Hedge Funds Formation, Regulation and Compliance
As a leading law firm servicing a variety of investment management players, Parker MacIntyre boasts an exceptionally strong presence in the private investment fund or “hedge fund” space; we have particularly strong experience with entrepreneurial or “emerging” fund management professionals. Our attorneys possess extensive experience advising private fund managers on all aspects of fund structuring, formation and operation.
Private investment funds are professionally managed pooled investment vehicles that are primarily offered to a select group of qualified high-net-worth individual investors or institutional investors. There exist a multitude of different types of private funds, each with a distinct investment focus/strategy, usually in connection with a particular asset class (such as equities, debt, real estate, commodities or derivatives). Private investment funds fall into four main categories. The “hedge fund” is the generic name given to a variety of trading strategies or investment programs. More specific fund categories are private equity funds, real estate funds, and commodity/futures funds. Private investment funds are, in fact, subject to multiple laws and regulations, despite being incorrectly characterized by some as “unregulated.” The laws that apply to these funds must be rigorously followed in order to comply with applicable regulatory regimes or to conduct business in such a way that the effect of those regimes will be minimized.
Legal and Regulatory Analysis Sets Parker MacIntyre Apart
Parker MacIntyre attorneys are both comfortable working with fund managers of all stripes, and highly capable of navigating these managers through the regulatory minefields that await them along the way. Indeed, consideration of no less than four major bodies of law will typically be necessary in order to launch your private fund in a fully-compliant fashion.
Of first importance is ensuring that shares or interests in a fund are sold to investors in accordance with the federal Securities Act of 1933 and state “Blue Sky” securities laws which require that all offerings of securities be registered prior to any offer/sale. This is typically accomplished by structuring the fund as an exempt private placement under Rule 506 of Regulation D—the same private offering exemption that most growth-stage companies use to sell shares of their companies to accredited investors. Also of high urgency is satisfying available exemptions to the federal Investment Company Act of 1940, which, if applicable, would harshly apply a level of regulation akin to that of mutual funds on your private fund. We generally avoid application of that act by designing a fund in such a way that it is restricted to certain classes of investors, or by crafting the fund in such a way that certain investments are forbidden.
Additionally, we will carefully consider the federal Investment Advisers Act of 1940 and state investment advisory analogs which require fund managers to potentially register as investment advisers and subject themselves to compliance examinations. Whether a fund manager will need to register as an investment adviser is a complex question and turns on the fund’s total assets under management as well as what states the fund manager’s business offices are located in. Additionally, Parker MacIntyre can assist funds that are exempt from registration requirements in assessing their duties to nevertheless report certain basic information regarding their operations to various regulatory bodies. With its extensive knowledge base in investment adviser regulation and compliance, Parker MacIntyre is the perfect partner to assess these considerations, in turn securing for you any available exemptions or, in the alternative, properly registering your firm with the necessary regulators.
Finally, we will also assist you in ensuring that the marketing and selling of your fund is done in a fully compliant manner. For example, the federal Securities Exchange Act of 1934 generally requires that persons selling securities and receiving transaction-based compensation must first be registered as a broker-dealer. Fund managers, however, often seek to engage third-party marketers to assist with capital raising, paying such persons commissions for bringing on investors. This practice is fraught with danger though, as, with rare exceptions, all such “finders” or “solicitors” must be duly licensed broker-dealers. We will help you to assess the qualifications of any potential third-party marketers so that any such sales be done legally, and thus not set traps for you down the road.
Fund Set-up Services
Once the regulatory structuring of a private fund is complete, the drafting process is usually fairly straightforward, but it does require background work and time commitment by the client under our guidance. Parker MacIntyre attorneys will work closely with you to customize the various salient features of your fund. We generally do this by walking through a detailed survey or questionnaire with you, which elicits relevant data points from you as to how your fund will differ in the details. Here you will be able to express your desire for specific compensation structures, investor protection features (such as a “high-water mark” or preferred return), as well as articulate common features such as liquidity and periodic reporting to investors.
While the majority of entrepreneurial private investment funds are formed domestically as Delaware Limited Partnerships (whereby the fund manager acts as General Partner and the passive fund investors come in as Limited Partners), we will be happy to discuss with you other alternatives such as offshore fund formation in jurisdictions such as the British Virgin Islands and Cayman Islands for example. Generally speaking however, such offshore options are desirable in situations where the fund is designed to receive, or is expected to receive, significant investments from foreign investors or US tax-exempt entities.
Our deliverable to you will typically consist of a number of important legal documents (called “offering documents”), which you will, in turn, provide to the fund investors. This suite of documents comprises: (i) a Private Placement Memorandum (“PPM”) that is the master disclosure document for prospective investors in the fund, describing all the material risk factors and terms of the offering; (ii) an agreement such as a Limited Partnership Agreement which is a contract between the General Partner or fund manager on the one hand and the investor/limited partners on the other, and which governs their relationship; and (iii) a Subscription Agreement, which governs the actual sale or subscription by the limited partner to the partnership interests. This Subscription Agreement is usually accompanied by an Investor Questionnaire that helps the general partner assesses the qualifications of the prospective investor to invest in the fund.
Parker MacIntyre attorney Tom Zagorsky has created a helpful whitepaper entitled Forming a Hedge Fund or other Private Investment Fund: A Top 10 List for the Entrepreneurial Fund Manager. We intended this whitepaper to be a road map for prospective fund managers to use to anticipate and address the top 10 areas of concern in connection with a fund launch.