SEC Proposes Amendments To Form PF To Enhance Private Fund Reporting – Finance and Banking

On January 26, 2022, the Securities and Exchange Commission (the
“SEC”) voted 3-1 to propose amendments to Form PF and
related rule amendments (the “Proposed
Amendments”).¹ Form PF is the confidential
reporting form used by certain SEC-registered investment advisers
to private funds, and provides the SEC and the Financial Stability
Oversight Counsel (“FSOC”) with information about the
operations and strategies of private funds.² The SEC
stated that the Proposed Amendments are designed to enhance
FSOC’s ability to monitor systemic risk and collect additional
information for the SEC’s use in its regulatory programs,
including examinations, investigations, and investor protection
efforts relating to private fund advisers.³

Background

Form PF provides the SEC and FSOC with information about the
operations and strategies of private funds,⁴ and the
Form is designed to support the SEC’s and FSOC’s assessment
of systemic risk. Since Form PF was initially adopted in 2011, the
private fund industry has grown in size and evolved in terms of
business practices, complexity of fund structures, and investment
strategies and exposures. The value of private fund net assets
reported on Form PF more than doubled between 2013 to 2020, from $5
trillion to $11 trillion, while the number of private funds
reported on Form PF increased by nearly 70 percent in the same
period.⁵

In light of these developments, the SEC and FSOC identified
“significant information gaps and situations” where they
believe more detailed and timely information would improve their
understanding of the private fund industry and the potential
systemic risk the industry poses, and improve the SEC’s ability
to protect investors.⁶ The Proposed Amendments would
affect the Form PF filings made by “large hedge fund
advisers,” “private equity advisers,” and
“large liquidity fund advisers,” as those classifications
are defined under the Form.

The Proposed Amendments

The Proposed Amendments include four primary changes to Form PF,
as outlined below. Notably, the Proposed Amendments would require
advisers to report certain events within one business day of the
event. Reporting within one business day marks a significant change
from the current form’s delayed quarterly and annual filing
requirements. As described in the Proposing Release, the SEC
believes that recent market events like the March 2020 COVID-19
turmoil and the January 2021 market volatility in certain stocks
have highlighted the importance of receiving current information
from market participants during fast-moving market events.
According to the SEC, requiring advisers to report the occurrence
of such events within one business day would facilitate a
regulatory response if appropriate and potentially mitigate the
impact on investors and systemic risk. Such reports would also
allow the SEC and FSOC to identify patterns among similarly
situated funds that could indicate broader system implications or
investor protection concerns.

1. New Current Reporting for Large Hedge Fund
   Advisers

The Proposed Amendments would add a new Section 5 to Form PF to
require large hedge fund advisers⁷ to file current
reports within one business day of the occurrence of one
or more reporting events that indicate significant stress or
otherwise serve as signals of systemic risk implications, as well
as potential areas for inquiry with respect to their qualifying
hedge funds.⁸ The reporting events, each of which is
detailed further below, would include certain extraordinary
investment losses, significant margin and counterparty default
events, material changes in prime broker relationships, changes in
unencumbered cash, operations events, and events associated with
investor withdrawals and redemptions. Under proposed Item K for
Section 5, advisers would have the ability to provide a narrative
response if they believe that additional information would be
helpful in the current report. A current report under Section 5
would be filed as a stand-alone document and advisers would not be
required to file any other part of Form PF at the time a current
report is filed. The Proposed Amendments also include conforming
changes to Rule 204(b)-1 under the Investment Advisers Act of 1940
to re-designate current Section 5 of Form PF, which includes
instructions for requesting a temporary hardship exemption, as
Section 7.

Extraordinary Investment Losses

Reporting extraordinary investment losses would be triggered by
a loss equal to or greater than 20 percent of a fund’s
“most recent net asset value”⁹
(“NAV”) over a rolling 10 business day period. The
Proposing Release notes that this information could provide notice
to the SEC and FSOC of potential fund or market issues in advance
of the occurrence of more downstream consequences. In the event of
an extraordinary loss, an adviser would be required to report the
date(s) of the 10 business day period over which the loss(es)
occurred and the dollar amount of the loss(es). If the fund were to
continue to incur losses, the adviser would be required to file
another current report covering the next applicable 10 business day
loss period beginning on or after the end-date stated in the
adviser’s initial report.

Significant Margin and Counterparty Default
Events

Under the Proposed Amendments, advisers would be required to
report three primary events related to margin. First, advisers
would be required to report if a fund has experienced a cumulative
increase in margin of more than 20 percent of the fund’s NAV
over a rolling 10 business day period. The adviser would be
required to report (i) the dates of the 10 business day period over
which the increase occurred, (ii) the cumulative dollar amount of
the increase, and (iii) the identity of the counterparty or
counterparties requiring increases. The adviser also would check
certain boxes to describe the circumstances of the margin increase.
The SEC believes that this information would better enable the SEC
and FSOC to screen false positives (i.e., incidents that trigger
the proposed current reporting requirement but do not actually
raise significant risks) and assess significant margin events.

Second, advisers would be required to report a fund’s margin
default or inability to meet a call for margin, collateral, or an
equivalent (taking into account any contractually agreed cure
period). These circumstances would include situations where there
is a dispute with regard to the margin call, but a current report
would not be required when there is a dispute as to the amount and
appropriateness of the margin call so long as the fund has
sufficient assets to meet the greatest of the disputed amount. The
adviser would be required to report (i) the date the adviser
determines or is notified that a fund is in margin default or will
be unable to meet a margin call with respect to a counterparty,
(ii) the dollar amount of the margin, collateral, or equivalent
involved, and (iii) the legal name and legal entity identifier
(“LEI”) (if any) of the counterparty. The adviser also
would check certain boxes to describe the circumstances of the
fund’s default or its determination that the fund will be
unable to meet a call for increased margin.

Finally, advisers would be required to report if (i) a
counterparty to a fund does not meet a call for margin or has
failed to make any other payment, in the time and form
contractually required (taking into account any contractually
agreed cure period) and (ii) the amount involved is greater than 5
percent of the NAV of the fund. The adviser would be required to
report (i) the date of the default, (ii) the dollar amount of the
default, and (iii) the legal name and LEI (if any) of the
counterparty.

Material Changes in Prime Broker
Relationships

Advisers would be required to report a material change in the
relationship between a fund and its prime broker(s). The SEC
believes that material changes in a fund’s prime brokerage
relationship may signal that the fund or the brokers with whom the
fund transacts are experiencing stress and may be subject to an
increased risk of default or, in the case of the fund, potential
liquidation. A material event would include material changes to the
fund’s ability to trade or an outright termination of the prime
brokerage relationship. The adviser would report the date of the
material change and the legal name and LEI (if any) of the prime
broker involved, in addition to selecting checkboxes that describe
the circumstances relating to the material change, including, in
the case of a termination of a prime brokerage relationship,
whether the termination was due to default or breach of agreement
by either party.

Changes in Unencumbered Cash

Advisers would be required to report if the value of a
fund’s unencumbered cash declines by more than 20 percent of
the fund’s NAV over a rolling 10 business day period. Under
these circumstances, the adviser would be required to report the
last day of the rolling 10 business day period during which the
unencumbered cash declined and the dollar amount of the
unencumbered cash on that last day of the period, in addition to
selecting checkboxes that provide additional information concerning
the adviser’s current understanding of the facts and
circumstances around the change in unencumbered cash. If the
decrease in unencumbered cash were to continue past the initial 10
business day period, advisers would be required to file a
subsequent report covering the next applicable 10 business day
period beginning on or after the end-date stated in the
adviser’s initial report

Operations Events

Advisers would be required to report when the adviser or a fund
experiences a “significant disruption or degradation” of
the fund’s “key operations,” whether as a result of
an event at the fund, the adviser, or other service provider to the
fund. “Key operations” would be defined to mean
operations necessary for (i) the investment, trading, valuation,
reporting, and risk management of the fund and (ii) the operation
of the fund in accordance with the Federal securities laws and
regulations. When evaluating a fund’s key operations that are
reasonably measurable, a “significant disruption or
degradation” means a 20 percent disruption or degradation of
normal volume or capacity. For example, advisers would be required
to report events such as a severe weather event causing wide-spread
power outages that significantly disrupt or degrade key operations.
Advisers would have to report the date of the operations event (or
an estimate of when it occurred), and the date the operations event
was discovered, in addition to selecting checkboxes that provide
additional information concerning the circumstances relating to the
operations event and its impact on the normal operations of the
fund. The Proposed Amendments would not require advisers to file
subsequent reports if the event were to continue after the initial
filing or upon conclusion of the event.

Events Associated with Withdrawals and
Redemptions

The SEC believes that large redemption requests, suspensions of
withdrawals/redemptions, material restrictions on
withdrawals/redemptions, and an inability to satisfy redemptions
are significant signals of potential stress at a fund. As a result,
reporting would be triggered under this category if the adviser
receives cumulative requests for redemption exceeding 50 percent of
the most recent NAV (after netting against subscriptions and other
contributions from investors received and contractually committed).
The adviser would report (i) the date on which the net redemption
requests exceeded 50 percent of the most recent NAV, (ii) the net
value of redemptions paid from the fund between the last data
reporting date (the end of the most recently reported fiscal
quarter on Form PF) and the date of the current report, (iii) the
percentage of the fund’s NAV the redemption requests represent,
and (iv) whether the adviser has notified the investors that the
fund will liquidate. In addition, reporting would be triggered if a
fund is unable to satisfy redemptions or suspends redemptions for
more than five consecutive business days. Under these
circumstances, the adviser would report (i) the date the fund was
unable to pay redemption requests or suspended redemptions, (ii)
the percentage of redemptions requested and not yet paid, and (iii)
whether the adviser has notified the investors that the fund will
liquidate.

2. New Current Reporting for Advisers to Private Equity
   Funds

The Proposed Amendments would add a new Section 6 to Form PF to
require advisers to private equity funds to file current reports
within one business day of the occurrence of one or more
reporting events pertaining to the execution of adviser-led
secondary transactions, implementation of general partner or
limited partner clawbacks, removal of a fund’s general partner,
termination of a fund’s investment period, or termination of a
fund, each of which is described in further detail below. As with
current reports under Section 5, advisers would have the ability
under proposed Item E of Section 6 to provide a narrative response
if additional information would be helpful in the current report. A
current report under Section 6 would be filed as a stand-alone
document and advisers would not be required to file any other part
of Form PF at the time a current report is filed.

Adviser-Led Secondary Transactions

Advisers would be required to report upon the completion of an
adviser-led secondary transaction. Under the Proposed Amendments,
“adviser-led secondary transaction” would mean any
transaction initiated by the adviser or any of its related persons
that offers private equity fund investors the choice to (i) sell
all or a portion of their interests in the fund or (ii) convert or
exchange all or a portion of their interests in the fund for
interests in another vehicle advised by the adviser or any of its
related persons. Transactions would be subject to reporting only if
they were initiated by a private equity fund’s adviser or a
related person of the adviser. The adviser would report the
transaction completion date and a brief description of the
transaction.

Implementation of General Partner or Limited Partner
Clawbacks

Advisers would be required to report upon the implementation of
a “general partner clawback,” or upon the implementation
of a “limited partner clawback,” in excess of an
aggregate amount equal to 10 percent of a fund’s aggregate
capital commitments. The term “general partner clawback”
would be defined as any obligation of the general partner, its
related persons, or their respective owners or interest holders to
restore or otherwise return performance-based compensation to the
fund pursuant to the fund’s governing agreements. The term
“limited partner clawback” would be defined as an
obligation of a fund’s investors to return all or any portion
of a distribution made by the fund to satisfy a liability,
obligation, or expense of the fund pursuant to the fund’s
governing agreements.

Removal of General Partner, Termination of the
Investment Period, or Termination of a Fund

Advisers would be required to report when a fund receives
notification that fund investors have (i) removed the adviser or an
affiliate as the general partner or similar control person of a
fund, (ii) elected to terminate the fund’s investment period,
or (iii) elected to terminate the fund, in each case as
contemplated by the relevant fund documents. Advisers would report
the effective date of the applicable removal event and a
description of such removal event.

3. Large Private Equity Adviser Reporting

The Proposed Amendments would reduce the threshold for reporting
as a large private equity adviser from $2 billion to $1.5 billion
in private equity fund regulatory assets under management. The SEC
believes that by lowering the threshold, the SEC and FSOC would
receive reporting from a similar proportion of the U.S. private
equity industry based on committed capital as when Form PF was
initially adopted in 2011.¹⁰ Additionally, the Proposed
Amendments would amend Section 4 of Form PF for large private
equity advisers to add new questions regarding fund investment
strategies, portfolio company restructurings or recapitalizations,
fund investments in different levels of a single portfolio
company’s capital structure, fund-level borrowings, financing
of portfolio companies, controlled portfolio companies
(“CPCs”) and CPC borrowings, and events of default,
financing to controlled portfolio companies, and geographic
breakdown of investments. We discuss each in more detail below.

Private Equity Fund Investment Strategies

Currently, Form PF does not require advisers to report
information about private equity fund strategies, but given the
growth in the industry since the adoption of Form PF and the
diversity of strategies employed by private equity funds, the SEC
believes that it is important to begin collecting such information.
The Proposing Release explains that strategy information would
allow the SEC and FSOC to understand and monitor better the
potential market and systemic risks presented by the different
strategies to both markets and investors.

The Proposed Amendments would require advisers to indicate each
fund’s investment strategy(ies) by percent of deployed capital,
choosing from a mutually exclusive list of strategies (even if the
categories do not precisely match the characterization of the
fund’s strategies). If a fund engages in multiple strategies,
the adviser would provide a good faith estimate of the percentage
of the fund’s deployed capital represented by each strategy.
The adviser would be permitted to choose an “other”
category if the fund’s strategy is not listed, but the adviser
would have to explain why it is selecting the “other”
category.

Restructuring or Recapitalization of a Portfolio
Company

Advisers would be required to identify any portfolio company
that was restructured or recapitalized following the end of the
fund’s investment period, and the effective date of the
restructuring.

Investments in Different Levels of a Single Portfolio
Company’s Capital Structure by Related Funds

Advisers would be required to indicate whether a fund held an
investment in one class, series, or type of securities (e.g., debt,
equity, etc.) of a portfolio company while another fund advised by
the same adviser or its related persons concurrently held an
investment in a different class, series, or type of securities of
the same portfolio company. In such circumstances, the adviser
would be required to provide the name of the portfolio company and
a description of the class, series, or type of securities held. The
Proposing Release notes that investments in different parts of a
portfolio company’s capital structure can create conflicts of
interest that are important for the SEC to monitor for investor
protection efforts and for enhancing the SEC’s understanding of
market trends.

Fund-Level Borrowings

Advisers would be required to report whether a private equity
fund borrows or has the ability to borrow at the fund-level as an
alternative or as a complement to the financing of portfolio
companies. If a fund engages in fund-level borrowing, the advisers
would be required to provide (i) information on each borrowing or
other cash financing available to the fund, (ii) the total dollar
amount available, and (iii) the average amount borrowed over the
reporting period. This new reporting category is designed to
collect data that the SEC believes would provide valuable insight
into how private equity funds obtain leverage, thereby giving the
SEC and FSOC a better understanding of a fund’s risk
profile.

Financing of Portfolio Companies

Advisers would be required to report whether they or any of
their related persons provide financing or otherwise extend credit
to any portfolio company in which a fund invests and to quantify
the value of such financing or other extension of credit. The
Proposing Release notes that such information would help the SEC
identify possible conflicts of interest that would help the SEC
focus its risk-based exam program, and could also alert the SEC to
industry financing trends that could affect systemic risk
concerns.

Floating Rate Borrowings of CPCs; CPCs Owned by Private
Equity Funds

Advisers would be required to report what percentage of the
aggregate borrowings of a private equity fund’s CPC is at a
floating rate rather than a fixed rate. Advisers also would have to
report how many CPCs a private equity fund owns.

Events of Default, Bridge Financing to CPCs, and
Geographic Breakdown of Investments

Advisers would be required to provide more detailed information
about the nature of reported events of default under borrowing
arrangements, such as whether an event of default is a payment
default of the private equity fund, a payment default of a CPC, or
a default relating to a failure to uphold terms under the
applicable borrowing agreement (other than a failure to make
regularly scheduled payments). Advisers also would be required to
identify institutions providing financings to CPCs, provide the
amount of such financings, and provide additional counterparty
identifying information, including whether the counterparty is
affiliated with a major financial institution, and, if so, the name
of the financial institution. The Proposed Amendments would also
modify how advisers report the geographical breakdown of
investments by moving away from reporting based on a static group
of regions and countries and towards identifying a private equity
fund’s greatest country exposures based on percentage of NAV.
An adviser would report all countries (by ISO country code) to
which a fund has exposure of 10 percent or more of its NAV.

4. Large Liquidity Fund Adviser Reportin

The Proposed Amendments would require large liquidity fund
advisers¹¹ to report substantially the same information
that money market funds would report on Form N-MFP (as amended as
proposed in 2021).¹² The Proposed Amendments would
revise how large liquidity fund advisers report operational
information, such as whether a liquidity fund seeks to maintain a
stable price per share, and how large liquidity fund advisers
report assets, including adding a distinct category for reporting
cash. The Proposed Amendments also would revise how advisers report
portfolio, financing, and investor information. The Proposed
Amendments would add a new item concerning the disposition of
portfolio securities that would require advisers to report
information about the portfolio securities that the liquidity fund
sold or disposed of during the reporting period (not including
securities that the fund held until maturity). The Proposing
Release states that these changes are designed to help the SEC see
a more complete picture of the short-term financing markets in
which liquidity funds invest, and in turn, enhance the SEC’s
and FSOC’s ability to assess short-term financing markets and
facilitate oversight of those markets and their participants.

Conclusion

The enhanced disclosure requirements under the Proposed
Amendments are significant in several key areas and underscore the
SEC’s continued focus on private funds and private fund
advisers. We expect that the private fund industry will seek to
engage with the SEC during the comment period to streamline the
proposals and limit the additional requirements.

Comments on the Proposed Amendments must be received within 30
days after the Proposing Release is published in the Federal
Register.

Footnotes

1 See Amendments to Form PF to Require Current
Reporting and Amend Reporting Requirements for Large Private Equity
Advisers and Large Liquidity Fund Advisers, Investment Advisers Act
Release No. 5950 (Jan. 26, 2022) (the “Proposing
Release”), available here.

2 A private fund adviser is required to complete Form PF
if (A) (i) it is registered or required to register with the SEC as
an investment adviser or (ii) it is registered or required to
register with the Commodity Futures Trading Commission as a
Commodity Pool Operator or Commodity Trading Advisor and also
registered or required to register with the SEC as an investment
adviser; (B) it manages one or more private funds, and (C) it and
its related persons, collectively, had at least $150 million in
private fund assets under management as of the last day of its most
recently completed fiscal year. The current version of Form PF is
available here.

3 One day after the SEC voted to propose the amendments,
the SEC’s Division of Examinations released a risk alert based
on observations from examinations of private fund advisers, which
serves to underscore the SEC’s current regulatory focus on
private funds and private fund advisers. See Observations from
Examinations of Private Fund Advisers (Jan. 27, 2022), available here.

4 Private funds are pooled investment vehicles that are
excluded from the definition of “investment company”
under the Investment Company Act of 1940 by Section 3(c)(1) or
3(c)(7) of that act. The term “private fund” generally
includes funds commonly known as hedge funds and private equity
funds.

5 See Proposing Release at n.4.

6 See Proposing Release at 5

7 A “large hedge fund adviser” is any adviser
having at least $1.5 billion in regulatory assets under management
attributable to hedge funds as of the end of any month in the prior
fiscal quarter.

8 A “qualifying hedge fund” is defined in Form
PF as “any hedge fund that has a net asset value (individually
or in combination with any feeder funds, parallel funds, and/or
dependent parallel managed accounts) of at least $500 million as of
the last day of any month in the fiscal quarter immediately
preceding your most recently completed fiscal
quarter.”

9 The term “most recent net asset value” would
be defined as “as of the data reporting date at the end of the
reporting fund’s most recent reporting period,” which the
SEC noted typically would be the most recent update to the
fund’s routine quarterly or annual Form PF filing. See
Proposing Release at n.23 and accompanying text

10 See Proposing Releases at 8.

11 A “large liquidity fund adviser” is any
adviser managing a liquidity fund and having at least $1 billion in
combined regulatory assets under management attributable to
liquidity funds and registered money market funds as of the end of
any month in the prior fiscal quarter.

12 See Money Market Fund Reforms, Investment Company Act
Release No. 34441 (Dec. 15, 2021), available here;
see also SEC Proposes Amendments to Money Market Fund
Rules, Willkie Farr & Gallagher LLP Client Alert (Jan. 11,
2022), available
here.

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