While a number of states and municipalities have laws addressing “pay to play,”1 California and New York City are now requiring that certain internal and external marketers, who solicit the advisory business of puplans, register as lobbyists and comply with the reporting requirements and other provisions of their lobbying laws, including a prohibition on the receipt of contingent compensation.
New York City’s Lobbying Law2 requires placement agents (including registered broker-dealers), other third parties and, according to a recent advisory opinion from the New York City corporation counsel, even investment advisory firms, who attempt to influence the investment decisions made by New York City pension plans3 (collectively, “NYC plans”), to register as lobbyists if their marketing compensation attributable to solicitation of such plans exceeds $2,000 per year and to comply with certain prohibitions and reporting requirements. The amendments to California’s Lobbyist Law impose similar registration and reporting requirements, as well as prohibitions, upon certain individuals (both internal and external to the adviser) who market advisory services or investments to public pension plans that are part of the state retirement system in California, such as the California Public Employees’ Retirement System (“CalPERS”) and the California State Teachers’ Retirement System (“CalSTERS”). However, unlike the New York City law,4 the California law contains two exemptions — one for internal advisory firm personnel who spend at least one-third of their time on portfolio management and one for internal personnel of registered advisers where the adviser will be selected through a competitive bidding process and has agreed to a fiduciary standard of care.5
Notably, both the New York City and the California lobbying laws prohibit the payment of compensation that is contingent upon successful solicitation of public plan business even to those who are registered as “lobbyists.” Thus, it appears that advisers can no longer compensate placement agents for the solicitation of California plans or NYC plans to invest in their funds. In addition, while less problematic, advisers cannot compensate their internal personnel based on the success of their marketing to California plans or NYC plans.
Key Aspects of New York City Lobbying Law
The New York City Lobbying Law has the following key components: (a) third-party marketers (including SEC-registered broker-dealers) earning or expecting to earn over $2,000 in annual compensation cumulatively from soliciting business from NYC plans must file a registration statement and periodic reports for each advisory firm that retains them; (b) advisory firms that pay more than $2,000 cumulatively to their own personnel for soliciting business from NYC plans must file a registration statement and periodic reports, listing themselves as the client; (c) advisory firms that pay more than $2,000 annually to third-party marketers to solicit NYC plans must file periodic client reports; and (d) third-party marketers and self-marketing advisory firms are prohibited from paying compensation that is contingent on the successful solicitation of NYC plan business.
Types of Individuals and Entities Subject to the Lobbying Law
The definition of “lobbyist” under the New York City Lobbyist Law includes “every person or organization retained, employed or designated by any client6 to engage in lobbying.” “Lobbying” includes, among other things, any attempt to influence (a) “any determination made by an elected city official or an officer or employee of the city with respect to the procurement of goods, services or construction, including the preparation of contract specifications, or the solicitation, award or administration of a contract, or with respect to the solicitation, award or administration of a grant, loan or agreement involving the disbursement of public monies,” or (b) “any determination of a board or commission.”7
In an advisory opinion issued by the New York corporation counsel on March 31, 2010, resulting in part from the recent increase in federal and state regulation of placement agents assisting investment firms seeking to connect with public pension plan clients and investors, the corporation counsel concluded that placement agents, other third parties retained by investment advisory firms and investment advisory firms that use their own personnel to attempt to influence the New York City comptroller, the comptroller’s staff, the boards of trustees of the NYC plans or members of their staff with respect to the investment of NYC plan assets are lobbyists under the Lobbying Law.8 In a form letter sent on December 29, 2010, to a number of fund managers, the counsel to the city clerk, who has responsibility for enforcing the New York City Lobbying Law, stated: “Beginning in January 2011, this office will be reviewing the activities of individuals, businesses, and organizations that, as of January 1, 2011, are attempting to influence investment decisions made by the pension funds and retirement systems of New York City. Parties that fail to comply with the Lobbying Law will be subject to … penalties. …”9
Registration and Reporting Requirements
The registration requirements apply to both third-party marketers (including registered broker-dealers) that reasonably anticipate earning $2,00010 in the next year for lobbying activity involving NYC plans and investment advisers that reasonably anticipate paying compensation to their own personnel at least $2,000 of which is attributable (on a cumulative basis) to their personnel’s activities involving solicitation of NYC plans. Registered lobbyists are also required to file bimonthly periodic reports relating to their solicitation activities involving NYC plans.
In an informal conversation with one of the undersigned lawyers, the deputy counsel to the city clerk stated that, for purposes of determining whether a self-marketing adviser has exceeded the $2,000 threshold, the adviser should look at the total compensation of each internal person involved in soliciting NYC plans (including portfolio managers and senior principals) and multiply it by the percentage of that person’s time devoted to solicitation of NYC plans and add the resultant per person amounts together for purposes of determining whether the $2,000 threshold has been met. Under this approach, it does not appear feasible for any self-marketing adviser to stay under the $2,000 threshold; therefore, advisers who market to NYC plans generally are required to register.
Clients (such as fund managers and other investment advisers) that cumulatively spend more than $2,000 annually on hiring third parties to engage in lobbying activities involving NYC plans are, among other things, required to file a Client Annual Report setting forth their arrangements with third parties for the solicitation of NYC plans. Self-marketing advisers would list themselves as clients on their registration report and on their bimonthly periodic reports.
Prohibition on Contingent Compensation
Clients are prohibited from paying, and lobbyists are prohibited from accepting, any compensation that is contingent in whole or in part upon the success of the lobbyist’s solicitation of NYC plan business.11 This prohibition extends to self-marketing advisers and prohibits conditioning their personnel’s compensation upon the success of their marketing to NYC plans.
Record Keeping Requirements
Lobbyists and clients must keep, for at least five years, a detailed and exact account of the following records relating to NYC plans:
- All compensation of any amount or value of any kind
- Names and addresses of every person paying or promising to pay compensation of $50 or more and the date of that promise All expenditures made by or on behalf of the client
- Names and addresses of every person to whom any item of expenditure over $50 is made and a receipt for each expenditure
Knowing and willful violations of the Lobbying Law provisions may result in conviction of a Class A Misdemeanor and a civil penalty not to exceed $30,000, an order to cease all lobbying activities for up to 60 days, or both a civil penalty and an order to cease. Any person that violates the prohibition on contingent compensation may be found guilty of a Class A Misdemeanor and be charged a civil penalty not to exceed $30,000. Failure to file a required report or the late filing of a required report may result in a Class A Misdemeanor and a civil penalty not to exceed $20,000.
Key Aspects of California Lobbying Law Provisions
In the wake of the California attorney general’s “pay to play” prosecutions of individuals involved in soliciting investments from CalPERS, California enacted significant new “pay to play” restrictions and a broader “lobbyist” registration requirement, both of which are potentially applicable to both external placement agents and internal marketing personnel of investment advisers. AB 174312 amends the California Government Code in the following key respects: (a) under the new, broader, definition of “lobbyist” (set forth below), certain individuals and entities who market advisory services or investments to public pension plans that are part of the state retirement system in California are required to register as lobbyists with the California secretary of state and to pay a registration fee of up to $25 per year; (b) such lobbyists are required to file quarterly disclosure reports setting forth campaign contributions, gifts and any payments of $100 or more to certain state candidates or elected officials; (c) such lobbyists are prohibited from making any gifts to certain public officials, including board members of CalPERS and CalSTERS, in an aggregate amount of more than $10 in any calendar month; (d) such lobbyists are prohibited from making any campaign contributions to elected state officials or candidates for elected office if they are registered to “lobby” the governmental agency with which they are affiliated; and (e) such individuals are prohibited from accepting “contingent compensation” (described below).
Individuals who solicit local public pension plans are required, under the new provisions, to comply with any applicable local lobbying laws that require registration and/or impose restrictions upon campaign contributions, gifts and other payments to local officials and candidates for local office.
Types of Individuals and Entities Who Are Subject to the New Provisions
AB 1743 amends the definition of “lobbyist” and “lobbying firm”13 in the Public Reform Act so that it now includes an individual or entity functioning as a “placement agent”, i.e., any person “hired, engaged, or retained by, or serving for the benefit of or on behalf of, an external manager,14 or on behalf of another placement agent, who acts or has acted for compensation as a finder, solicitor, marketer, consultant, broker, or other intermediary in connection with the offer or sale of the securities, assets, or services of an external manager to a state public retirement system in California or an investment vehicle, either directly or indirectly.”15 Under this definition, external placement agents such as broker-dealers and their associated persons, as well as internal employees of an investment adviser who solicits state retirement funds on behalf of the investment adviser, would be classified as lobbyists.
The above definition extends to persons who solicit separate account investments, as well as private equity and other alternative investments. In addition, those who solicit business from “investment vehicles” in which a state public pension plan is the “majority investor” also will be covered — even if the investment vehicle is managed by an external adviser and has other non-public pension plan investors.16
Exceptions from Definition of “Placement Agent”
The first exception is for employees, officers, directors and members of an investment adviser that spend one-third or more of their time managing the assets of the investment adviser (the “One-Third Exception”).17 The scope of this exception is subject to further interpretation. For instance, it is uncertain whether it is broad enough to cover non-marketing personnel such as an adviser’s general counsel, chief operations officer or chief financial officer, or individuals who contribute to the portfolio management function, such as analysts. The second exception is for employees, officers, or directors of an investment adviser, or of an affiliate of the investment adviser, if the investment adviser (a) is registered with the SEC as an investment adviser or broker-dealer,18 (b) has been selected through a competitive bidding process, and (c) has agreed to a fiduciary standard of care19 (the “Competitive Exception”). We understand that the “competitive bidding process” element of this exceptionarrowly construed to apply only where a formal Request for Proposals (“RFP”) has been issued by the public plan. It is important to note that there is no exception for external marketing agents, such as broker-dealers and their associated persons functioning as placement agents.
New Restrictions and Requirements
Individuals and entities who are subject to the Reform Act are prohibited from accepting or agreeing to accept any “contingent compensation,” which is defined as “any payment in any way contingent upon the defeat, enactment, or outcome of any proposed legislative or administrative action” — presumably including the award of a contract to invest state public pension plan assets. In addition, under the Reform Act, such individuals and entities are, among other things:
- Required to register annually with the secretary of state
- Required to attend ethics training
- Required to file quarterly disclosure reports listing all gifts and lobbyist-related payments, and campaign contributions of $100 or more, to state officials or candidates for state office
- Prohibited from giving gifts in excess of $10 per month to certain public officials
- Prohibited from making campaign contributions to elected state officials or candidates for elected state office if registered to lobby the related governmental agency
Solicitation of Local Public Pension Plans
Individuals soliciting business from local (e.g., municipal) public pension plans are required to comply with any applicable requirements imposed by the plan’s local government, which may require lobbyist registration and the filing of reports, among other things, and may prohibit contingent compensation.20 The One-Third Exception is also available for investment advisers seeking local public pension plan business; however, the Competitive Exception is not.21
Violations of the above-mentioned provisions can result in civil penalties, and a knowing or willful violation can result in conviction of a misdemeanor punishable by a fine up to $10,000 or three times the amount the lobbyist failed to report properly or unlawfully contributed or paid, whichever is greater. A lobbyist convicted of a misdemeanor is prohibited from acting as lobbyist for four years following the date of conviction, unless otherwise determined by the court.
Reporting by California State Pension Plans
Effective August 1, 2012, CalPERS and CalSTERS will be required to provide to the respective chairpersons of the Assembly Committee on Public Employees, Retirement, and Social Security and the Senate Committee on Public Employment and Retirement reports on the use of placement agents in connection with investments made by those public pension plans. Such reports shall include: “(a) the number of, and descriptions of, investments made by the plan through external managers that may have compensated placement agents in connection with the investments, (b) a description of those external managers based on the size of assets under their control and (c) the annual performance of investments secured through placement agents.”22