The Securities and Exchange Commission elected not to appeal a federal appeals court’s decision striking down an agency rule that required increased disclosure from private fund advisers and prohibited certain fee arrangements.
On June 5, a three-judge panel at the 5th U.S. Circuit Court of Appeals in New Orleans ruled that the SEC exceeded its statutory authority in adopting the rule. The SEC had until July 22 to appeal the decision, but no such appeal was filed.
Marc E. Elovitz, who advises private fund managers as co-managing partner at law firm Schulte Roth & Zabel, said the SEC not seeking a rehearing was expected.
“This was obviously a negative result for them, but if they did get it reheard, another decision could be even worse for them in terms of the language that’s used, the precedent that’s set,” Elovitz said. “It’s not surprising, given the low odds of them getting a favorable result, and the risks that would be associated with getting another opinion on the subject, that the SEC seems to have cut its losses and walked away.”
In an email, an SEC spokesperson declined comment.
In September, six industry groups — the National Association of Private Fund Managers, Alternative Investment Management Association, American Investment Council, Loan Syndications and Trading Association, Managed Funds Association and National Venture Capital Association — filed a lawsuit in the 5th Circuit challenging the SEC's private fund adviser rule.
The rule was finalized in August and required private fund advisers to supply investors with quarterly statements, including information about fees, expenses and performance; obtain an annual audit for each fund it manages; and acquire a fairness opinion in connection with an adviser-led secondary transaction.
Institutional investors broadly backed the rule.
The industry groups argued that the rule unlawfully restricted the long-standing, widely used business arrangements of private funds and their investors; exceeded the SEC's statutory authority; that the agency failed to provide the public a meaningful opportunity to comment on the final rule; that it did not perform an adequate cost-benefit analysis; and that the rule was arbitrary, capricious and otherwise unlawful.
The SEC defended the rule and argued that Congress granted the agency authority to promulgate such a rule in the Dodd-Frank Wall Street Reform and Consumer Protection Act, but the three-judge panel at the 5th Circuit side with the plaintiffs.
The SEC could still petition the U.S. Supreme Court to review the case, but that’s also unlikely, Elovitz said. Recent decisions from the conservative majority on the high court have signaled its “hostile to agency overreach,” Elovitz added.
The SEC in the future could attempt to promulgate a narrower version of the rule, Elovitz said, like requiring private fund quarterly reporting under antifraud provisions instead of under Dodd-Frank.
Moving forward, the 5th Circuit’s ruling could impact other SEC rule-makings, according to Elovitz.
“The SEC will have to think very carefully about how it supports any final rule-making that it does in the tail end of this administration,” he said. “If they do in fact adopt final rules on some of the authorities that were found unsound by the 5th Circuit, that will be quite controversial.”
