February 25, 2021

Volume XI, Number 56

Advertisement

February 25, 2021

Subscribe to Latest Legal News and Analysis

February 24, 2021

Subscribe to Latest Legal News and Analysis

February 23, 2021

Subscribe to Latest Legal News and Analysis

SEC Charges Investment Adviser for Failure to Disclose Acceleration of Monitoring Fees and Discounts on Legal Fees

On October 7, 2015, the Securities and Exchange Commission (the “SEC”) announced that three private equity fund advisers with The Blackstone Group (“Blackstone”) have agreed to pay approximately $39 million to settle charges that the advisers failed to fully inform investors about the benefits those advisers obtained from (i) accelerated monitoring fees and (ii) discounts on legal fees, and thereby breached their fiduciary duty.

Accelerated Monitoring Fees

The SEC stated that Blackstone failed to adequately disclose the acceleration of the monitoring fees paid by the portfolio companies prior to the companies’ sale or initial public offering (“IPO”).  Blackstone’s portfolio companies typically paid Blackstone for certain monitoring services pursuant to monitoring agreements that were typically for ten-year periods.  Before the private sale or initial public offering of certain portfolio companies, Blackstone terminated such monitoring agreements and accelerated the payment of future monitoring fees, including in some instances when monitoring services would no longer be provided.  The SEC stated that the accelerated monitoring fees paid to Blackstone had the effect of reducing the value of the portfolio companies prior to the sale or IPO to the detriment of the investors.  The SEC noted that although Blackstone disclosed its ability to collect monitoring fees prior to investors’ commitment of capital, Blackstone failed to disclose its practice of accelerating monitoring fees until after it took the fees.

Discounts on Legal Fees

The SEC also stated that in 2007, Blackstone negotiated a single legal services arrangement with its primary outside law firm on behalf of itself and its funds. For the majority of legal services performed by Blackstone’s primary outside law firm in 2008 and continuing through early 2011, Blackstone received a discount that was substantially greater than the discount received by the funds, and that Blackstone failed to disclose such disparate discounts or pass those savings on to the investors.  Because of the conflict of interest with respect to the disparate legal fee discount, the SEC charged that Blackstone violated the Investment Advisers Act in failing to, among other things, adopt and implement written policies and procedures reasonably designed to prevent violations of the Advisers Act arising from the undisclosed receipt of fees and conflicts of interest.

CCO Takeaways

– SEC scrutiny regarding Blackstone is evidence that the SEC is still targeting private equity fund practices, particularly with respect to expenses. Please see the SEC release regarding KKR’s charges that it misallocated broken deal expenses to its funds. Other private fund advisers should expect scrutiny on similar arrangements at the time of examinations.

– Registered investment advisers need to disclose all potential conflicts of interest in detail prior to the investors’ decision to invest. Merely informing an advisory committee after the occurrence of conflicts does not cleanse failures to disclose prior to investors’ decisions to commit to a fund.

– Registered investment advisers should be proactive on the handling of fees and expenses, among other conflict practices, and design adequate policies and procedures to mitigate and remediate conflicts.

Advertisement
Copyright © 2020, Sheppard Mullin Richter & Hampton LLP.National Law Review, Volume V, Number 286
Advertisement

TRENDING LEGAL ANALYSIS

Advertisement
Advertisement

About this Author

Thomas M. Devaney, Corporate Attorney, Sheppard Mullin Law firm
Partner

Mr. Thomas Devaney is a partner in the Corporate Practice Group in the firm's New York office.

212-634-3042
Jung Son, corporate, investment, finance, attorney, Sheppard Mullin, law firm
Partner

Jung Yeon Son is a partner in the Corporate Practice Group in the firm's Palo Alto office. Ms. Son’s practice is focused on the formation and operation of private investment funds, including private equity, venture capital and hedge funds, as well as on advising companies and sponsors with respect to mergers & acquisitions, securities offerings, corporate governance, SEC reporting, and general corporate matters. 

650-815-2676
Associate

Angela Kim is an associate in the Corporate Practice Group in the firm's Los Angeles office. Prior to joining the firm, Ms. Kim was a legal counsel at CJ E&M Corporation, the largest entertainment and media conglomerate in Korea.

Ms. Kim focuses her practice on mergers and acquisitions, private equity, venture capital and general corporate law matters. 

213.617.5453
Advertisement
Advertisement