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    Nov. 21, 2013

Succession Planning Series: A Blueprint for Hedge Fund Founders Seeking to Pass Along the Firm to the Next Generation of Leaders (Part One of Two)

A generation of hedge fund founders is arriving at a crossroads.  By one estimate, around $600 billion of the industry’s assets are managed by firms whose founding principals will reach at least their sixties in the next decade.  As they begin to contemplate retirement or devoting time to other projects, founders are considering a fundamental question: Do I want the firm to continue after I leave the stage?  Some founders will choose to wind up the firm.  Others, however, will want to leave behind an institutionalized business.  One way to do that is to sell a significant stake in the firm to an outside investor.  Alternatively, the founder may decide to groom a successor generation of leadership and make operational adjustments designed to let the firm thrive as an independent organization after the founder’s departure.  This guest article is about the latter approach to institutionalization – preparing to bequeath a free-standing franchise to the manager’s remaining principals and employees.  More specifically, this article addresses the imperative of advance planning for leadership transitions; choosing new leaders; the treatment of the founder’s economic interest in the firm; retaining and motivating key talent; and a variety of issues concerning succession execution, including investor communications, consent issues and key-man provisions in partnership agreements.  The authors of this article are Scott C. Budlong, William Q. Orbe and Kenneth E. Werner, all partners Richards Kibbe & Orbe LLP.  In a subsequent companion article, Budlong, Orbe and Werner will explore the possibility of selling an interest in the manager to a third party, where, in a different context, the institutionalization process is also important.  For more on succession planning, see “Key Considerations for Hedge Fund Managers in Developing a Succession Plan (Part Two of Two),” Hedge Fund Law Report, Vol. 5, No. 8 (Feb. 23, 2012).

Investment Opt-Out Rights for Hedge Fund Investors: Regulatory Risks, Operational Challenges and Seven Best Practices (Part Three of Three)

This is the third and final article in our series on investment opt-out rights in the hedge fund context.  This article continues the discussion of risks associated with opt-out rights, focusing on regulatory and other risks, and concludes with a discussion of seven best practices for minimizing the risks associated with such rights.  The first article in the series explored eight reasons why investors may demand and managers may grant opt-out rights.  See “Investment Opt-Out Rights for Hedge Fund Investors: Rationales, Mechanics, Regulatory Risks and Operational Challenges (Part One of Three),” Hedge Fund Law Report, Vol. 6, No. 43 (Nov. 8, 2013).  And the second installment addressed the structure and exercise of opt-out rights, as well as regulatory risks associated with offering such rights.  See “Investment Opt-Out Rights for Hedge Fund Investors: Rationales, Mechanics, Regulatory Risks and Operational Challenges (Part Two of Three),” Hedge Fund Law Report, Vol. 6, No. 44 (Nov. 14, 2013).

Akin Gump Partners Discuss Non-U.S. Enforcement, Insider Trading in Futures, Failure to Supervise Charges and Other Evolving Insider Trading Challenges for Hedge Fund Managers

Akin Gump Strauss Hauer & Feld LLP recently hosted its “Private Investment Funds Conference: 2013 Trends and Developments” in New York City.  During a panel discussion entitled “Beyond the Headlines: Current Issues in Insider Trading Enforcement,” Akin Gump partners discussed new enforcement and prosecution tactics; the risks of gathering research through sell-side analysts, buy-side firms, expert networks, political intelligence firms, channel checking firms and meetings with current and former employees of companies; insider trading beyond U.S. borders; CFTC regulation of insider trading; whistleblowers; and five strategies for effectively mitigating insider trading risks.  The discussion was moderated by former federal prosecutor James Joseph Benjamin Jr., an Akin Gump partner and head of the firm’s securities enforcement and litigation practice group.  The other panelists were Akin Gump partners Michael A. Asaro, a former SEC staff attorney and Assistant U.S. Attorney, who practices in the areas of government investigations and enforcement proceedings; Douglas A. Rappaport, who handles civil litigation and regulatory and compliance matters; and Steven F. Reich, a white collar defense litigator with experience that includes serving as an Associate Deputy U.S. Attorney General and in the White House counsel’s office.  This article summarizes the key takeaways from the panel discussion.  See also “Perils Across the Pond: Understanding the Differences Between U.S. and U.K. Insider Trading Regulation,” Hedge Fund Law Report, Vol. 5, No. 42 (Nov. 9, 2012); and “How Can Hedge Fund Managers Understand and Navigate the Perils of Insider Trading Regulation and Enforcement in Hong Kong and the People’s Republic of China,” Hedge Fund Law Report, Vol. 6, No. 13 (Mar. 28, 2013).

Citi Prime Finance Report Distills the Four Pillars of “People Alpha” at Hedge Fund Managers

Most hedge fund managers believe that people are their primary resource and that absolute, uncorrelated returns are a function of top talent.  Citi Prime Finance has coined a new and pithy term for this view – “people alpha” – and, in a recent report, outlined the building blocks of a robust human capital infrastructure at hedge fund managers.  Specifically, Citi’s report distilled best practices among hedge fund managers (based on interviews) in four critical human resources areas: talent acquisition, talent retention, employee learning and development and performance measurement and management.  This article summarizes key insights from the Citi report.  See also “How Can Hedge Fund Managers Use Profits Interests, Capital Interests, Options and Phantom Income to Incentivize Top Portfolio Management and Other Talent?,” Hedge Fund Law Report, Vol. 6, No. 33 (Aug. 22, 2013).

ALM’s 7th Annual Hedge Fund General Counsel Summit Addresses Strategies for Handling Government Investigations, Challenges for CCOs, Distressed Debt Investing, OTC Derivatives Reforms, Insider Trading Best Practices, JOBS Act, AIFMD and Activist Investing (Part One of Three)

On September 30 and October 1, 2013, ALM Events hosted its 7th Annual Hedge Fund General Counsel Summit during which law firm and in-house practitioners shared insights on legal, operational and other challenges faced by hedge fund managers.  This first installment in a three-part series covering the summit highlights the salient points from panel discussions addressing strategies for handling government investigations and issues faced by chief compliance officers, including dual-hatting and supervisory liability.  See “Benefits, Challenges and Recommendations for Persons Simultaneously Serving as General Counsel and Chief Compliance Officer of a Hedge Fund Manager,” Hedge Fund Law Report, Vol. 5, No. 19 (May 10, 2012).  The second article in the series will address opportunities and challenges associated with distressed debt investing (including participation in Chapter 11 proceedings, claims trading and risks of distressed debt investing); the impact of over-the-counter derivatives reforms on fund managers (including new mandatory clearing, execution and reporting requirements as well as CFTC cross border rules); and best practices for addressing insider trading risks.  The third article will provide regulatory updates on the JOBS Act, the Alternative Investment Fund Managers Directive and new Canadian and U.S. initiatives that will impact activist investing strategies.

Do Hedge Fund Investors Have Standing to Bring Direct, As Opposed to Derivative, Claims against the Auditor of a Hedge Fund Whose Manager Overvalued Portfolios Securities?

On November 8, 2013, reversing an earlier decision of the U.S. District Court for the Southern District of New York (SDNY), the U.S. Court of Appeals for the Second Circuit (Second Circuit) allowed investors to proceed in their federal securities fraud lawsuit against accounting firm PricewaterhouseCoopers LLP (PwC) and its former client, Lipper Convertibles, L.P. (Lipper or the fund), a now defunct hedge fund.  The investor-plaintiffs alleged that PwC overlooked red flags when it audited the fund from 1996 to 2000, resulting in auditor opinion letters that fraudulently induced the plaintiffs to invest in Lipper at inflated prices set forth in financial statements and reports reviewed by PwC.  The SDNY previously dismissed the suit, holding that the investors lacked standing to sue because their claims were derivative, rather than direct, meaning that they had not shown injuries separate from harm to the fund.  See “U.S. District Court Holds That Hedge Fund Investors Do Not Have Standing to Bring a Direct, As Opposed to Derivative, Claim against Hedge Fund Auditor PricewaterhouseCoopers LLP,” Hedge Fund Law Report, Vol. 3, No. 47 (Dec. 3, 2010).  The Second Circuit reversed, arguing that there were triable issues of fact critical to the determination of whether the investors suffered harm separate from that suffered by other Lipper investors.  This article summarizes the factual and procedural background of the case as well as the Second Circuit’s reasoning in allowing the plaintiffs to proceed to trial.  See also, “When Can Hedge Fund Investors Bring Suit Against a Service Provider for Services Performed on Behalf of the Fund?,” Hedge Fund Law Report, Vol. 6, No. 18 (May 2, 2013); and “Massachusetts Appeals Court Holds That Hedge Fund Investors Can Sue Hedge Fund Auditor Based on Payment of Taxes on Fraudulent ‘Phantom Income,’” Hedge Fund Law Report, Vol. 6, No. 34 (Aug. 29, 2013).

Pamela Robertson Joins Patton Boggs in New York

On November 21, 2013, Patton Boggs LLP announced that Pamela Robertson has joined the firm as a partner in its New York office.  She has experience representing public pension funds and other institutional investors with respect to investments in private equity, venture capital, hedge and other alternative investments.  See “Why and How Do Corporate and Government Pension Plans, Endowments and Foundations Invest in Hedge Funds?,” Hedge Fund Law Report, Vol. 6, No. 14 (Apr. 4, 2013).

The Hedge Fund Law Report Will Not Publish an Issue Next Week and Will Resume Its Regular Publication Schedule the Following Week

Please note that the Hedge Fund Law Report will not publish an issue next week, the week starting November 25, 2013 (and including the Thanksgiving holiday), and will resume its regular publication schedule the following week, the week starting December 2, 2013.

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