Hedge Fund Report - Summary of Key Developments - Fall 2013
BY THE INVESTMENT MANAGEMENT, SECURITIES LITIGATION & TAX PRACTICES
This continues to be a time of rapid change for the hedge fund industry, as the Securities and Exchange Commission (the “SEC”), the Commodity Futures Trading Commission (the “CFTC”), and other regulatory agencies, including the Federal Reserve Board (the “Federal Reserve”) and the Department of the Treasury (the “Treasury”), continue to propose and finalize rules to implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). There have also been a number of significant developments in the hedge fund tax area, and the SEC and private plaintiffs have continued to bring enforcement actions and litigation involving hedge funds and other types of private investment funds and fund managers.
This Report provides an update since our last Hedge Fund Report in Spring 2013, and highlights recent regulatory and tax developments, as well as recent civil litigation and enforcement actions as they relate to the hedge fund industry. Paul Hastings attorneys are available to answer your questions on these and any other developments affecting hedge funds and their investors and advisers.
I. SECURITIES-RELATED LEGISLATION AND REGULATION.......................................................... 2
A. Dodd-Frank Rulemaking ................................................................................................ 2
B. Other Updates .............................................................................................................. 3
II. TAXATION ........................................................................................................................11
A. IRS Operations after the Lapse in Appropriations .............................................................11
B. Recent Foreign Account Tax Compliance Act Developments...............................................11
C. Recent FBAR Developments ..........................................................................................13
D. Tax Court Denies Trader Status (Again)..........................................................................14
III. CIVIL LITIGATION .............................................................................................................15
A. Update on Previously Reported Cases.............................................................................15
B. New Developments in Securities Litigation ......................................................................16
IV. REGULATORY ENFORCEMENT..............................................................................................18
A. Short Selling ...............................................................................................................19
B. Insider Trading ............................................................................................................20
C. Fraudulent Misrepresentation ........................................................................................23
D. Conflicts of Interest......................................................................................................24
I. SECURITIES-RELATED LEGISLATION AND REGULATION
A. Dodd-Frank Rulemaking
Following is the status of various proposed and final rules and regulations implementing the Dodd-Frank Act that are most relevant to the hedge fund industry.
1. SEC Adopts Bad Actor Disqualification Provisions for Rule 506 Private Offerings
On July 10, 2013, the SEC adopted new paragraphs (d) and (e) of Rule 506 of Regulation D under the Securities Act of 1933, as amended (the “Securities Act”), as mandated by Section 926 of the Dodd-Frank Act (the “Bad Actor Disqualification”). The Bad Actor Disqualification applies to all issuers relying on Rule 506 of Regulation D (“Rule 506”), the safe harbor provision for private offerings under the Securities Act. The Bad Actor Disqualification became effective on September 23, 2013 (the “Effective Date”) and applies only to sales of securities made on or after the Effective Date.
New Rule 506(d) prohibits an issuer from relying on Rule 506 if “covered persons” of the issuer are or have been subject to certain “disqualifying events.” Covered persons include, among others, (i) the issuer, including its predecessors and affiliated issuers; (ii) directors, general partners, and managing members of the issuer; (iii) executive officers of the issuer, and other officers of the issuer that participate in the offering (e.g., have more than a transitory or incidental involvement in the offering); (iv) 20% beneficial owners of the issuer, calculated on the basis of total voting power; (v) promoters connected to the issuer; (vi) for issuers that are pooled investment funds, the fund’s investment manager and its principals; and (vii) persons compensated for soliciting investors. For the purposes of determining whether a person is a “covered person” on the basis of voting power, the SEC considers only securities that grant security-holders the ability “to control or significantly influence the management and policies of the issuer,” which could include, for example, securities that confer to security-holders the right to elect or remove the directors or general partner, or to approve significant transactions such as acquisitions, dispositions or financings.
Disqualifying events include (i) certain relevant criminal convictions, court injunctions and restraining orders; (ii) certain relevant SEC disciplinary orders, cease-and-desist orders and stop orders; (iii) final orders of certain relevant state and federal regulators; (iv) suspension or expulsion from membership in a self-regulatory organization (e.g., FINRA) or from association with a member of a self-regulatory organization; and (v) U.S. Postal Service false representation orders. Many disqualifying events have a look-back period of five or ten years, measured from the date of the event. Disqualification will only occur with respect to disqualifying events occurring after the Effective Date; however, issuers must disclose in writing to investors the existence of any previously occurring matters that would otherwise be disqualifying events. If a disqualifying event occurs after an offering is underway, sales made before the occurrence of the event will be entitled to rely on Rule 506 but subsequent sales will not be entitled to rely on Rule 506 until the disqualifying event is removed.
The Bad Actor Disqualification includes a “reasonable care” exception from disqualification when the issuer is able to demonstrate that it did not know and, in the exercise of reasonable care, could not have known that a covered person with a disqualifying event participated in the offering. Private funds relying on the Rule 506 safe harbor should take appropriate measures to identify control persons and confirm the absence of disqualifying events for any sales of securities after the Effective Date. This may include, for example, distributing a questionnaire covering disqualifying events to all covered persons.
The full text of the SEC’s rule adopting the Bad Actor Disqualification is available here. The SEC’s fact sheet summarizing the Bad Actor Disqualification is available here.
2. SEC Proposes Rules for Cross-Border Swap Activity
On May 1, 2013, the SEC unanimously approved proposed rules and interpretive guidance pursuant to Title VII of the Dodd-Frank Act for parties to cross-border security-based swap transactions (the “Proposed SBS Rules”). The Proposed SBS Rules set forth, among others, the regulatory requirements that apply when a transaction occurs partially within and partially outside the United States. Under the Proposed SBS Rules, Title VII requirements would generally apply to security-based swap transactions entered into with a “U.S. person” or that are otherwise “conducted within the United States.” The Proposed SBS Rules define “U.S. person” as (i) a natural person resident in the United States; (ii) a partnership, corporation, trust or other legal person organized or incorporated under the laws of the United States; or (iii) an account (whether discretionary or non-discretionary) of a U.S. person. A security-based swap transaction is “conducted within the United States” if it is solicited, negotiated, executed or booked within the United States by or on behalf of either counterparty to the transaction. The Proposed SBS Rules set forth a “substituted compliance” framework for non-U.S. market participants pursuant to which such persons may comply with comparable foreign regulatory requirements in substitution for Title VII requirements.
The Proposed SBS Rules also include interpretative guidance for cross-border security-based swap activities on topics including but not limited to (i) when a non-U.S. person is required to register with the SEC as a security-based swap dealer or major security-based swap participant; (ii) the regulatory requirements applicable to non-U.S security-based swap dealers and major security-based swap participants; and (iii) when a transaction would have to be reported, disseminated, cleared or executed on a swap execution facility.
Comments were due on the Proposed SBS Rules on August 21, 2013. The full text of the Proposed SBS Rules is available here. The SEC’s fact sheet on cross-border security-based swap activities is available here.
3. SEC Offers Additional Guidance on Form PF
On April 25, 2013 and August 8, 2013, the staff of the SEC’s Division of Investment Management (the “Staff”) updated its Frequently Asked Questions on Form PF (the “Form PF FAQs”). The updated Form PF FAQs address, among others, topics related to general filing information and specific questions in Form PF, including but not limited to those relating to reporting fund assets and liabilities, adviser use of trading and clearing mechanisms with respect to derivatives, reporting fund open positions, reporting fund financing liquidity and creditors, and financial industry portfolio company NAICS codes. The Form PF FAQs are available here.
B. Other Updates
1. SEC Lifts Prohibition against General Solicitation and Advertising for Private Funds
On July 10, 2013, the SEC adopted rules to eliminate, under certain circumstances, the prohibition against general solicitation and advertising in securities offerings made pursuant to Rule 506(c) of Regulation D and Rule 144A under the Securities Act (the "General Solicitation Rules”). The SEC’s action was mandated by the Jumpstart Our Business Startup Act (the “JOBS Act”). The new rules became effective on September 23, 2013 (the “Effective Date”).
The elimination of the ban on general solicitation and advertising in Rule 506(c) offerings enables private investment funds to engage in broad-based communication and solicitation efforts when seeking to raise capital. The ability to advertise may prove of particular benefit to new and/or small
funds that lack name recognition by allowing such funds to target a broader audience of prospective investors and potentially attract interest in otherwise inaccessible markets. It is important to note, however, that any such advertisements or solicitations will still be subject to the antifraud provisions of the Investment Advisers Act of 1940, as amended (the “Advisers Act”), and the rules promulgated thereunder, which include prohibitions against the use of testimonials, past specific recommendations and restrictions on the presentation of performance data in connection with the offer and sale of private fund securities and the investment activities of private funds. The SEC specifically reminded investment advisers that they are subject to Rule 206(4)-8 under the Advisers Act which prohibits any investment adviser to a pooled investment vehicle from disseminating misleading materials or engaging in deceptive conduct.
Private fund advisers relying on new Rule 506(c) may conduct public advertising campaigns for their funds by taking out advertisements, discussing funds in media interviews, and sponsoring seminars and other broad-based capital raising meetings, provided, (i) that all purchasers of the securities are accredited investors, or the issuer reasonably believes that all purchasers are accredited investors at the time of the sale of the securities; and (ii) the issuer takes “reasonable steps” to verify that all purchasers of the securities are accredited investors. Rule 506(c) does not mandate any specific steps to verify a prospective investor’s accredited investor status, nor does it proscribe a specified verification methodology. The new rule provides issuers with latitude to determine what verification methods they should employ, requiring only that the method selected be reasonable, taking into account the facts and circumstances of the transaction. With respect to purchasers who are natural persons, Rule 506(c) lists four non-exclusive methods of verifying accredited investor status, including: (i) income verification, such as through Forms W-2 or 1099; (ii) net worth verification, such as through bank or brokerage statements; (iii) third party written confirmation, such as from a registered investment adviser or licensed attorney; and (iv) self-certification from an accredited investor who has purchased and still holds securities in an issuer’s Rule 506(b) offering prior to the Effective Date.
Under the General Solicitation Rules, securities sold pursuant to Rule 144A after the Effective Date can be offered to persons other than Qualified Institutional Buyers (“QIBs”), including by means of general solicitation, provided that the securities are sold only to persons whom the seller and any person acting on behalf of the seller reasonably believe are QIBs. The standards for reasonably determining whether a purchaser is a QIB, contained in Rule 144A(d), remain unchanged.
On October 30, 2013, Keith Higgins, Director of the SEC’s Division of Corporation Finance, told reporters that the SEC had already received notification of issuers seeking to sell “close to $1 billion” of private offerings through the new Rule 506(c) exemption.
The full text of the SEC’s release eliminating the prohibition against general solicitation and general advertising in Rule 506 and Rule 144A offerings is available here. Our recent Client Alert discussing the General Solicitation Rules in more detail is available here.
2. SEC Proposes Revisions to Regulation D and Form D in Connection with the Adoption of Rule 506(c)
On July 10, 2013, the SEC proposed additional amendments to Regulation D and Form D in conjunction with the elimination of the ban against general solicitation in Rule 506(c) offerings (the “Form D Amendments”). If adopted, the Form D Amendments would impose additional requirements for issuers relying on Rule 506(c) of Regulation D. Specifically, the proposed revisions would, among other things, require issuers to (i) file a Form D notice in advance 15 days before engaging in general
solicitation; (ii) file a closing amendment to Form D after the termination of any Rule 506 offering; (iii) include specified legends and disclosures in any general solicitation materials; and (iv) disclose on Form D the types of general solicitation used, if any, and the methods employed to verify the accredited investor status, if applicable. Under the proposal, an issuer would be disqualified from using the Rule 506 exemption for one year for future offerings if the issuer, or any of its predecessors or affiliates, failed to comply, within the preceding five years, with Form D filing requirements in connection with a Rule 506 offering. The SEC also proposed that, for two years from the effective date of the final rule, issuers would be required to submit all written general solicitation materials to the SEC no later than the date of first use of those materials. The original comment period for the Form D Amendments ended September 23, 2013, but the SEC extended comments until November 4, 2013. On August 8, 2013, in a letter to Representative Patrick McHenry, Chair of the House Subcommittee on Oversight and Investigations, SEC Chair Mary Jo White clarified that until such time as the new rules are adopted and become effective, issuers may use Rule 506(c) so long as they comply with the requirements set forth in the exemption.
The full text of the SEC’s release proposing the Form D Amendments release is available here. The SEC’s fact sheet on the proposing amendments to private offering rules is available here.
3. SEC Offers Additional Guidance on Custody Rule
On August 1, 2013, the SEC’s Division of Investment Management published a Guidance Update on Privately Offered Securities under the Custody Rule (Rule 206(4)-2 under the Advisers Act) (the “Custody Guidance”). Specifically, the Custody Guidance addresses whether advisers to pooled investment vehicles must maintain with a qualified custodian non-transferable stock certificates or “certificated” LLC interests that were obtained in a private placement (“private stock certificates”), or whether such securities meet the Custody Rule’s definition of a “privately offered security” that would not have to be held at a qualified custodian. The Custody Guidance states that the Division of Investment Management “would not object” if an adviser does not maintain private stock certificates with a qualified custodian, provided that the following conditions are met: (i) the client is a pooled investment vehicle that is subject to a financial statement audit in accordance with paragraph (b)(4) of the Custody Rule; (ii) the private stock certificate can only be used to effect a transfer or to otherwise facilitate a change in beneficial ownership of the security with the prior consent of the issuer or holders of the outstanding securities of the issuer; (iii) ownership of the security is recorded on the books of the issuer or its transfer agent in the name of the client; (iv) the private stock certificate contains a legend restricting transfer; and (v) the private stock certificate is appropriately safeguarded by the adviser and can be replaced upon loss or destruction.
Investment advisers to private funds that are intending to rely on the Custody Guidance with respect to private stock certificates should ensure that such securities meet all other requirements for privately issued securities under the Custody Rule, namely, that such securities are (a) acquired from the issuer in a transaction or chain of transactions not involving any public offering; and (b) transferable only with prior consent of the issuer or holders of the outstanding securities of the issuer. The full text of the SEC’s Custody Guidance is available here.
4. House Committee Approves H.R. 1105 (Small Business Capital Access and Job Preservation Act)
On June 19, 2013, the House Committee on Financial Services approved H.R. 1105, the Small Business Capital Access and Job Preservation Act. The bill, introduced on March 13, 2013, would amend the Advisers Act, to exempt private equity fund advisers from Advisers Act registration and
reporting requirements, so long as each fund has not borrowed and does not have outstanding a principal amount greater than twice its invested capital commitments. According to the bill’s sponsor, Representative Robert Hurt (R-Virginia), the exemption would reduce regulatory requirements implemented by the Dodd-Frank Act that “inhibit private equity firms from investing private capital into small businesses.” The bill will now proceed to the full House for consideration. The full text of H.R. 1105 is available
5. SEC Offers Additional Guidance on Form 13F
On October 2, 2013 the Staff released a Guidance Update on Form 13F Confidential Treatment Requests Based on a Claim of Ongoing Acquisition/Disposition Program (the “CT Guidance”). The CT Guidance updates the Staff’s June 1998 letter regarding Section 13(f) Confidential Treatment Requests, which set forth five categories of information that Form 13F requires to be provided in a Confidential Treatment Request for an Ongoing Acquisition/Disposition Program in a Reportable Security (“CT Request”): (i) details about the ongoing acquisition/disposition program; (ii) an explanation of why public disclosure would reveal the program; (iii) information demonstrating that the program is ongoing, so that public disclosure would be premature; (iv) a demonstration of the likelihood of substantial harm to the institutional manager if the CT Request is not granted; and (v) justification for the period of time for which confidential treatment is requested. Specifically, the CT Guidance further identifies information in each of the five categories that the SEC believes is “particularly helpful in reaching an informed decision” on whether to grant a CT Request, including but not limited to, with respect to item (i), a description of the program’s ultimate goal (including as a percentage of the reportable security issuer’s total outstanding securities); with respect to item (ii), an explanation of how the public would discern from the Form 13F data the institutional manager’s intent to acquire/dispose of the reportable security in the future; with respect to item (iii), information demonstrating that the program is ongoing both at the end of the reporting period and at the time the CT Request is filed; with respect to item (iv), the manner in which the institutional manager’s competitive position in the reportable security is likely to be substantially harmed by public disclosure of Form 13F data; and, with respect to item (v), the projected timeframe for the institutional manager to reach the ultimate objective of its investment program in the reportable security. Investment advisers considering a CT Request with respect to a Form 13F filing should address the information set forth in the CT Guidance in their request. The Staff’s June 1998 letter is available here and the CT Guidance is available here.
On August 2, 2013 and October 10, 2013, the Staff updated its Frequently Asked Questions About Form 13F (the “Form 13F FAQs”). The updated Form 13F FAQs address, among others, topics related to the EDGAR Filer Manual and EDGAR filing, requesting copies of Form 13F, confidential treatment requests and specific questions in the Form 13F information table, including but not limited to those relating to the amount and type of security reported and voting authority with respect to reportable securities. The Form 13F FAQs also address the transition from the text-based Form 13F to an online form. The Form 13F FAQs are available here.
6. CFTC Issues Final Rules for Block Trading
On May 16, 2013, the CFTC adopted final rules setting minimum block trading sizes for different types of CFTC-regulated swaps (including interest rate, credit, equity and foreign exchange swaps). The rules will be phased-in in two stages. During the first stage, the CFTC will prescribe appropriate minimum block size, which will last until registered swap data repositories have collected at least one year of reliable data for each asset class. The CFTC’s initial minimum block sizes for each swap category can be found in Appendix F to part 43 of the CFTC’s Rules. During the second stage, the
CFTC will analyze and use the data collected during the first stage to establish approximate minimum block sizes for each swap category. These minimum block sizes will then be updated at least once a year.
Pursuant to CFTC Regulation 43.6(h)(6), a fund manager may aggregate orders for block trades if (i) aggregation is permitted on a designated contract market or swap execution facility; (ii) the fund manager has more than $25 million in assets under management (“AUM”); and (iii) the fund manager is a registered or exempt commodity trading advisor (“CTA”) which has discretionary trading authority or directs client accounts, a registered investment adviser (“RIA”) which has discretionary trading authority or directs client accounts, or a foreign equivalent to a CTA or RIA. The full text of the CFTC’s final rules for block trading is available here.
7. Director of SEC’s Division of Investment Management Speaks on Current SEC Priorities Regarding Hedge Fund Managers
On September 12, 2013, at a PLI Hedge Fund Management Conference in New York, Norm Champ, Director of the SEC’s Division of Investment Management, addressed the regulatory landscape for hedge funds and their advisers. Mr. Champ first addressed the recent changes to Rule 506 that were mandated by the JOBS Act and noted that advisers to private funds engaged in general solicitation are still subject to the federal anti-fraud provisions. He stated that a new inter-Divisional group with participation by the Division of Investment Management, Division of Corporation Finance, Division of Economic and Risk Analysis (formerly the Division of Risk, Strategy and Financial Innovation), Division of Trading and Markets, Office of Compliance Inspections and Examinations (“OCIE”) and Division of Enforcement was created within the SEC to review the Rule 506(c) market and the practices that develop. Mr. Champ next discussed the information received by the SEC from private fund advisers in Form PF, noting that the newly created Risk and Examinations Office (“REO”) is using Form PF data to develop risk-monitoring analytics and provide internal periodic reports, and that the Staff will use Form PF data to inform policy and rulemaking with respect to private funds. Mr. Champ also described the SEC’s recent outreach initiatives, including meetings between himself, REO staff, OCIE leadership and senior management of larger, strategically important advisers. He also noted that OCIE had commenced its presence exam initiative, discussed in our Fall 2012 and Spring 2013 Reports, and that the initiative was still in the engagement phase.
With respect to rulemaking initiatives under the Dodd-Frank Act, Mr. Champ reported that the Dodd-Frank Act mandated rulemaking directly related to investment advisers is complete and that the Division of Investment Management is now focusing on longer term initiatives, including a review of the rules that apply to private fund advisers. Lastly, Mr. Champ highlighted recent and highly publicized insider trading cases in the hedge fund industry, and encouraged private fund advisers to revisit compliance policies and procedures to assess “whether they effectively provide a comprehensive framework for the identification and prevention of the misuse of non-public information.” Mr. Champ also urged private fund advisers to provide continuous training and guidance to ensure that employees know what to do when they come into possession of inside information.
The full text of Mr. Champ’s speech is available here.
8. SEC Staff Offer Previews of Examination Priorities for 2014
Recent speeches by two SEC staff members offer insight into the SEC’s examination priorities for 2014. On September 27, 2013, Mark Dowdell, Assistant Regional Director of OCIE’s Philadelphia office, highlighted custody issues as a focus for OCIE examinations in 2014, specifically whether advisers are
properly recognizing that they have custody of client assets, and whether they are complying with the qualified custodian requirement and the “surprise exam” requirement or the “audit approach,” as applicable. Mr. Dowdell stated that another OCIE examination priority will be looking at conflicts of interest relating to adviser fees and continuing to inspect for undisclosed payments by advisers and funds to distributors and intermediaries. In addition, Mr. Dowdell expects OCIE staff to examine advisers’ advertising policies and procedures and evaluate the accuracy of performance advertising, particularly the use of hypothetical and back-tested performance.
On October 21, 2013, Andrew Bowden, Director of OCIE, stated that OCIE will continue to monitor the following three “convergence” scenarios involving broker-dealers and investment advisers: (i) firms that deregister as broker-dealers and re-register as investment advisers; (ii) firms that are dual-registered; and (iii) investment advisers that expand their businesses and open offices around the country, similar to large broker-dealers. OCIE will look at the consequences of a firm’s migration to a new structure, particularly how that migration impacts investors and the firm’s internal procedures. Mr. Bowden stated that other OCIE priorities include registrants’ use of technology within their compliance programs, conducting “presence exams” of advisers to private funds that have never been examined, and evaluating how the JOBS Act is impacting the marketplace.
Messrs. Dowdell and Bowden stated that the SEC staff expects to finalize and publicly release its list of exam priorities by January 2014.
9. House Republicans Question SEC Oversight of Private Funds
On September 12, 2013, Representatives Jeb Hensarling (R-TX), Chair of the House Committee on Financial Services (the “Committee”), and Scott Garrett (R-NJ), Chair of the Subcommittee on Capital Markets and Government Sponsored Enterprises, issued a letter to SEC Chair Mary Jo White expressing their concerns about the regulatory regime for private funds. The lawmakers questioned whether private funds pose systemic risk to the markets sufficient to justify the SEC’s examination process for private fund advisers and asked Ms. White to clarify the reasons behind the SEC’s examination of such advisers. The letter referred to the Committee’s approval on June 19, 2013 of H.R. 1105, the Small Business Capital Access and Job Preservation Act, that is discussed above in this Report.
Ms. White addressed the issues raised by the letter in a speech to the Managed Funds Association in New York City on October 18, 2013. Ms. White acknowledged that the SEC must “continuously assess whether [its] resources are being deployed in the most productive, cost-effective manner.” However, she stated that the SEC’s mission of investor protection “applies to all investors,” including sophisticated investors. Ms. White also challenged the notion that private funds require less regulatory oversight, noting that because “sophisticated” or “institutional” hedge fund investors include pension funds, college endowments, and charities, private funds “can and do have a real impact on main street investors.”
The full text of Ms. White’s October 18 speech is available here.
10. House Passes H.R. 2374 (Retail Investor Protection Act)
On October 29, 2013, the House of Representatives passed H.R. 2374, the Retail Investor Protection Act. The bill, introduced on June 14, 2013, would prohibit the Department of Labor (the “DOL”) from amending its 1975 regulation defining a “fiduciary” for the purposes of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), until the SEC issues a final rule bringing
investment advisers and broker-dealers under a uniform standard of conduct.
1 According to the Committee Report accompanying the bill, “[i]nconsistent standards promulgated by the DOL and the SEC governing retirement plan fiduciaries would likely be confusing and costly for investors, and difficult for service providers to follow.” Several Democrats wrote in opposition to the bill, noting that while “an overbroad fiduciary rule threatens to reduce the availability of advice to individual investors and retirees, . . . [t]his bill, however, may go too far, making [DOL] rulemaking hostage to rulemaking by the SEC.” On October 30, 2013 the bill was referred to the Senate Committee on Banking, Housing, and Urban Affairs. The full text of H.R. 2374 is available here and the full text of the Committee Report together with Minority Views is available here.
11. Update on AIFMD – latest developments in Europe
In Europe, the regulators have had a busy summer. The key items for fund managers have been the implementation of the European Union (“EU”) Alternative Investment Fund Managers Directive2 (“AIFMD” or the “Directive”), the early steps towards swap clearing under the European Market Infrastructure Regulation3 discussed in our recent Client Alert, as well as the finalization of the controversial Financial Transaction Tax and a significant amount of discussion about the implementation of some form of shadow banking regulation. Set out below is a brief overview of the current status of the implementation of AIFMD in the EU and the implications this has for any manager of an alternative investment fund marketing or considering marketing funds to EU-based investors.
Where are we now?
The Directive came into force on July 22, 2013 in the EU and has, as yet, only been implemented by roughly one half of the Member States. A number of transitional provisions within the Directive are subject to the interpretation of the local regulators of each EU Member State and, consequently, managers will (in some cases) only have to comply with the Directive on the expiration of the relevant transitional period (which, by necessity or choice, is typically July 22, 2014).
Marketing funds in the EU through private placement regimes
Until July 22, 2015, non-EU managers without the benefit of the relevant transitional period will only be able to market funds in the EU via the private placement regime (the “PPR”) of the EU Member State in which their prospective investors are domiciled. There are three pre-conditions to using PPRs to market funds under the Directive:
(i) A co-operation agreement must be in place between the fund domicile authority and the local regulator of the relevant EU Member State;
(ii) The fund domicile must remain unlisted as a ‘Non-Cooperative Country and Territory’ by the Financial Action Task Force; and
(iii) A tax information exchange agreement (“TIEA”) must be entered into between the fund domicile and the relevant EU Member State (for example, the Cayman Islands has currently entered into approximately 30 TIEAs with EU Member States).
Fund managers marketing funds to EU investors also may be subject to the following four ‘transparency’ conditions, which vary depending on whether the AUM is above or below a certain size threshold:
Mandatory periodic publication of an annual report and audited financial statements for each fund marketed in the EU (including disclosures as to the remuneration of the fund manager);
Certain mandatory disclosures to prospective investors in advance of any investment and upon any material change to such information, in respect of each fund marketed in the EU;
Continuing periodic disclosures to investors, including details of any illiquid assets, any changes to the fund’s liquidity or risk profile and, for leveraged funds, the total leverage of each fund marketed along with any changes to maximum leverage and re-hypothecation rights; and
Periodic reporting to the local EU regulator in the EU Member State in which the fund is marketed.
Finally, in most of the key markets (the United Kingdom and Germany, for example) a notification to or registration with the local financial regulator will be required prior to any marketing taking place.
By July 2015, subject to the anticipated extension of the passport regime following a review by the European Securities and Markets Authority (“ESMA”), non-EU fund managers may be able to apply for a passport for cross-border marketing of their funds in the EU. In addition to the satisfaction of preconditions (i)-(iii) above, managers will need to select a ‘member state of reference’ and apply for authorization and supervision from the local regulator in that EU Member State.
Beginning in July 2018, if the passport regime is extended on a mandatory basis to non-EU fund managers, the national PPRs will be gradually phased out and managers will have to apply for an EU passport to market the funds. If the EU passport mechanism is not extended to non-EU fund managers by ESMA, the PPR will continue indefinitely.
The Directive defines “marketing” as a direct or indirect offering or placement to EU investors, at the initiative of the fund manager or on its behalf, of units or shares of a fund that it manages. Based on this definition, non-EU based managers may engage in reverse solicitation or accept subscriptions from EU-based investors that initiate the offering or placement without being engaged in “marketing.”
A cautious approach to reverse solicitation should be adopted by fund managers and advice should be sought from local counsel on a jurisdiction by jurisdiction basis where certain conflicts may exist with national law. Under French law, for example, non-EU fund managers must pay careful attention not to engage in “marketing” as defined under French law (which, for example, excludes the sale of financial instruments in response to an investor’s unsolicited request to purchase such financial instruments).
The Directive does not generally apply to:
Hedge funds with AUM of €100 million or less;
Private equity funds with AUM of €500 million or less;
Certain qualifying securitization special purpose companies;
Single investor funds (this allows managers to run managed accounts for single investors based in the EU outside of the scope of the Directive);
Funds whose only investors are the manager or the manager’s group companies (provided that none of those investors is itself a fund); and
Non-EU Funds sold in the EU by a non-EU manager solely on a reverse solicitation basis.
Parallel fund structures
Fund managers that desire to access a wider suite of potential EU investors may consider establishing an AIFMD compliant EU structure in parallel to an existing non-EU fund. Having a non-EU fund marketing to non-EU investors and an EU fund marketing to EU investors allows for a manager’s obligations under the Directive to be isolated from its non-EU marketing and investment activities.
As of the date of this Report, Internal Revenue Service (“IRS”) operations have resumed and appropriations are no longer in lapse. This development and other notable tax developments are summarized below.
A. IRS Operations after the Lapse in Appropriations
The IRS has reopened after 16 days of closure due to the lapse in appropriations that began October 1, 2013. The IRS has reported that the public may experience longer wait times or limited service as the IRS takes steps to bring employees back to work and resume all operations. High telephone demand is expected.
The IRS is encouraging taxpayers to wait to call or visit if their issue is not urgent and to continue to use automated applications on the IRS website, www.IRS.gov, whenever possible.
During the shutdown, the IRS continued many automated processes, including accepting returns and processing payments. However, refunds were not issued while the IRS was closed. Any paper return received during the shutdown and postmarked by the due date will be considered timely filed by the IRS.
Fax machines related to Automated Underreporter (AUR), Automated Collection System (ACS), Centralized Authorization File (Power of Attorney), as well as others, are back on line. For people who submitted information and received a confirmation via their fax machine that the IRS received the transmission during the shutdown, there is no need to resubmit the material.
The IRS has begun processing tax returns received since October 1, along with related refunds. The IRS has also begun to respond to paper correspondence, transcript requests and authorization forms received during the shutdown from third parties. However, initial delays can be expected as the IRS resumes full operations and works through backlogged inventory.
B. Recent Foreign Account Tax Compliance Act Developments
The Foreign Account Tax Compliance Act (“FATCA”), which was enacted in March 2010 in the Hiring Incentives to Restore Employment Act, requires a foreign financial institution (“FFI”) to enter into an agreement with the IRS (referred to as an “FFI agreement”) and report U.S. accounts to the IRS or pay a thirty percent (30%) withholding tax on any “withholdable payment” made to the institution or
their affiliates.4 FATCA also requires certain non-financial foreign entities to provide withholding agents information on their substantial U.S. owners or pay the withholding tax.
1. Developments Regarding FATCA Guidance
On July 12, 2013, the IRS released a copy of Notice 2013-43 (the “Notice”). The Notice revises timelines for the implementation of FATCA and provides additional guidance concerning financial institutions located in countries that have signed an intergovernmental agreement with the United States to implement FATCA. The more notable aspects of the Notice are discussed in our recent Client Alert, which is available here.
On October 29, 2013, the IRS released Notice 2013-69 (the “Second Notice”). The Second Notice provides further guidance to FFIs regarding FATCA compliance. Importantly, the Second Notice includes a draft version of the FFI agreement and describes an FFI’s general responsibility under such agreement. These responsibilities are substantially similar to the provisions set forth in prior FATCA guidance. The Second Notice provides that the FFI agreement will be finalized by December 31, 2013. The Second Notice is available here.
2. IRS Opens FATCA Registration System
On August 19, 2013, the IRS opened the FATCA Registration System to the general public. By way of background, an FFI may agree to report certain information to the IRS about its account holders by registering to be FATCA compliant. The FATCA Registration System is a secure, web-based system that FFIs may use to register completely online. The registration system can be accessed here. The registration system, while open to the public, will not go live until January 1, 2014.
To help users familiarize themselves with the FATCA Registration System, the IRS also released on August 19, 2013 the FATCA Online Registration User Guide (the “User Guide”). This 75-page guide helps to make clear that a U.S. financial institution may register as a lead financial institution for its members, which was previously unclear. For funds with large non-U.S. activities, it may make sense for a U.S. entity to take the lead in the FATCA registration process. The User Guide is available here.
The IRS strongly encourages use of the registration system, although it will accept paper registrations on Form 8957. Form 8957 cannot be filed before January 1, 2014. The IRS has indicated that those who register via Form 8957 will experience slower processing times than those registering online, and registrants will not receive a FATCA identification number (a “GIIN”) needed to demonstrate FATCA compliance until processing of Form 8957 is completed.
We encourage financial institutions subject to FATCA to become familiar with the system and the User Guide, create their online accounts and begin compiling and submitting information. Although financial institutions cannot yet finalize registration on the registration system, financial institutions may use this time prior to the registration system’s live date of January 1, 2014 as a “testing period” to see what information is required to be submitted on the system.
3. Developments Regarding Intergovernmental Agreements
Early in 2012, the Treasury Department began negotiating and entering into intergovernmental agreements (“IGAs”) with foreign governments. As discussed in prior Reports, the IGAs are intended to provide an alternate means by which financial institutions located within participating jurisdictions may comply with FATCA. To date, the Treasury Department has entered into IGAs with the following jurisdictions: Denmark, Germany, Ireland, Mexico, Norway, Spain, the United Kingdom, Japan and
Switzerland. IGAs are also expected to be entered into with, among other jurisdictions, France and Italy.
Further, in August 2013, the Treasury Department finalized negotiations with the Cayman Islands on an IGA. As there is a significant fund industry in the Cayman Islands, this was a welcome development. The IGA with the Cayman Islands will be a so-called “Model 1” IGA. FFIs located in Model 1 IGA countries (other than those not subject to reporting) generally are required to identify U.S. accounts pursuant to due diligence rules adopted by the IGA partner country and to report specified information to the relevant governmental authorities of the IGA partner country. This information will be automatically exchanged by the IGA partner country with the IRS. Thus, FFIs in Model 1 IGA countries are not required to enter into agreements with the IRS in order to avoid FATCA withholding. In contrast, FFIs in so-called “Model 2” IGA countries (other than those not subject to reporting) are not relieved from the requirement to enter into an agreement with the IRS to avoid FATCA withholding.
Under the Cayman Islands IGA, Cayman Islands FFIs will not be required to enter into agreements with the IRS to avoid withholding under FATCA. Instead, Cayman Islands FFIs will be required to provide certain information about their U.S. account holders to the Cayman Islands Tax Information Authority. Such information will be shared with the IRS. A Cayman Islands FFI that complies with Cayman Islands due diligence and reporting requirements established in accordance with the Cayman Islands IGA will be eligible to be treated as a registered deemed-compliant FFI for FATCA purposes. It is expected that the text of the Cayman Islands IGA will be made public once officially signed. Like the IGAs the Treasury Department has signed with other foreign governments, the Cayman Islands IGA is intended to streamline FATCA information reporting and reduce compliance burdens for Cayman Islands financial institutions.
4. Next Steps
In January 2014, financial institutions subject to FATCA are expected to begin finalizing their registration information, either on the FATCA Registration System or by paper on Form 8957. As registrations are finalized, it is expected that such institutions will receive notice of registration acceptance from the IRS and will be issued GIINs. Those institutions that are FATCA compliant will be included in the IRS’s so-called “FFI List,” the first iteration of which is expected to be released electronically in June 2014. The list is expected to be updated monthly. To ensure inclusion on the June 2014 FFI List, financial institutions should finalize their registrations with the IRS by April 25, 2014.
C. Recent FBAR Developments
As discussed in previous issues of our Report, U.S. persons who have an interest in, or signatory authority over, a foreign account with a value over $10,000 are required to file a Foreign Bank Account Report (“FBAR”). The IRS has been actively calling for FBAR compliance and has instituted significant civil and criminal penalties for those who fail to file FBARs.
The IRS has not provided significant new FBAR guidance since our last Report. It is worth noting, however, that a district court recently found that the Internal Revenue Code of 1986, as amended (the “Code”), authorizes the IRS to use taxpayer information to conduct an FBAR investigation. In Hom, the IRS conducted an investigation of the taxpayer’s tax returns.5 The IRS then opened an FBAR investigation because it discovered the taxpayer’s online gambling activity and use of foreign bank accounts. The taxpayer filed suit in which he alleged that tax return information, discovered during the tax return investigation, was inappropriately disclosed for the purpose of the FBAR investigation.
Specifically, he cited Code Section 6103, which states that returns and return information are confidential and generally cannot be disclosed except as expressly authorized by the Code. Code Section 6103(h)(1), one of the exceptions to the general rule of confidentiality, provides that return or return information can be open (without written request) to inspection or to disclosure to officers and employees of the Treasury whose official duties require the inspection or disclosure for tax administration purposes. The court found that the IRS met this exception. Thus, the use of the taxpayer’s tax information was authorized.
Given such case, funds should be mindful that FBAR compliance can be monitored in a variety of ways, including potentially through IRS examination of unrelated tax matters.
D. Tax Court Denies Trader Status (Again)
On August 28, 2013, following a long line of decisions that demonstrate the difficulty of attaining trader status for federal income tax purposes, the Tax Court held in Endicott v. Commissioner6 that a taxpayer should be considered an investor, and not a trader, because 300 or more trades per year is not regular or substantial and because the taxpayer did not seek to capitalize on the short-term swings in the market.
The taxpayer’s primary strategy was to purchase shares of stock and then sell call options on the underlying stock. The taxpayer’s goal was to earn a profit from the premiums received from selling call options against a corresponding quantity of underlying stock that he held. The taxpayer held the underlying stock as a means to reduce his risk of loss in the event the purchaser of the call option exercised the option.
The taxpayer typically sold call options with a term between one and five months. He did not trade options on a daily basis. If he felt it was no longer profitable to maintain an option position, the taxpayer would generally exit the position by purchasing a call option similar to the option he sold. During the years at issue, the taxpayer generally held his stocks on average for 35 days. However, he held a number of stocks for well over a year and some for more than four years.
In general, for federal income tax purposes, a person who purchases and sells securities falls into one of three categories: a dealer, trader or investor. “Dealers” are generally individuals or entities that buy securities for resale to customers. “Traders” generally engage in a “trade or business” of buying and selling securities for their own accounts to take advantage of short-term price changes. “Investors” likewise buy and sell for their own accounts but generally buy securities for long-term appreciation and are not engaged in a trade or business. Whether one is a “trader” or an “investor” is not determined by a specific formula or objective criteria. Instead, it depends on an analysis of all the facts and circumstances involved in one’s activities, taken as a whole. This characterization will affect, among other things, the extent to which partners in a partnership may deduct certain items of the partnership’s expenses for federal income tax purposes.
The Tax Court held in this case that the taxpayer should be considered an investor, rather than a trader. The Tax Court stated that in determining whether the taxpayer was a trader, three nonexclusive factors should be considered: (i) the taxpayer’s intent; (ii) the nature of income to be derived from the activity; and (iii) the frequency, extent and regularity of the taxpayer’s transactions. For a taxpayer to be a trader, the trading activity must be substantial, which means “frequent, regular, and continuous enough to constitute a trade or business.” The Tax Court stated that the taxpayer’s activities constituted a trade or business only if the trading was substantial and the taxpayer sought to catch the swings in daily market movements to profit from short-term changes, rather than to profit from long-term holding of investments.
The Tax Court held that the taxpayer did not generally have substantial activity because he did not make enough trades to be considered a trader. Even in a year in which he did have sufficient trades to be considered a trader, the taxpayer did not make trades on a daily frequency for his activity to satisfy the frequency, continuity and regularity requirement necessary to be considered a trade or business and thus be considered a trader for such year.
Funds may wish to consider whether they qualify for trader status, given the continuing scrutiny by the Tax Court of dealer, trader and investor status characterizations. This case provides some guidance for such determinations. Key factors to examine include number of trades per year, daily trading frequency and the holding period of the securities involved in the trades. A fund that previously determined that it qualifies as a trader should reexamine its trader status each year in which it has a mark-to-market election in place to ensure that the election will not be challenged.
The full text of the Tax Court opinion is available here.
III. CIVIL LITIGATION
Recently in litigation matters involving hedge funds, courts have addressed several interesting issues regarding the reach of claims against hedge funds and their auditors. Significant recent case rulings include the following:
The First Circuit held that a fund could be considered a trade or business for purposes of pension liabilities under ERISA.
The Massachusetts Appeals Court upheld a trial court decision allowing investors in a hedge fund to sue the fund’s auditor for inducing them to invest in a valueless fund.
The Southern District of New York held that a hedge fund holding a security agreement for artwork was entitled to the artwork, which had been forfeited to the government following Marc Dreier’s fraud conviction.
A. Update on Previously Reported Cases
Southern District of New York Denies Amendment of Most Claims in Consolidated Actions Accusing Banks of Colluding to Manipulate LIBOR
In the Fall 2011 issue of our Report, we first noted that European asset manager FTC Capital GmbH (“FTC Capital”) and two of its futures funds had filed a putative class action in the Southern District of New York, alleging that during the 2006-2009 period, twelve banks conspired to artificially depress the London Interbank Offered Rate (“LIBOR”). FTC Capital alleged that the defendant banks colluded to suppress LIBOR in order to make the banks appear more financially healthy than they actually were.
Since the complaint was filed, the litigation has become significantly more complex. As we reported in the Spring 2012 issue of our Report, the Judicial Panel on Multi-District Litigation transferred twenty-two other cases involving LIBOR to the Southern District of New York,7 and on November 29, 2011, the court consolidated the actions and appointed interim class counsel for two putative classes of plaintiffs, one group that engaged in over-the-counter transactions and another group that purchased financial instruments on an exchange.
As we reported in the Spring 2013 issue of our Report, on March 29, 2013, the court granted in part and denied in part the defendant banks’ motions to dismiss, dismissing the plaintiffs’ antitrust claims and certain other claims but allowing certain commodity manipulation claims to proceed.
On August 23, 2013, the court issued an order addressing several motions brought after its March 29 order; the most significant rulings are discussed here. First, the exchange-based plaintiffs moved for certification of the March 29 order for interlocutory appeal. Second, the over-the-counter, bondholder, and exchange-based plaintiffs moved for leave to amend to file a second amended complaint with new allegations regarding antitrust injury. Third, the exchange-based plaintiffs moved for leave to amend to file a second amended complaint with new allegations regarding the commodity manipulation claims. Finally, the over-the-counter investor plaintiffs moved for leave to reassert their unjust enrichment claim and to add a claim for breach of the implied covenant of good faith and fair dealing.
The court’s rulings on the parties’ multiple motions are a mixed bag and serve to demonstrate just how time-consuming and involved the LIBOR-related litigation is likely to be in the future.
The exchange-based plaintiffs sought an interlocutory appeal on the question of whether LIBOR is the commodity underlying Eurodollar futures contracts. The court found this claim to be implausible and refused to certify it for an appeal.
The court denied the exchange-based plaintiffs’ motion to amend the commodity manipulation claim on the ground that the plaintiffs failed to allege any injuries caused by the alleged commodity manipulation, and thus they did not have standing to sue. The court also denied the plaintiffs’ motion to amend to add allegations regarding antitrust injury on two grounds: justice did not require allowing another amendment, and the proposed amendment would be futile.
Finally, the court had previously declined to exercise supplemental jurisdiction over state law claims, but changed course in the most recent ruling. Because diversity jurisdiction was afforded under the Class Action Fairness Act, the court allowed the plaintiffs to amend to add claims for unjust enrichment and breach of the implied covenant of good faith and fair dealing.
B. New Developments in Securities Litigation
1. First Circuit Holds that Private Equity Fund Can Be Subject to ERISA
Sun Capital Advisors, Inc. (“Sun Capital”) is a private equity firm that sponsors several funds, including Sun Capital Partners III, LP (“Sun Fund III”) and Sun Capital Partners IV, LP (“Sun Fund IV” and, together with Sun Fund III, the “Sun Funds”). The Sun Funds themselves do not have any offices or employees. The Sun Funds’ general partners have exclusive authority to make and manage the Sun Funds’ investments and receive management and performance fees from the Sun Funds. Subsidiaries of the general partners contract with the Sun Funds’ portfolio companies to provide management services for a fee, and contract with Sun Capital to provide employees and consultants.
In December 2006, the Sun Funds formed Sun Scott Brass, LLC (“Sun Scott”), to acquire Scott Brass, Inc. (“Scott Brass”), a metal manufacturer. In February 2007, Sun Scott acquired Scott Brass through a wholly-owned acquisition vehicle, Scott Brass Holding Corp., which then retained one of the subsidiaries to provide management services to Scott Brass. At the time, the Sun Funds were aware of Scott Brass’s unfunded pension liability; the sale price “reflected a 25 percent discount” because of that liability.
In 2008, Scott Brass stopped making pension contributions to the New England Teamsters and Trucking Industry Pension Fund (the “Pension Fund”) and was forced into Chapter 11 bankruptcy. The Pension Fund demanded payment from the Sun Funds of more than $4.5 million. The Sun Funds sought declaratory judgment that they had no liability because they were not a trade or business, as is required under ERISA, as amended by the Multiemployer Pension Plan Amendment Act of 19808. The Pension Fund filed a counterclaim for Scott Brass’s $4.5 million liability.
The District Court ruled that the Sun Funds were not a “trade or business” because neither had employees or officers, made or sold goods, or reported income other than investment income. The Pension Fund appealed.
On July 24, 2013, the First Circuit reversed the District Court’s ruling, holding that Sun Fund IV was a “trade or business.”9 To determine if an entity is a trade or business, according to the court, an “investment plus” approach is used. This is a fact-specific inquiry that requires a showing of more than “a mere investment made to make a profit.”
The court’s analysis is instructive. In determining that Sun Fund IV was a trade or business, the court highlighted several facts, including that the Sun Funds were actively involved in management and operation, the Sun Funds’ general partners held management power and received management and performance fees, the Sun Funds’ purpose was “to seek out potential portfolio companies that are in need of extensive intervention,” the Sun Funds exercised management control over the company, and Sun Capital provided employees to Scott Brass through various service agreements. The court particularly noted that Sun Fund IV received an offset against the management fees it would otherwise have paid to the general partner for managing the investment, which provided an “economic benefit” to Sun Fund IV. Because Sun Fund IV was considered a trade or business under this standard, it could potentially be held liable for Scott Brass’s pension liabilities under ERISA.
2. Massachusetts Appeals Court Allows Hedge Fund Investors to Proceed in Suit against Funds’ Auditor
Twenty-six individuals and entities were limited partners of the Rye Select Broad Market Prime Fund, L.P. and the Rye Select Broad Market XL Fund, L.P., two Madoff feeder funds (collectively, the “Rye Funds”). The Rye Funds were managed by Tremont Partners, which served as their general partner. The Rye Funds were ultimately determined to have no value.
In 2010, the limited partners sued the Rye Funds’ auditor, KPMG LLP (“KPMG”), and others, bringing claims for fraud in the inducement, negligent misrepresentation, violation of Massachusetts law governing unfair business practices, aiding and abetting fraud, and professional malpractice. KPMG argued in defense that it was employed by the Rye Funds, not the limited partners, and that the plaintiffs’ claims were derivative claims of the company or were owned by the Rye Funds, which would mean that the plaintiffs lacked standing or would be required to arbitrate. The trial court held that all claims other than the aiding and abetting claim were direct and belonged to the investors. KPMG appealed.
The Massachusetts Appeals Court upheld the trial court’s decision.10 The court reasoned that the plaintiffs’ claims that KPMG induced them to invest were direct because they “describe an individualized harm independent of harm to the Rye Funds, and rest on a duty to each plaintiff that is not merely derivative of KPMG’s fiduciary duties as the Rye Funds’ auditor, but rather arises from KPMG’s misstatements and professional incompetence.” The losses suffered by the plaintiffs, including payment of taxes based on auditor-prepared tax statements, were also direct because the limited partners, not the Rye Funds, paid the taxes. Finally, while the Rye Funds had consented to arbitration, the plaintiffs had not, and could not be compelled to arbitrate.
3. U.S. District Court Upholds Hedge Fund’s Security Interest in Forfeited Assets of Marc Dreier
Beginning in 2002, attorney Marc Dreier (“Dreier”) issued fraudulent promissory notes, resulting in $400 million in damages. In 2009, he pleaded guilty and was sentenced to 20 years in prison and ordered to pay nearly $400 million in restitution. As part of the conviction, Dreier forfeited certain assets to the U.S. government, including works of art by well-known artists such as Andy Warhol.
Hedge fund companies Elliott International L.P. and Elliott Associates, L.P. (collectively, “Elliott”) had been given a security interest in eighteen of the works of art related to their purchase of $100 million of fraudulent notes. Elliott’s successor-in-interest, Heathfield Capital Limited (“Heathfield”), sought to recover the artwork, worth approximately $33 million, arguing that its security interest gave it priority over the other victims of the fraud. The other victims opposed the application, arguing that (i) Elliott could not reasonably have believed that the artwork was not subject to forfeiture, (ii) the security interest was invalid, (iii) no “value” was given for the security interest, and (iv) the security interest was a fraudulent conveyance.
The U.S. District Court for the Southern District of New York ruled that Heathfield had established its entitlement to the artwork.11 First, the court held that none of the red flags Elliott could have seen—Dreier’s failure to provide the note sellers’ financial information, the potential conflict of interest between Dreier and the note holders, and the unusual nature of the collateral—were sufficient to put Elliott on notice of the fraud.
Second, the other victims argued that the fraud rendered the security agreement invalid. The court ruled that there was no fraud with respect to the security agreement itself.
Third, while only a “purchaser for value” is protected in its property interest, Elliott had promised to pay $1.65 million in exchange for the artwork if any one of three stipulated events occurred. The court found that this constituted sufficient value.
Finally, the court held that the security interest could not be set aside as a fraudulent transfer under New York law, because a creditor may not set aside a fraudulent conveyance against a “purchaser for fair consideration without knowledge of the fraud at the time of the purchase.” Therefore, the court held that Heathfield was entitled to recover the artwork under the security agreement.
IV. REGULATORY ENFORCEMENT
Regulators and prosecutors have continued their intense scrutiny of hedge fund advisors, and it seems unlikely that this focus will wane anytime soon. Recent remarks by SEC Chair Mary Jo White underscore the vigor with which the agency is pursuing perceived misconduct by investment advisors. For instance, Ms. White stated that one of the SEC’s goals “is to see that the SEC’s enforcement program is – and is perceived to be – everywhere, pursuing all types of violations of our federal securities laws, big and small.”12 This “cover the whole market” approach includes focusing on “protecting investors from misconduct by investment advisers at hedge funds, private equity funds, and mutual funds.”13
In that regard, covering the market for the SEC is increasingly more of a global initiative. As one example, it was reported in September that the SEC visited more than a dozen London-based SEC-registered hedge fund advisors to determine whether they were complying with U.S. hedge fund regulations.14 In advance of these examinations, the hedge fund advisors reportedly received letters requesting “voluminous information . . . like personal trading records as well as e-mails and instant messages.” The SEC was said to be partnering with the Financial Conduct Authority, Britain’s chief financial regulator, to strengthen the collective oversight of these foreign hedge fund advisors.
Similarly, Norm Champ, Director of the SEC’s Division of Investment Management, outlined in a September 2013 speech some of the SEC’s current regulatory priorities with respect to hedge funds.15 Observing that SEC improvements in registration, data analysis and reporting requirements produced “more cognizant regulators”, Mr. Champ stated that the SEC was better able to employ risk-monitoring analytics to “conduct rigorous quantitative and qualitative financial analysis” of the
investment management industry. Mr. Champ added that the “prosecution” of alleged insider trading continues to be an area of active enforcement by the Commission, as well as related actions brought to encourage hedge fund advisors to institute proper compliance controls.
One other recent development that may spur even further regulatory scrutiny of the hedge fund industry is the lifting of a long-time ban on hedge fund advertising to investors. SEC Chair Mary Jo White stated that “[t]he staff will be closely monitoring and collecting data on this new market to see how it in fact operates . . . and assessing whether and to what extent changes in the private offerings market may lead to additional fraud or not.”16 This data collection effort will provide the SEC with even more information to flag matters for examination and investigation.
Since 2010, the SEC has brought over 100 cases against hedge fund advisors and managers. The SEC’s recent public comments and hedge fund initiatives indicate that the agency intends to keep up this rapid pace of enforcement for the remainder of 2013 and beyond. Below we examine recent enforcement developments involving (a) short selling; (b) insider trading; (c) fraudulent misrepresentations; and (d) conflicts of interest.
A. Short Selling
On September 17, 2013, the SEC announced charges against twenty-three investment management firms, including some hedge fund managers, for short selling in violation of Rule 105 of Regulation M under the Securities Exchange Act of 1934, as amended (the “Exchange Act”).17 Rule 105 prohibits short sales of equity securities during a restricted period – usually five days – prior to a public offering of that security and the purchase of that same security through the offering. The prohibition applies regardless of the trader’s intent. It seeks to prevent manipulation of stock prices by short selling just prior to an offering and then covering of the short positions with shares bought in the offering.
Twenty-two of the twenty-three firms settled with the SEC, resulting in a total of more than $14.4 million in monetary sanctions. In addition, the SEC’s National Examination Program concurrently released a risk alert highlighting best practices for compliance with Rule 105.18 Two of the above-noted settlements are described below.
1. In re D. E. Shaw & Co., L.P.
The SEC charged that D.E. Shaw & Co., L.P., (“D.E. Shaw”), a prominent investment adviser, engaged in five separate violations of Rule 105 from April 2011 to March 2012, involving the stock of Radian Group, Inc., DDR Corp., Kraton Performance Polymers Inc., Vical Incorporated, and Hercules Offshore, Inc. 19 In each instance, the SEC found that D.E. Shaw “bought offered shares from an underwriter or broker or dealer participating in a follow-on public offering after having sold short the same security during the restricted period.” The SEC also found that D.E. Shaw purchased the shares at prices below the weighted average of the shares that were short sold during the restricted period resulting in illegal profits of $447,794.00.
D.E. Shaw agreed to pay disgorgement of $447,794.00, prejudgment interest of $18,192.37, and a civil money penalty in the amount of $201,506.00 (for a total of $667,492.37). D.E. Shaw also agreed to cease and desist from committing or causing any violations and any future violations of Rule 105. The SEC noted that it considered D.E. Shaw’s remedial efforts and cooperation with SEC staff.
2. In re Hudson Bay Capital Management LP
The SEC claimed that, from May 2009 to December 2012, Hudson Bay Capital Management LP (“Hudson Bay”), another prominent investment adviser, violated Rule 105 during four separate
transactions involving the stock of MGIC Investment Corp., American International Group, Inc., Petroleo Brasileiro SA, and Wells Fargo Co.20 In each instance, the SEC found that Hudson Bay “bought offered shares from an underwriter or broker or dealer participating in a follow-on public offering after having sold short the same security during the restricted period.” In total, Hudson Bay’s alleged violations of Rule 105 resulted in illegal profits of $665,674.96.
Hudson Bay agreed to pay disgorgement of $665,674.96, prejudgment interest of $11,661.31 and a civil money penalty in the amount of $272,118.00 (for a total of $949,454.27). Hudson Bay also agreed to cease and desist from committing or causing any violations and any future violations of Rule 105. The SEC noted Hudson Bay’s remedial efforts and cooperation with SEC staff in the settlement order.
B. Insider Trading
The spate of high profile insider trading enforcement actions stemming from the S.A.C. Capital Advisors L.P. (“SAC”) investigation continues. Since the SAC investigation began, at least eleven current or former employees of SAC have been charged with or implicated in insider trading, five of whom have pled guilty. In July 2013, the SEC instituted administrative proceedings against Steven A. Cohen (“Cohen”), SAC’s founder, for failing to supervise two of his portfolio managers who have been indicted on insider trading charges stemming from their trading for SAC-advised hedge funds. The SEC also charged an outside analyst and an SAC portfolio manager with insider trading.21 Most recently, SAC pled guilty to one count of wire fraud and four counts of securities fraud in connection with alleged insider trading by employees as part of a global settlement resolving both civil and criminal charges.22 The civil portion of that settlement was approved by the court on November 6, 2013. A decision by the court on whether to accept the criminal plea agreement was deferred until March 2014. Below, we provide further information on the SEC enforcement actions involving SAC since our last update, as well as two additional insider trading cases.
1. United States v. S.A.C. Capital Advisors, L.P.
On November 4, 2013, SAC entered into an agreement to settle charges from parallel actions — a criminal case23 and a forfeiture judgment in a civil money laundering and forfeiture action24 — alleging various insider trading schemes within the firm from 1999 to 2010.25 SAC agreed to a $1.8 billion fine, the largest insider trading penalty in history. However, SAC was credited with the $616 million payment it made to the SEC in March 2013 to resolve related insider trading charges. SAC also agreed to shut down its investment advisory business and no longer accept outside funds. SAC agreed to a five-year probation term, to implement new anti-insider trading compliance measures, and to subject SAC’s compliance regime to review by an independent compliance expert. Significantly, the settlement agreement does not provide any individual with immunity from prosecution.
On November 6, 2013, the Honorable Richard J. Sullivan approved the civil portion of the case. With respect to the criminal portion, SAC pleaded guilty pursuant to the plea agreement. However, the Honorable Laura T. Swain deferred until March 2014 a decision about whether to accept the plea agreement.
2. In re Steven A. Cohen
On July 19, 2013, the SEC instituted administrative proceedings against Cohen,26 the founder, owner and controller of various SAC investment advisers, including S.A.C. Capital Advisors, LLC, and SAC.27 The SEC alleges that Cohen supervised two traders, Mathew Martoma (“Martoma”) and Michael Steinberg (“Steinberg”), whom Cohen allegedly had reason to believe were trading on material, non-public information.28 Martoma is alleged to have built up long positions in the stock of two
pharmaceutical companies despite other analysts advocating against the long positions. These analysts allegedly questioned whether Martoma was in possession of non-public information. According to the SEC, when Cohen later learned that a doctor had provided his portfolio managers with potentially non-public information about a clinical trial involving the pharmaceutical companies, Cohen expressed no concern and instead encouraged Martoma to speak with the doctor about the trials.
Concerning Steinberg, just days prior to Dell Inc. (“Dell”) announcing its quarterly financial results, Steinberg allegedly received an email that disclosed a “gross profit margin range” for Dell that was obtained from “someone at the company.” The email was allegedly then forwarded to Cohen. Despite having allegedly received this email, Cohen failed to take action to determine whether Steinberg was engaged in unlawful conduct and instead immediately sold his entire long position in Dell, which was in excess of $11 million.
Cohen was charged with “fail[ing] reasonably to supervise Martoma and Steinberg with a view to preventing their violations of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.” The SEC administrative order seeks to determine “if . . . remedial action is appropriate in the public interest against [Cohen] pursuant to Section 203(f) of the Advisers Act including, but not limited to, civil penalties pursuant to Section 203(i) of the Advisers Act.”
3. SEC v. Richard Lee
On July 25, 2013, the SEC charged SAC portfolio manager Richard Lee (“Lee”) with insider trading for executing illegal trades in Yahoo! Inc. (“Yahoo”) and 3Com Corporation (“3Com”) securities, generating more than $1.5 million in illicit profits.29 According to the SEC’s allegations, in July 2009 Lee received a tip regarding an internet search engine partnership between Yahoo and Microsoft Corporation (“Microsoft”) from a sell-side research analyst, who in turn had received the information from a Microsoft employee. Once Lee received what he allegedly characterized as “very specific information,” Lee purchased Yahoo shares for his own trading account and hundreds of thousands of shares for the portfolio he managed on behalf of SAC.
According to the complaint, Lee subsequently received an insider trading tip from a Beijing-based consultant, with ties to 3Com executives, that Hewlett-Packard Company was planning to acquire 3Com. Lee then allegedly purchased several hundred thousand shares of 3Com stock for the portfolio he managed on behalf of SAC.
On July 30th, 2013, the SEC amended its complaint against Lee to include insider trading charges against Sandeep Aggarwal (“Aggarwal”) who was the purported source of the above-referenced information concerning Yahoo.30 According to the SEC, Aggarwal received information from a close friend at Microsoft which indicated that the Microsoft-Yahoo partnership agreement was nearing completion and that a deal would be announced in the next two weeks.31 Aggarwal then allegedly passed the information to Lee during a phone call.
Lee and Aggarwal are charged with violations of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder. The SEC’s complaint seeks to permanently restrain and enjoin Lee and Aggarwal from violating Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and to disgorge ill-gotten gains and pay fines and prejudgment fines pursuant to Section 21A of the Exchange Act.
In a parallel case, the U.S. Attorney’s Office for the Southern District of New York filed criminal charges against Aggarwal.32
4. SEC v. Whittier Trust Company
On June 7, 2013, the SEC charged Whittier Trust Company (“Whittier Trust”) and Victor Dosti (“Dosti”), a former fund manager, with insider trading in connection with the SEC’s ongoing investigation into expert network firms.33
The SEC alleges that Dosti generated illicit profits and avoided losses for the Whittier Trust funds he managed by trading on non-public, material information he obtained from Danny Kuo,34 his supervisor at Whittier Trust. The SEC alleges that Dosti traded on inside information involving Dell, Nvidia Corporation (“Nvidia”), and Wind River Systems, Inc. (“Wind River”).
Concerning Dell, the complaint alleges that a Dell employee passed material nonpublic information to Sandeep Goyal (“Goyal”). In turn, Goyal allegedly passed this information to Jesse Tortora (“Tortora”), who at the time was an analyst at the investment adviser firm Diamondback Capital Management, LLC. Tortora allegedly subsequently passed the information onto Kuo, who then allegedly relayed it to Dosti. Allegedly based on this inside information, Dosti and Kuo traded Dell securities from at least May through August 2008.35
As for Nvidia, the complaint alleged that Kuo regularly obtained material nonpublic information during 2009 and 2010 concerning Nvidia financial results, from an individual who had himself obtained the inside information from a Nvidia finance department employee. Kuo allegedly passed the information to Dosti, who then caused the Whittier Funds to execute trades in Nvidia securities in advance of its public earnings announcements.
Regarding Wind River, the complaint alleges that Kuo obtained material non-public information from an Intel employee concerning Intel’s negotiations to acquire Wind River. Kuo allegedly then emailed the information to Dosti, who traded based on it.
The SEC alleges that Dosti garnered illegal profits and avoided losses of more than $475,000 for trading ahead of five quarterly earnings announcements by Dell and Nvidia.36 The SEC also alleges that Dosti made $247,000 in illicit profits for Whittier Trust funds by trading Wind River stock.
The SEC charged Whittier Trust and Dosti with violating Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Section 17(a) of the Securities Act. Whittier Trust agreed to pay disgorgement of $724,051.62, prejudgment interest of $75,296.00 and a penalty of $724,051.62 (for a total of $1,523,399.24). Dosti agreed to pay disgorgement of $77,900.00, prejudgment interest of $2,951.43, and a penalty of $77,900.00. The settlements are subject to court approval and would permanently enjoin Whittier Trust and Dosti from future violations of the above federal securities laws. In agreeing to the settlements, Whittier Trust and Dosti neither admitted nor denied the SEC’s charges.
5. SEC v. Cuban
On October 16, 2013, a jury in the United States District Court for the Northern District of Texas found Mark Cuban (“Cuban”) not liable for insider trading after an eight-day trial. The SEC alleged that Cuban violated Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, for allegedly trading on material, non-public information.37
By way of background, the complaint alleged that on June 28, 2004, Guy Faure (“Faure”), the then-Chief Executive Officer of Mamma.com (“Mamma”), called Cuban — then Mamma’s largest shareholder — to invite him to invest in a private investment in public equity (“PIPE”) offering by the company. According to the complaint, Faure prefaced the call by informing Cuban that he had confidential information to convey and Cuban allegedly agreed to keep that information confidential.38 Cuban then
allegedly stated, “Well, now I’m screwed. I can’t sell.” Cuban also allegedly knew that the PIPE offering would be conducted at a discount to Mamma’s market price and that it would dilute existing shareholders, including Cuban.39 Cuban then sold his entire position — 6.3% of the company— during the two days leading up to the public announcement of the PIPE offering. The SEC alleged that Cuban avoided losses in excess of $750,000 by selling ahead of the public announcement.
The United States District Court for the Northern District of Texas initially dismissed the complaint as failing to state a claim.40 The court held that a confidentiality agreement alone, that was not accompanied by an agreement not to trade, was an insufficient basis for liability under the misappropriation theory.
The Court of Appeals for the Fifth Circuit vacated the District Court’s decision and remanded the case back to the District Court for further proceedings.41 It held that the SEC’s complaint sufficiently stated a claim because “the allegations, taken in their entirety, provide more than a plausible basis to find that the understanding between [Faure] and Cuban was that he was not to trade, and it was more than a simple confidentiality agreement.”
At trial, the District Court instructed the jury that the recipient of information subject to a confidentiality agreement is not prohibited from trading in reliance on that information if he or she has only agreed to keep the information confidential and has not agreed to abstain from trading on that information.42 After considering the evidence, the jury found Cuban not liable.43 The jury found that Cuban had not agreed to not trade on the information he received from Faure. The jury also found that Cuban did not receive material, non-public information about the PIPE offering.
C. Fraudulent Misrepresentation
The SEC continues to pursue hedge fund advisors whom the SEC staff believes are enticing and retaining investors by means of false representations concerning the performance and management of their funds. Often, these allegedly fraudulent activities target affinity groups or other specific categories of investors. One such example is described below.
SEC v. Cohn
On August 6, 2013, the SEC charged Clayton A. Cohn (“Cohn”), a former Marine, and his investment advisory firm, Marketaction Advisors, LLC (“MA Advisors”), with a scheme to defraud veterans and current military personnel, by selling them investment interests in his Chicago-based hedge fund, Marketaction Capital Management, LLC (the “Marketaction Fund”).44 According to the complaint, Cohn raised approximately $1.78 million from 24 investors, while claiming to be a successful trader and investor, when he was nothing of the sort. Cohn allegedly also used a charity that he controlled – the Veteran’s Financial Education Network – to tout his investment acumen.
The SEC alleges that Cohn invested less than half of the investor funds in the Marketaction Fund, and those that were invested in the Marketaction Fund are now worthless. Instead, Cohn allegedly used investor monies “on personal items, including rent payments on a $10,000/month mansion in Los Angeles, payments on a luxury sports car, gambling, extravagant tabs at high-end nightclubs, and the purchase of luxurious personal items.”
The SEC further alleges that Cohn misled investors about the performance of the Marketaction Fund by generating false financial reports, lying about the use of outside auditors, and misrepresenting his personal financial stake in the Marketaction Fund. For example, according to the SEC, Cohn generated and sent investors false financial reports stating that the Marketaction Fund had an annual return of nearly 200% in 2012. Cohn also purportedly claimed that he had generated a 132% cumulative return
on trading activities from 2008 through 2011, although his brokerage statement reflected little to no net profits. Additionally, contrary to his claim to investors, Cohn never invested heavily in his funds. In all, he invested around $4,000 of his own money in the Marketaction Fund, while claiming to one potential investor that he had personally invested $1.5 million.
The SEC order charged Cohn and MA Advisors with violations of Section 5(a), Section 5(c), Section 17(a)(1), and Section 17(a)(2) and (3) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Section 206(1), Section 206(2), and Section 206(4) of the Advisers Act and Rule 206(4)-8, thereunder. The SEC is seeking to enjoin Cohn and MA Advisors from future violations of these federal securities laws. The SEC is also seeking disgorgement of ill-gotten gains, and the payment of prejudgment interest, and a civil penalty.
D. Conflicts of Interest
Transactions that pose conflicts of interest remain a key part of the SEC’s regulatory focus. One potential type of conflict of interest arises when a fund manager executes a “principal transaction.” According to the SEC, in a principal transaction, “an adviser acting for its own account buys a security from a client account or sells a security to a client account.” 45 Potential conflicts can arise in principal transactions between the interests of the adviser and the client. Advisers in principal transactions are required to disclose any financial interest or conflicted role in writing when advising a client on the other side of the trade, and must obtain the client’s consent. Below is an example of an enforcement action in connection with a hedge fund adviser breaching his fiduciary obligations by failing to disclose a conflict of interest in a principal transaction.
In re Shadron L. Stastney
On September 18, 2013, the SEC filed an order instituting settled administrative proceedings against Shadron L. Stastney (“Stastney”), a principal at investment advisory firm Vicis Capital LLC, (“Vicis Capital”), for breaching his fiduciary duty to a hedge fund managed by Vicis Capital, Vicis Capital Master Fund (the “Master Fund”).46 Stastney allegedly arranged for the Master Fund to purchase a $7.5 million basket of illiquid assets from a friend and outside business partner, without disclosing that Stastney had a financial stake in the transactions, as he stood to receive, and did receive, a portion of the proceeds from the sale totaling $2,732,095.
According to the SEC, Stastney had a fiduciary duty to disclose to the Master Fund and to his partners at Vicis Capital that he would materially benefit from the transactions. The SEC alleges that Stastney informed his two partners at Vicis Capital of the proposed transactions before they took place, but he failed to disclose his personal financial interest. Stastney also purportedly failed to disclose his personal financial interest to the Chief Financial Offer and Chief Compliance Officer at Vicis Capital.
The SEC alleges that Stastney’s conduct violated Sections 206(2) and 206(3) of the Advisers Act. Stastney agreed to cease and desist from future violations of these provisions. Stastney further agreed to pay disgorgement of $2,033,710.46, prejudgment interest of $501,385.06, and a penalty of $375,000 (for a total of $2,910,095.52). Stastney also agreed to an eighteen-month suspension from association with any investment company, investment adviser, broker, dealer, municipal securities dealer, or transfer agent. The SEC allowed Stastney to continue to work on winding down the Master Fund under the oversight of an independent monitor at Stastney’s personal expense. Stastney did not admit or deny any of the findings contained in the order.
If you have any questions concerning these developing issues, please do not hesitate to contact any of the following Paul Hastings lawyers:
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Morgan J. Miller 1.202.551.1861 email@example.com
1 As reported in our Fall 2011 Report, the DOL withdrew its proposed rule amending the definition of “fiduciary” under ERISA on September 19, 2011.
2 Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010, available at http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2011:174:0001:01:EN:PDF.
3 Regulation (EU) No 648/2012 of the European Parliament and of the Council of 4 July 2012 on OTC Derivatives, Central Counterparties and Trade Repositories, available at http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2012:201:0001:0059:EN:PDF.
4 A withholdable payment is defined to mean, subject to certain exceptions: (i) any payment of interest, dividends, rents, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, and other fixed or determinable annual or periodical gains, profits, and income, if such payment is from sources within the United States; and (ii) any gross proceeds from the sale or other disposition of any property of a type which can produce interest or dividends from sources within the United States.
5 Hom, (DC CA 9/30/2013) 112 AFTR 2d ¶2013-839.
6 T.C. Memo 2013-199.
7 In re: Libor-Based Financial Instruments Antitrust Litigation, No. 11-md-2262 (S.D.N.Y. March 29, 2013).
8 29 U.S.C. § 1381, et seq.
9 Sun Capital Partners III, LP v. New England Teamsters and Trucking Industry Pension Fund, No. 12-2312 (1st Cir. July 24, 2013).
10 Ashkenazy v. KPMG LLP, No. 12-P-863 (Mass. App. Ct. May 23, 2013).
11 United States v. Dreier, No. 09-CR-085 (S.D.N.Y. July 2, 2013).
12 Chair Mary Jo White, Remarks at the Securities Enforcement Forum, Washington, D.C. (Oct. 9, 2013), available at http://www.sec.gov/News/Speech/Detail/Speech/1370539872100#.Un01ZPmkpvE.
13 Chair Mary Jo White, Deploying the Full Enforcement Arsenal, Council of Institutional Investors Fall Conference, Chicago, IL (Sept. 26, 2013), available at http://www.sec.gov/News/Speech/Detail/Speech/1370539841202#.Un01hvmkpvE.
14 Anita Raghavan, Wielding Broader Powers, S.E.C. Examines Hedge Funds in London, N.Y. Times Dealbook (Sept. 17, 2013).
15 Norm Champ, Dir. of Division of Investment Mgmt., Current SEC Priorities Regarding Hedge Fund Managers, PLI Hedge Fund Management Conference, New York, NY (Sept. 12, 2013), available at http://www.sec.gov/News/Speech/Detail/Speech/1370539802997#.Un01mvmkpvE.
16 Sarah N. Lynch, SEC Prepares For Hedge Fund Ad Blitz, Reuters (Sept. 17, 2013).
17 SEC Release No. 2013-182 (Sept. 17, 2013), SEC Charges 23 Firms With Short Selling Violations in Crackdown on Potential Manipulation in Advance of Stock Offerings, available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539804376#.UmqKr_mkpCY.
18 SEC National Exam Program, Risk Alert- Rule 105 of Regulation M: Short Selling in Connection with a Public Offering, Volume III, Issue 4, Sept. 17, 2013, available at http://www.sec.gov/about/offices/ocie/risk-alert-091713-rule105-regm.pdf.
19 Administrative Proceeding, File No. 3-15476 (Sept. 16, 2013), available at http://www.sec.gov/litigation/admin/2013/34-70396.pdf.
20 Administrative Proceeding, File No. 3-15478 (Sept. 16, 2013), available at http://www.sec.gov/litigation/admin/2013/34-70399.pdf.
21 SEC Release No. 2013-134 (July 25, 2013), SEC Charges Former Portfolio Manager at S.A.C. Capital with Insider trading, available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539732673, and SEC Release No. 2013-137 (July 30, 2013), SEC Charges Tipper of Confidential Information to S.A.C. Capital Portfolio Manager, available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539735656.
22 Max Stendahl, SAC Capital to Plead Guilty to Insider Trading, Pay 1.2B, Law360 (Nov. 4, 2013); see United States v. S.A.C. Capital Advisors, L.P., 13 Cr. 541 (LTS) (Jul. 23, 2013).
23 United States v. S.A.C. Capital Advisors, L.P., et al., 13 Cr 541 (LTS).
24 United States v. S.A.C. Capital Advisors, L.P., et al., 13 Civ. 5182 (RJS).
25 S.D.N.Y. Press Release, Manhattan U.S. Attorney Announces Guilty Plea Agreement with SAC Capital Management Companies, (Nov. 4, 2013), available at http://www.justice.gov/usao/nys/pressreleases/November13/SACPleaPR.php.
26 Administrative Proceeding, File No. 3-15382 (July 19, 2013), available at http://www.sec.gov/litigation/admin/2013/ia-3634.pdf.
27 S.A.C. Capital Advisors, LLC’s role was assumed by S.A.C. Capital Advisors, L.P. in 2008.
28 Administrative Proceeding, File No. 3-15382, ¶¶3, 25.
29 SEC Litig. Release No. 22761 (July 25, 2013), SEC Charges Former Portfolio Manager At S.A.C. Capital with Insider Trading, available at http://www.sec.gov/litigation/litreleases/2013/lr22761.htm.
30 SEC Litig. Release No. 22763 (July 30, 2013), SEC Charges Tipper of Confidential Information to S.A.C. Capital Portfolio Manager, available at http://www.sec.gov/litigation/litreleases/2013/lr22763.htm.
31 SEC v. Lee and Aggarwal, Civil Action No. 13-CV-5185 (S.D.N.Y. July 30, 2013), Complaint ¶¶2, 16-25.
32 SEC Litig. Release No. 22763.
33 SEC Litig. Release No. 22725 (June 12, 2013), SEC Files Insider Trading Charges Against Whittier Trust and Fund Manager, available at http://www.sec.gov/litigation/litreleases/2013/lr22725.htm.
34 Kuo was charged with insider trading in January 2012, and he is currently cooperating with the SEC’s investigation. Id.
35 SEC v. Victor Dosti and Whittier Trust Company, Civil Action No. 13-civ-3897 (S.D.N.Y June 7, 2013), Complaint ¶¶20-26.
36 SEC Litig. Release No. 22725.
37 SEC Litig. Release No. 20810 (Nov. 17, 2008), SEC Files Insider Trading Charges Against Mark Cuban, available at http://www.sec.gov/litigation/litreleases/2008/lr20810.htm.
38 SEC v. Cuban, 634 F. Supp. 2d 713, 717, 731 (N.D. Tex. 2009), vacated, 620 F.3d 551 (5th Cir. 2010).
39 SEC Litig. Release No. 20810.
40 Cuban, 634 F. Supp. 2d at 718.
41 SEC v. Cuban, 620 F.3d 551 (5th Cir. 2010).
42 Cuban, 634 F. Supp. 2d at 730-31.
43 Andrew Harris and Tom Korosec, SEC Loses as Mark Cuban Triumphs in Insider-Trading Trial, Bloomberg (Oct. 17, 2013).
44 SEC v. Cohn (N.D. Ill., Aug. 6, 2013), Civil Action No. 13-CV-05586, Complaint ¶1.
45 SEC Release No. 2013-183 (Sept. 18, 2013), SEC Charges N.Y.-Based Hedge Fund Adviser With Breaching Fiduciary Duty By Participating in Conflicted Principal Transaction, available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539811779.
46 Administrative Proceeding, File No. 3-15500 (Sept. 18, 2013), available at http://www.sec.gov/litigation/admin/2013/ia-3671.pdf.
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Hedge fund report - summary of key developments - Fall 2013
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