Mar. 3, 2008

New York Supreme Court Orders Separate Trial on Existence of Attorney-Client Relationship between Former Hedge Fund Principal and Outside Lawyer and Firm

Helie, former principal of hedge fund adviser Gramercy, sued Gramercy’s outside law firm alleging malpractice resulting in Helie’s receipt of less than the market value of his interest in Gramercy upon termination.
Defendant law firm subpoenaed documents containing financial information from Gramercy.
Question was whether enforcement of the subpoena would result in improper revelation of client confidences or secrets.
Court held that client financial information sought by subpoena constitutes client confidences or secrets.
Court noted that “right to part of the curtain of confidentiality must be sparingly applied.”
Instead of deciding whether to enforce subpoena, court ordered separate trial on whether an attorney-client relationship existed between Helie and outside firm, which was a necessary element of Helie’s malpractice claim.

Market discipline imposed by investors, creditors and counterparties is the most effective mechanism for limiting systemic risk, though regulation – in particular, internationally coordinated regulation – retains an important role in risk management.
Counterparty credit risk is main source of systemic risk.
Prime brokers and institutional investors impose market discipline through more extensive due diligence and ongoing monitoring.
OCC and prime brokers said losses from hedge fund clients were rare.
However, three factors limit effectiveness of market discipline: use of multiple prime brokers by large firms; prime brokers’ risk controls may not keep pace with financial innovation at hedge fund clients; in competition for hedge fund business, creditors and counterparties may relax credit standards.
Regulators retain an important role in containing systemic risk. In that regard, President’s Working Group on Financial Market has recently: issue guidance (2/07), organized manager and investor private sector committees (9/07) and formalized protocols (fall 2006).
SEC conducted examinations of 321 hedge fund advisers in fiscal 2006, and discovered deficiencies in information disclosure, personal trading, performance advertising, brokerage arrangements, etc.
SEC has identified various hedge fund risk-related areas for further regulatory attention.

Case dealt with the substance of the fiduciary duty owed by a general partner to the partnership and its limited partners.
Founders (a limited partnership) owned Forest (a hedge fund adviser) and Forum (a broker-dealer). A corporation controlled by defendant Boyd was the GP of founders. Plaintiff Hartley led Forum’s corporate finance department.
Founders sold Forum to First Union Bank and Forest to a group controlled by Boyd. There were no other bidders for either entity, and both entities were sold for multiples of book value.
Plaintiff Hartley participated in every partnership meeting at which the sales were discussed, and Founders was advised by an investment bank, law firm and accounting firm.
Boyd owed a fiduciary duty to Founders and its LPs, including Hartley. As such, he had to prove by clear and convincing evidence that he dealt “fairly” with his LPs in the sale.
Elements of fairness in this context were: (1) free and frank disclosure, (2) adequate consideration, (3) competent and independent advice and (4) relative sophistication of parties.
Court found that Boyd satisfied his fiduciary duty.

SEC issued final rule release amending the information required to be included in Form D and the filing procedure for the form.
Phase-in period from 2/15/08 to 3/14/09 during which filers can file on paper or electronically; electronic filing only starting 3/15/09.
Categories of information required to be included in revised Form D include: description of issuer’s business from a list of industry classifications rather than in a narrative; date of first sale; Securities Act and Investment Company Act exemptions or exclusions claimed; minimum investment; broker-dealer CRD number for anyone receiving sales compensation; free writing option; no identification of 10% owners required; current required disclosure regarding application of proceeds replaced with disclosure of amounts paid for sales commissions and amount of gross proceeds paid to executives of issuer.
Required amendments to correct material mistake of fact, to reflect changes in information provided and annually for continuous offerings.

FinCEN director spoke on the importance of private sector feedback in focusing FinCEN’s AML efforts on the highest risk areas. He addressed the following four areas:
How FinCEN works to provide feedback to financial industry participants on the value of Bank Secrecy Act (BSA) data (provided in Suspicious Activity Reports (SARs) and Currency Transaction Reports) to law enforcement investigative efforts.
How FinCEN analyzes data to identify emerging trends.
How FinCEN formulates guidance for the financial community.
How FinCEN pursues other outreach avenues.