In August 2023, the Securities and Exchange Commission (SEC) implemented new rules and rule amendments under the Investment Advisers Act of 1940 (more commonly known as the “Advisers Act” or the “Act”) to enhance the regulation of private fund advisers and to update the existing Advisers Act compliance rule (rule 206(4)-7), which applies to all registered investment advisers. These new rules are intended to enhance transparency, auditing, and fairness for private fund advisers.
While rule changes such as these introduce complex compliance obligations increasing administrative burdens, many of these concerns can be alleviated through the use of intelligent automation. This article details the SEC’s amendments and discusses how solutions like Everysk help fund managers respond to these new demands, thereby improving accuracy and operational efficiency.
Heightened Transparency in Quarterly Reporting
Central to the SEC’s changes is the drive for heightened transparency, requiring advisers to provide detailed quarterly statements to investors. These statements must include comprehensive information on fund fees, expenses, and performance metrics. Specifically, private fund advisers registered with the SEC will need to detail all fees charged to the fund, break down expenses incurred, and present performance data in a manner that’s both clear and accessible to investors. This requirement aims to ensure that investors have a transparent view of the costs and returns associated with their investments, fostering a higher level of trust and operational integrity among advisers.
The new quarterly reporting requirements for private fund advisers bring several challenges, primarily necessitating the establishment of robust systems for accurate and timely reporting. These requirements increase operational workload, involving meticulous tracking and reporting of all relevant fees, expenses, and performance metrics, which demands significant operational resources. Automation can address these issues by streamlining data collection, computation, and reporting processes, significantly reducing the time consumed and the potential for human error.
As both an intelligent automation and analytics platform, Everysk is uniquely positioned to respond to the new quarterly reporting requirements. Workflows that aggregate transactional data, calculate fees, and compile performance metrics in real-time can be customized to fit fund-specific processes. All workflow runs and output are logged and stored daily so that at the end of each quarter, workflows can generate a comprehensive report detailing all required information, ready for review and distribution. This could include alerts for any discrepancies or anomalies needing attention.
Restrictions Redefined: Shaping the Future of Fee and Expense Allocation
The SEC’s rule revision imposes strict regulations on fee and expense allocations for private fund advisers, ensuring fairness and transparency. It prohibits charging certain costs to funds without explicit investor consent, especially fees related to non-penalized regulatory inquiries and compliance costs, which must be disclosed quarterly. The rule mandates equitable distribution of portfolio expenses and restricts advisers from borrowing fund assets without majority investor consent.
These regulations require money managers to overhaul their compliance strategies, necessitating enhanced systems for documenting consents and expense allocations fairly.
Fortunately, the complexity of managing these requirements can be streamlined through automation. With Everysk, workflows can monitor and compare fee allocation across all client accounts to ensure necessary compliance. Reports of client fee allocations are generated and sent for logged approval, providing a transparent and compliant fee allocation process.
Enhanced Accountability: Annual and Liquidation Audit Requirements
The SEC’s new rules necessitate that private funds’ financial statements adhere to U.S. GAAP or a comparable accounting framework, provided it aligns closely with U.S. GAAP and includes a reconciliation for any significant deviations. Audits must comply with U.S. generally accepted auditing standards, and auditors must be registered with and undergo regular inspections by the Public Company Accounting Oversight Board (PCAOB). This rigorous framework aims to elevate the standards of financial transparency and integrity, assuring investors of the thoroughness and reliability of the financial data presented.
Adhering to these enhanced audit requirements introduces several challenges for advisers. First, ensuring financial statements fully comply with U.S. GAAP or an equivalent framework demands a deep understanding of these accounting standards and the operational resources to process any necessary reconciliations. The requirement for audits to be performed in line with U.S. generally accepted auditing standards and for auditors to be registered with the PCAOB places a premium on selecting audit partners with the requisite credentials and oversight compliance. These factors combined increase the complexity of financial reporting and auditing processes, potentially leading to greater operational and compliance costs.
For fund managers, the process of preparing for audits is cumbersome, requiring meticulous financial record-keeping and documentation. While automation cannot replace the audit itself, it can ensure that all financial records are orderly, up-to-date, and easily accessible, making the audit process smoother and less resource-intensive.
With Everysk, automated workflows can provide continuous monitoring and reconciliation of accounts, real-time logs of transactions, and automated categorization of accounting data. This ensures that at audit time, all records are time-stamped, retrievable, and standardized for easy retrieval, significantly reducing the preparation time and effort required for audit compliance.
Standards of Fairness: Oversight of Secondary Transactions
Under the new rule, registered investment advisers must get an independent opinion on the fairness or value of transactions where they allow investors to sell or change their stakes in a private fund (known as secondary transactions). This is to ensure that these transactions are conducted fairly and transparently, protecting the interests of investors by verifying that the terms and conditions of the sales or conversions are reasonable and unbiased.
This requirement is significant for private fund entities because it adds an extra layer of regulatory scrutiny to their operations, particularly in scenarios involving the restructuring of investor interests. The prevalence of this requirement will depend on the frequency of adviser-led secondary transactions within these funds; however, given the size and complexity of modern private funds, it’s likely to impact a substantial number of firms. This added step will ensure that all parties are treated equitably and that the valuations used in these transactions are not only fair but also transparently assessed.
By mandating this independent assessment, the SEC aims to prevent conflicts of interest and promote investor confidence in the fairness of the transactions conducted by fund advisers. In scenarios where fund managers are seeking to reduce the administrative burden of this requirement. Within the daily data processing Everysk workflows, secondary transactions are categorized, tagged, and stored for easy retrieval and audit purposes of providing them to independent consultants for valuation.
SEC Rule Changes: The Final Word
While the SEC’s new rule changes assuredly enhance transparency, auditing, and fairness for private fund advisers, they bring a new level of complexity for fund managers. Firms that deploy automation to counteract the inherent administrative burden of these requirements stand to have a marked advantage over peers that opt to tackle these new requirements manually.
