers Act and shifts primary responsibility for their regulatory oversight to state securities authorities. Under this section, an adviser is prohibited from registering with the SEC if it is registered and subject to state examination as an investment adviser in its home state and it has assets under management between $25 million and $100 million (a "mid-size adviser"). This new standard will require a significant number of "mid-size advisers" to withdraw their SEC registrations and instead register with the state securities authorities of their home states (and potentially other states in which they have clients).

Additional Clarifications

The final rules clarify and provide guidance on certain issues unaddressed in the proposed rules, such as multiple advisers under common control and whether or not an adviser can rely on multiple exemptions. The final rules clarify that the SEC would treat as a single adviser two or more affiliated advisers that are separately organized but operationally integrated, which could result in a requirement for one or both advisers to register. Generally, a separately formed advisory entity that operates independently of an affiliate may be eligible for an exemption if it meets all of the criteria set forth in the relevant rule, however the existence of separate legal entities may not by itself be sufficient to avoid integration of the affiliated entities. The determination of whether the advisory businesses of two separately formed affiliates may be required to be integrated is based on the specific facts and circumstances. The SEC has provided some guidance on the staff's views of factors relevant to such determination. In addition, the final rules clarify that such rules do not permit advisers to combine the two exemptions noted above, the venture capital exemption and the private fund adviser exemption, so that, for example an adviser could advise venture capital funds with assets under management in excess of $150 million in addition to other types of private funds with less than $150 million in assets under management. The SEC believes that such an interpretation would run contrary to the language of the two exemptions which limits advisers relying on the exemption to advising solely private funds with assets under management of less than $150 million or solely venture capital funds.

If you are interested in learning more about these exemptions or the reporting requirements applicable to your fund, please contact Tim Capen, Michael Millikan, Joe DeGroff, John Thornburgh or any of the other attorneys in Ice Miller's Business Group.

This publication is intended for general information purposes only and does not and is not intended to constitute legal advice.  The reader must consult with legal counsel to determine how laws or decisions discussed herein apply to the reader's specific circumstances.

June 30, 2011