Sep. 9, 2021

A Checklist for Fund Managers to Ensure Adequate Vendor Management

Fund managers may outsource certain tasks or operations to third parties, such as fund administrators, auditors, cybersecurity experts, pricing services and valuation agents. If they do not adequately supervise or manage those vendors, however, they may run into problems – and even face enforcement actions. Broker-dealers have a similar duty to properly supervise third-party vendors. FINRA recently released a regulatory notice (Notice) to remind member firms of their supervisory duties as to those vendors. That Notice reiterates the applicable regulatory obligations; summarizes recent trends in examination findings, observations and disciplinary actions; and provides questions member firms may consider when evaluating their systems, procedures and controls relating to vendor management. Although the Notice is geared toward broker-dealers, its guidance is generally applicable to fund managers’ oversight and management of their vendors. This article summarizes the Notice and provides a checklist created from the questions at the end of the Notice that all fund managers can use to assess the sufficiency of their vendor management procedures and controls. See our articles containing checklists to assist managers with the following rules, concerns or topics: Form ADV, Part 2Aprivacy concerns as managers return to work; the pay to play rule; the advertising ruleNew York’s anti‑sexual harassment training requirementsSEC exam interviewsannual compliance program reviewsemployee disciplinary policies and procedures; and FATCA.

SEC Enforcement Action Accuses Fund Auditor and Partners of Widespread Failures Valuing Level 3 Assets and Lack of Independence

Many private fund advisers rely on the so-called “audit exception” to the surprise annual examination requirement under Rule 206(4)‑2 under the Investment Advisers Act of 1940, commonly known as the “custody rule.” To qualify for the exception, a fund’s financial statements must be audited at least annually in accordance with generally accepted accounting principles by an independent auditor. In a recently filed enforcement proceeding, the SEC alleged that an audit firm and two of its partners engaged in improper professional conduct when auditing several of an investment adviser’s private funds by repeatedly failing to satisfy applicable auditing standards when auditing funds that held “Level 3” assets and failing to satisfy the independence requirement. This article discusses the SEC’s allegations, which illustrate the many challenges associated with valuation of illiquid assets, as well as the agency’s expectations of auditors. See “SEC Continues to Emphasize Strict Compliance With Custody Rule” (Oct. 1, 2020); and “Advisers Must Ensure Their Auditors Are Appropriately Competent and Capable” (Mar. 26, 2020).

Navigating Indemnification and Exculpation Provisions in Fund Documents (Part Two of Two)

The Standards Board for Alternative Investments (SBAI), an association of alternative investment managers, occasionally publishes so-called “toolbox” memos on topics of interest to the alternative investment industry. For example, in 2020, it published three memoranda pertaining to conflicts of interest, fund structuring and valuation in private credit strategies. See our two-part series on those memoranda: Part One (Aug. 6, 2020); and Part Two (Aug. 13, 2020). This two-part series explores the key issues raised in the SBAI’s latest toolbox memo on indemnification and exculpation provisions in private fund governing documents and associated market practice, with commentary from SBAI content/research director Maria Long; Christopher J. Dlutowski, partner at Morgan Lewis; James Oussedik, partner at Sidley Austin; and Nick Hoffman and James Smith, partner and counsel, respectively, at Harneys. This second article covers indemnification by investors; the interplay between indemnification and exculpation clauses and between indemnification provisions and insurance; the limited opportunity to negotiate indemnification provisions; and the role of side letters. The first article addressed key concerns with indemnification provisions and associated negotiating points; common indemnification terms and carve-outs; and jurisdictional differences in standards of care. For coverage of a case study by the SBAI, see “Avoiding Parallel Fund Conflicts: New SBAI Standards and Case Study Provide Guidance for Mitigating Conflicts (Part One of Two)” (Jun. 11, 2020).

Complications of Using Standard Form Provisions and Managing Administrative Burdens of Side Letters (Part One of Two)

The private funds industry is well past the point at which side letters have become ubiquitous. Fortunately, fund managers are now far more experienced and practiced at adopting techniques to mitigate some of the issues that can arise from juggling a surplus of potentially conflicting side letters – both at the front end of negotiating side letters and at the back end of managing the obligations contained therein over a fund’s life. The above issues were addressed by a panel at a recent Practising Law Institute (PLI) program, which was moderated by Skadden partner Anna Rips and featured Fola Adamolekun, executive director and assistant GC at J.P. Morgan Asset Management; Alison Horton, managing director and legal counsel at Davidson Kempner Capital Management; and Nicole Restivo, chief operating officer, GC and CCO at Key Square Capital Management. This first article in a two-part series discusses some complex issues from using form side letters for funds of funds (FOFs); difficulties for FOFs in simultaneous negotiations; and administrative challenges relating to side letters. The second article will highlight challenges of managing most favored nation provisions in side letters and current hot topics in negotiations, with particular emphasis on terms relating to environmental, social and governance investing. For coverage of a previous PLI program, see “SEC Chief Counsel Advises on Exemptive Applications and Requests for No‑Action Relief” (May 16, 2019).

Three Years In, GDPR Legal Landscape Remains in Flux

General Data Protection Regulation (GDPR) enforcement is increasing, and the law is changing, Latham & Watkins partner Gail Crawford said during a recent panel. She, along with her partners Myria Saarinen and Tim Wybitul, and Porsche chief privacy officer Christian Volkel, discussed the enforcement landscape; recent cases and fine proceedings; and how to prepare to defend GDPR fines and civil actions. This article distills their insights and analyzes – with input from Ropes & Gray partner Rohan Massey – a recent case in the European Court of Justice that has potentially altered the GDPR’s “one-stop-shop” mechanism. See “How Do You Put a System of Controls in Place When Your Target Keeps Moving?” (Jul. 22, 2021).

Akin Gump Continues Expansion of Investment Management Practice

In a continuation of the expansion of its investment management practice, Akin Gump has added John Hamilton to its New York office. Hamilton focuses his practice on advising private fund managers on the formation and operation of a wide range of investment vehicles across the liquidity spectrum, including hedge funds, private equity funds and credit funds, as well as funds of funds and managed accounts. He also represents institutional investors allocating to private funds, including in the negotiation of side letter arrangements. For another recent addition to the firm, see “Investment Funds Lawyer Brian Daly Joins Akin Gump in New York” (Jun. 10, 2021).