Sep. 23, 2021

Compliance Training: SEC Expectations and Substantive Traps to Avoid (Part One of Two)

Under Rule 206(4)‑7 of the Investment Advisers Act of 1940 – the so-called “compliance rule” – private fund managers are required to adopt policies and procedures reasonably designed to ensure compliance with the Advisers Act. That is, managers must have compliance programs. Interestingly, neither the compliance rule nor its adopting release states that managers must provide training on their compliance programs. Without proper training, however, employees will not know what the manager’s policies and procedures are or how to comply with them. Moreover, the SEC clearly expects managers to provide compliance training. This first article in a two-part series explains the SEC’s expectations as to compliance training and provides three traps to avoid in terms of the substance of a fund manager’s training. The second article will discuss who conducts the compliance training and identify five traps to avoid when providing training. See “High- and Low-Tech Innovations for Fund Managers to Overcome Compliance Training’s Drawbacks” (Feb. 1, 2018); and “Early and Often: Compliance Training Pays Big Dividends for Private Fund Advisers” (Jul. 8, 2009).

“Shadow Trading” Theory of Insider Trading and the Implications for Private Fund Managers

The SEC recently filed a potentially groundbreaking insider trading case against a former biopharmaceutical company employee based on a novel fact pattern involving what is being called “shadow trading.” Notably, the defendant, who allegedly traded in advance of an announced acquisition of his company, did not trade securities of a company to which he owed a duty of trust or confidence or a company involved in the transaction. Instead, he traded securities of a third party that was a peer company to the acquisition target, allegedly anticipating, based on inside information he received from his employer that was material to the value of the peer company’s stock price, that the peer company’s share price would materially increase after the acquisition announcement, which it did. That is a novel application of the long-established, so-called “misappropriation theory” of insider trading and serves as a reminder to private fund managers that may come into possession of nonpublic information to assess whether that information is material to the value of the shares of other companies whose securities they trade, such as peer companies or supply-chain partners (sometimes referred to as “economically linked companies”). In a guest article, Sidley partners Ranah Esmaili, Stephen L. Cohen and Barry Rashkover suggest steps for fund managers to consider in the wake of this recent case, including reviewing policies and procedures and conducting updated employee training to address risks associated with trading securities of economically linked companies. For additional commentary from Esmaili, see our two-part series on the New York City Bar Association’s Framework for CCO Liability: “Components and Proposals” (Jul. 15, 2021); and “CCO and Regulator Perspectives” (Jul. 22, 2021).

FINRA Report Outlines Growing Adoption of Cloud Computing by Securities Industry and Associated Regulatory Concerns

The market for cloud computing is expected to grow from $182 billion in 2018 to well over $300 billion in 2021, according to a recent FINRA report. In light of that dramatic growth, earlier this year, FINRA discussed the opportunities and challenges of cloud computing with nearly 40 broker-dealers, cloud service providers and other securities industry businesses. FINRA’s discussion paper (Report) discusses common cloud computing models, the ways that the financial services industry has been adopting cloud computing and the regulatory concerns associated with the move to the cloud. This article examines the findings and regulatory concerns discussed in the Report, with commentary from Valerie Dahiya, partner at Perkins Coie and former SEC official and broker-dealer examiner. See our two-part coverage of a 2019 FINRA RegTech conference: “AI and Big Data; Blockchain; and Regulators’ Views” (Mar. 21, 2019); and “Current Uses of RegTech and Considerations Before Deployment” (Mar. 28, 2019).

SEC Regional Heads Discuss SEC Structure and Priorities

A recent Troutman Pepper program offered valuable insights from the heads of the SEC’s Atlanta and New York regional offices. Charles E. Peeler, partner at Troutman Pepper, moderated the discussion, which featured Richard R. Best, Director of the SEC’s New York regional office, and Nekia Hackworth Jones, Director of the SEC’s Atlanta regional office. This article highlights the key takeaways from the presentation, including an overview of the structure of the agency and the New York and Atlanta branch offices; the SEC’s continuing focus on climate change and environmental, social and governance investing, retail investors, financial technology and digital assets; its extensive use of data analytics in both examinations and enforcement; and practical guidance for interacting with the SEC. See “Troutman Pepper Attorneys Examine SEC Enforcement Trends” (Mar. 11, 2021).

Negotiating Reps, Warranties and Remedies in Technology Contracts

Representations and warranties in technology agreements can be used to ensure that a fund manager is getting the benefit of its bargain; the vendor is employing appropriate cybersecurity and privacy measures; and the fund manager has recourse when the vendor does not live up to its promises. This article distills the key takeaways from a program presented by Strafford CLE Webinars featuring Steve Gold, member of GoldTechLaw LLC, and Michael R. Overly, partner at Foley & Lardner. The speakers analyzed the representations and warranties; indemnification provisions; and limitations on remedies and damages commonly included in tech agreements, and they discussed how vendors and customers negotiate and fine-tune those provisions. See “A Checklist for Fund Managers to Ensure Adequate Vendor Management” (Sep. 9, 2021).