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Written by:  Jay B. Gould 

The recently enacted JOBS Act[1] requires the Securities and Exchange Commission (“SEC”) to promulgate rules that would effectively repeal the ban on general solicitation and general advertising under Rule 506 of Regulation D by private issuers, including private funds.  Pursuant to the JOBS Act, the SEC has 90 days from the date of enactment (July 4, 2012) to adopt rules implementing this provision.   In advance of publishing proposed rules, the SEC has started accepting comment letters on all aspects of the JOBS Act, including the repeal of the ban on general advertising.  

Unsurprisingly, the Investment Company Institute (“ICI”), the lobby organization for mutual funds and other registered funds, has submitted a comment letter requesting that the SEC take a slow and deliberate approach to permitting private funds to generally advertise and solicit investors.  How slow and deliberate?  The ICI suggests that performance advertising by hedge funds should be prohibited altogether until the SEC has had the opportunity to study hedge fund advertising, “gain experience with private fund advertisements,” and craft a rule similar to Rule 482 to which mutual fund advertising is subject.  The ICI tells us that Rule 482 is the culmination of 60 years of experience and that the SEC “should follow the same path here,” referring to advertising by hedge funds and other private funds.  60 years?  Really? 

The ICI has a long and storied history of blocking financial innovation and expansion of investment opportunities for the investing public.  You may recall that the ICI sued the Office of the Comptroller of the Currency in an attempt to block banks from acting as investment advisers to mutual funds, a case that they ultimately lost at the Supreme Court.  It is hardly surprising then that the mutual fund lobby would line up against competition by the private funds industry, even at a time when the registered funds and private funds businesses are converging at a rapid pace in terms of product offerings, investment strategies, and regulatory oversight and reporting.  Last August the SEC issued a “concept release” that requested comment on whether registered funds should be able to use the same sorts of investment techniques and to the same extent as private funds, such as hedging, shorting, and use of leverage.  Further action in this regard, coupled with the new reporting obligations of private funds as a result of Dodd Frank (e.g., Form PF) will serve to further blur the lines between registered and unregistered funds. 

In addition to “urging” a ban on performance advertising and promoting the idea of other “content restrictions” by hedge funds and other private funds, the ICI suggests that private fund advertising should be subject to FINRA review to the same extent as mutual fund advertising, and that private fund advertising be clearly distinguished from mutual fund advertising.  The ICI further suggests that the SEC should raise the net worth threshold for “accredited investors” in order to insure that private fund investors have the requisite sophistication to withstand the riskiness associated with private funds (See legalaffairs March–April 2004 issue).  The ICI endorses a $600,000 annual income and $3 million net worth standard, a measure that would further reduce the potential private fund investor pool and drive more investors to the registered world. 

More balanced voices have also started to comment on this issue, so it remains to be seen how much weight the SEC will ultimately attribute to the ICI comment letter.  You may view all of the comment letters regarding the repeal of the ban on general solicitations here.    And you are encouraged to submit your own.

[1]   The Jumpstart Our Business Startups Act.

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Written by: James Campbell and Sam Pearse

And so Greece paid the bond repayments due on Tuesday.  Some claim that making such a payment was a no-brainer on the basis that the otherwise ensuing litigation and cross-defaults on other bonds was unthinkable.  Other sources claim that the noise coming from Greece over last weekend was that the payment would be made and that it was never in doubt.  Yet initial Reuters reports on Tuesday morning of the bond repayment remained unconfirmed for a number of hours, with the payment due to be made in the afternoon.

There remains a large amount of unstructured, foreign law governed bonds and the holders of those instruments will take the view that there is now a commercial precedent for not agreeing to restructure the debt. Those who agreed to a 70 percent haircut on their bonds will be understandably furious and considering their options.  Either way, the decision to repay the bonds in full will have serious repercussions for any future debt restructuring and the sovereign bond market as a whole.  The system only works if bondholders can trust sovereigns.

The repayment of the capital has done nothing to dispel the unease about an imminent Greek exit from the Eurozone.  The arguments remain the same as before and can be captured under the heading of the cost of exit versus the cost of remaining propped up.  However, it is the not the debt writedowns, the cost of introducing a new currency or the unpicking of contracts that is the major concern.  We are seeing continued capital flight from the Eurozone as confidence continues to wane.  It is clear that contagion is spreading.

Is Greece the sea anchor that is dragging down the rest of the Eurozone?  The dumping of Italian and Spanish bonds and the selling of banking stocks in the Eurozone countries certainly evidences the contagion.  Indeed, it is Spain that appears to be the next country with a serious problem.  There are serious questions about the financial strength of the Spanish banks which have not yet be answered. The next bond sale is on Thursday May 17 and the expectation is that the cost of borrowing will markedly rise, especially as it was the Spanish banks that were the principal buyers of Spanish bonds last time around.

If Greece’s troubles remain inadequately “firewalled” from the rest of the Eurozone then other vulnerable countries will continue to be dragged down.  If Greece alone defaulted that may be manageable, especially as external exposure to Greece’s well flagged troubles have been cut back over the past two years.  But if Greece goes and takes some or all of Spain, Portugal, Italy and Ireland with it then there is exponential damage that even the green shoots of recovery in the US may not withstand.  The longer Greece remains part of the Eurozone, the greater the likelihood that there will be widespread collapse.  For that reason, at the very least in the short term, funds should be reviewing their Spanish strategy and the terms of any Spanish paper they hold.

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Written by: Samuel Pearse and James Campbell

In the grand scheme of Greece’s debt problems, the sum of approximately €450m may appear modest but tomorrow (15 May) the next repayment of principal is due on foreign law bonds issued by the Hellenic Republic.  In a high stakes version of Morton’s Fork, whether the fractured Greek government decides to pay or default there are potentially undesirable outcomes.

As the bonds due for repayment are governed by English law the Greek government will find it difficult to impose its own will upon the bondholders.  Followers of the crisis will recall that Greece forced through the restructuring of Greek law governed bonds by enacting new legislation, with retrospective effect, that allowed the government to enforce collective action clauses.  They have no such power with foreign law bonds.  At the end of March, Greece put a restructuring proposal to the holders of the outstanding 36 foreign law bonds, and in 20 cases the proposal was not passed, including the bond due for repayment tomorrow.

Greece finds itself with a stark choice: default or pay up.

Default and Greece can expect the holders of the bonds to give their lawyers the green light to prepare lawsuits to be filed on the expiry of the 30 day cure period.  Add to the mix the inevitable arguments concerning breaches of negative pledges within the foreign-law debt instruments, and also creditors seeking to attach other assets under the emanation principle, and Greece will find itself embroiled in far-reaching and long-running litigation, leaving aside the questions of continued membership of the Eurozone.

Should Greece pay then it would be seen as a victory for the hold-out strategy, emboldening the holders of the other 19 foreign law bonds which have not been restructured.  We could also see protests from those bondholders who agreed to a debt restructuring on the basis that Greece said that there was no money available to doing anything else.  Such “co-operative” bondholders may explore the possibility that such misrepresentations are actionable.

Either way, holders of Greek bonds should be considering their strategies and preparing for either outcome.  As John Dizard eloquently comments in today’s Financial Times (‘Holdouts get paid, the rest can pray’, Financial Times, Monday May 14 2012) “The under-lawyered should look for spiritual, not financial, comfort”.


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Written by:  Jay B. Gould, Michael Wu and Peter Chess

Note: Pillsbury and KPMG, along with the California Hedge Fund Association, will be sponsoring a “Managers Only” event on the JOBS Act and the new world of “general solicitation” for Funds on June 14.

The Jumpstart Our Business Startups Act (the “JOBS Act” or the “Act”), signed into law by President Obama on April 5, 2012, seeks to encourage economic growth through the easing of certain restrictions on capital formation and by improving access to capital.  The JOBS Act contains a number of provisions that will directly impact private funds and their general partners, managers and sponsors.  Below is a summary of the Act’s provisions that directly affect private funds, including ongoing requirements for funds that at this time do not appear to be affected by the Act.

Section 4 of the Securities Act.  The JOBS Act amends Section 4 of the Securities Act of 1933, as amended (“Securities Act”), so that offers and sales exempt under Rule 506 of Regulation D will not be deemed public offerings as a result of general advertising or general solicitation.  Private funds relying on the exception in Section 3(c)(1) (“3(c)(1) Fund”) of the Investment Company Act of 1940, as amended (“Investment Company Act”), will be able to continue to avail themselves of this exception so long as all of their investors are accredited investors, as defined in Rule 501 of Regulation D (“Accredited Investors”).  We expect that private funds relying on the exception in 3(c)(7) (“3(c)(7) Fund”) of the Investment Company Act will obtain the greatest benefit from the JOBS Act, as these funds, which accept only “qualified purchasers,” as defined in Section 2(a)(51) of the Investment Company Act, may now have up to 2000 investors (as discussed below) before they would be required to register as a public reporting company under the Securities Exchange Act of 1934, as amended (“Exchange Act”).  3(c)(1) Funds will continue to be limited to 99 investors, although a fund manager may organize and offer both a 3(c)(1) Fund and a 3(c)(7) Fund with the same investment objective and strategies without the two funds being subject to “integration” under the Securities Act.

General Solicitation and General Advertising.  The JOBS Act requires the Securities and Exchange Commission (“SEC”) to amend Regulation D under the Securities Act to eliminate the prohibition on general solicitation and general advertising for offerings under Rule 506, provided that all purchasers are Accredited Investors.  The Act mandates that the SEC implement rule amendments ninety days after the enactment of the Act, or by July 4, 2012.

It is unlikely that the SEC will be able to meet this deadline given the requirement to provide public notice and comment prior to adopting any final rules; accordingly, these rule amendments are expected to be adopted by the fall with very little transition period.  Although the Act leaves little in the way of discretion to the SEC in the rulemaking process there are two areas in which the SEC may seek to provide substantive guidance.  The SEC is required to amend Regulation D such that any issuers relying on Rule 506 must take reasonable steps to verify that purchasers are Accredited Investors.  Some observers believe that the SEC may require issuers that avail themselves of the general advertising provisions to obtain sufficient financial information from prospective purchasers so that the “accredited status” of such investors can be more precisely determined.  This could take the form of requiring all such issuers to obtain an income statement or verified financial statement from investors.  The other area in which the SEC may attempt to provide additional oversight is with respect to the offering of private fund interests through broker-dealers. 

Brokers and Dealers.  The JOBS Act provides that with regard to securities offered and sold under Rule 506 and subject to certain conditions, registration as a broker or dealer under Section 15(a)(1) of the Exchange Act will not be required for certain persons solely because of the performance of specific functions.[1]  This exemption from registration is available only if such persons: (i) receive no compensation in connection with the purchase and sale of the securities; (ii) do not have possession of customer funds or securities in connection with the purchase and sale of securities; and (iii) are not subject to statutory disqualification (sometimes referred to as “bad boy” provisions).  Although it is uncertain at this time, the SEC may take this opportunity to require private funds that avail themselves of the ability to advertise generally to conduct all offers and sales of their fund interests through a registered broker-dealer.  The SEC realizes that as a result of the fast moving and innovative private funds industry, the regulator lost control of Regulation D as well as the “issuer’s exemption” in Rule 3a4-1 under the Exchange Act, the exemption that fund managers rely upon to offer their securities directly to purchasers.  It is not clear that Rule 3a4-1 was ever intended for this purpose, and the SEC may take this opportunity to clarify how offers and sales are conducted generally by private fund managers.

Record Holders.  The JOBS Act increases from 500 to 2,000 the number of record holders of equity securities an issuer may have before the issuer is required to register under Section 12(g) of the Exchange Act, so long as the number of non-Accredited Investors does not exceed 499.  3(c)(1) Funds will be unable to have any non-Accredited Investors if they want to employ general advertising even though, under Regulation D rules that predate the JOBS Act, sales could be made to up to 35 non-Accredited Investors (with no general solicitation).  There is an outstanding question as to whether the SEC will “grandfather” in existing non-Accredited Investors in 3(c)(1) Funds, or if perhaps some form of Rule 506 will survive whereby sales to non-Accredited Investors will be permissible if no general solicitation takes place.      

Continuing Restrictions and Obligations.  Although the JOBS Act will potentially ease the burdens presented by capital raising for private funds, the following should be noted: 

  • Private fund offerings pursuant to Rule 506 will continue to be subject to the anti-fraud provisions of federal and state securities laws and the restrictions on advertising found in the Investment Advisers Act of 1940, as amended (“Advisers Act”).  For example, Rule 206(4)-1 of the Advisers Act (the advertising rule) and its general prohibition against advertisements that are false and misleading still necessitates compliance.  Managers of private funds that advertise generally must understand the advertising rules against “testimonials” in their public marketing materials.  To be “liked” on Facebook or similarly endorsed on other social networking sites would likely be considered to be an illegal testimonial by the SEC which could result in and administrative action accompanied by fines and penalties.   
  • Private funds should continue to rely on the guidance provided in the Clover Capital Management, Inc. SEC no-action letter and the subsequent line of letters when contemplating activities such as performance presentations by following practices so as not to present misleading performance results.  Further, private funds should continue to comply with Rule 206(4)-8 of the Advisers Act and its prohibition on making untrue statements or omitting material facts or otherwise engaging in fraudulent, deceptive or manipulative conduct regarding interactions with investors in pooled investment vehicles.  To the extent a private fund manager avails itself of the ability to advertise past performance, special care will need to be taken to ensure that all documents are consistent and performance information is presented in a manner that is complete and accurate.
  • Private funds should consider and continue to comply with advertising and disclosure rules as applicable to registered advisers and members of the Financial Industry Regulatory Authority (“FINRA”).  FINRA rules also apply to broker-dealers acting as placement agents or intermediaries in Rule 506 transactions.  Private funds making use of exemptions from registration under the Advisers Act and/or the Investment Company Act must continue to comply with the restrictions set forth in such exemptions.  For example, although the JOBS Act provides that offers and sales exempt from registration under Rule 506 will not be deemed public offerings by virtue of the use of general advertising and general solicitation, 3(c)(1) Funds must not exceed the one hundred beneficial owner limit.

Foreign Private Advisers.  A “foreign private adviser” that qualifies for the exemption from registration under the Advisers Act is an adviser that has no place of business in the U.S., fewer than 15 U.S. clients, less than $25 million attributable to U.S. clients and does not hold itself out generally to the public in the U.S. as an investment adviser.  The SEC in the past has construed certain types of advertising, including information available on websites, as an example of an adviser holding itself out to the public in the U.S. as an investment adviser.  Given the increased freedom for advertising under the JOBS Act, the SEC may look more closely at advisers taking advantage of the foreign private adviser exemption and whether any activities that could be construed as advertising may violate the terms of the exemption.

Regulation S.  Regulation S under the Securities Act, the safe harbor from registration for offshore sales of securities to non-U.S. persons, does not allow for “directed selling efforts” in the U.S.  It remains to be seen if general solicitation or advertising in connection with the amendments to Regulation D will be seen as “directed selling efforts” under Regulation S and whether the SEC will clarify how this will affect the potential use of Regulation S in connection with offerings under Rule 506.

 State Blue Sky Laws.  Many private funds have relied on self-executing exemptions in certain states in order to avoid filings and/or fees required under applicable state statutes or rules.  These self-executing exemptions are commonly conditioned on a prohibition on general solicitation or general advertising.  Private funds employing general solicitation and/or advertising in reliance on the amended Rule 506 should note the mechanics of such Blue Sky laws of the states where securities are being offered and sold and comply accordingly.

[1]   This applies to persons that: (a) maintain a platform or mechanism that permits the offer, sale, purchase, or negotiation of or with respect to securities, or permits general solicitations, general advertisements, or similar or related activities by issuers of such securities, whether online, in person, or through any other means; (b) co-invest in such securities; or (c) provide ancillary services with respect to such securities.

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We are very pleased to announce that Henry Liu is joining our New York office today as a Finance Partner and as leader of the Financial Institutions & Infrastructure Teams for Greater China and Asia.

Henry has enormous reach within business, banking and government in China and is the former general counsel and director general at the China Securities Regulatory Commission.  Henry will provide valuable assistance to the Pillsbury Investment Funds group on the structuring of investment funds in China as well as the movement of capital from China into investment funds outside of China.

“Henry brings a unique combination of experience as a former high-level Chinese government official and as an extremely successful and well-connected attorney for our China practice,” said Pillsbury partner Jim Rishwain. “Henry is an incredibly rare find, as he can navigate the United States and Chinese business and legal landscapes with ease. Likewise, he has enormous reach within business, banking and government circles in Greater China and has earned the very highest reputation among his colleagues and peers. As a result, he will greatly enhance Pillsbury’s stature and presence in Asia – long a key market for our firm and our clients.”

Henry has also served international, Chinese and Asia Pacific clients ranging from Fortune 500 global firms to emerging companies and has been involved in most major types of cross-border corporate and financing transactions and regulatory matters involving Asia and China, across most major industry sectors, in mergers and acquisitions, capital markets, banking and financing, corporate, private equity and investment funds, foreign direct investments, real estate, technology transfers and international trade. He has over his career been exposed to most industries and sectors, including financial services, manufacturing, real estate, transportation, energy, telecom and media, and sports and entertainment.  Henry was previously managing director of investment banking with Donaldson, Lufkin & Jenrette/Credit Suisse First Boston in Hong Kong as well as the chair of a large international law firm’s China practice.