April 25, 2013
Interviewed by: David Snow
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The Little Form That’s Causing Big Headaches

Form PF for private equity – with 2000 separate fields of disclosure, this new SEC requirement for private equity funds is fundamentally changing the job of managing a private equity firm. Three compliance experts discuss process of complying with Form PF: Adam Weinstein and Paula Bosco of private equity firm New Mountain Capital and Gary Kaminsky, a former SEC enforcement division attorney and now a Managing Director at ConceptONE (as well as former Principal at Rothstein Kass). This is essential viewing for the team charged with keeping the firm compliant and in tune with the best in enterprise risk management. Part one of a series.

Form PF for private equity – with 2000 separate fields of disclosure, this new SEC requirement for private equity funds is fundamentally changing the job of managing a private equity firm. Three compliance experts discuss process of complying with Form PF: Adam Weinstein and Paula Bosco of private equity firm New Mountain Capital and Gary Kaminsky, a former SEC enforcement division attorney and now a Managing Director at ConceptONE (as well as former Principal at Rothstein Kass). This is essential viewing for the team charged with keeping the firm compliant and in tune with the best in enterprise risk management. Part one of a series.

The Era of Form PF
Excellence in Compliance

David Snow, Privcap:
Today we are joined by Gary Kaminsky of Rothstein Kass; Adam Weinstein of New Mountain Capital; and Paula Bosco of New Mountain Capital. Welcome, all of you, to Privcap today.

We are talking about compliance and private equity. Big topic, there’s a lot we could discuss, but why don’t we start with one of the big issues that seems to be on a lot of people’s minds because they’re all doing it for the first time, which is filing Form PF. The deadline is upon us, many groups have already filed. Paula, you led the effort with Form PF, right?

Paula Bosco, New Mountain Capital:
I did, my team and I led the effort, but we also relied heavily on other groups in our firm. So Adam and his finance and operations team and also some of the third parties like our administrator who had certain types of information that we needed to complete the form.

Snow: So what was that like? What lessons can you share with us?

Bosco: You know, it was an interesting process for us, I think we had an easier go of it than other firms because we are used to filing regulatory forms, and so we have a good process in place to identify the folks in the firm who are going to pull that information together and how we’re going to get it done. But it was definitely a form that took a lot longer than any other form that we had ever filed, and so, it was interesting for us to understand exactly what type of information we had available to us and where we had to go to get other information.

And then once we started getting that information and naturally putting it into the document allowed us to kind of look across the product offering or even across our firm to understand what types of risks we had and what type of business we were doing, and it forced us to think about certain questions in a way that we were just not thinking about before, and so, from that perspective, I think it has definitely strengthened our compliance and our finance and operation program.

Snow: And, Adam, as the Co-CFO of New Mountain Capital, and you were part of this process as Paula said, what did you learn, what surprised you, what maybe didn’t surprise you?

Adam Weinstein, New Mountain Capital:
Yeah, so really, one member of my team that Paula alluded to on our hedge fund side now that that’s complete, he really kind of led the effort on the finance operation side. And, you know, his view and my view through conversation was, so much of it was just learning, you know, definitions, like what does “unencumbered cash” mean and trying to get, you know, what this would mean in this scenario versus that scenario, or how do I bucket this asset or that asset, or, you know, which fund do I have to put, you know, in the filing, we had a lot of questions like that.

And some of those earlier questions I was pretty involved with, but, you know, then when we got to understand at least what the definitions were, then it came down to actually pulling in the data. And so I think, you know, the lesson learned is, you know, for us, is always just, you know, seek out advice on it, the truth is, people were kind of dealing with the same thing because it wasn’t like 25 other firms had done this two years ago. So everyone was kind of dealing with the same thing.

But, I think people should make sure that they are seeking out advice, they’re talking to others. I’m always a fan of informal people that you have in some informal setting to call and ask them what their opinion is. And utilize technology, I mean, I think Paula and one of her lieutenants recommended a technology that was hugely helpful, and so I think people need to utilize technology to help them with it.

Bosco: And that’s a very good point, one of the lessons I learned was that you should not underestimate the role that technology plays in these filings and the role that technology will continue to play. For instance, you had to apply to get certain passwords to even be able to get on to the system to file the form, and then there were separate passwords to be able to go on and do a test filing. And, within all that, you had to make sure that your account was funded, and so, all those moving pieces, I think the SEC is definitely moving in that direction of leveraging technology, and so be prepared for that because that could be a huge time issue.

Snow: And, Gary, as someone who helps clients file Form PF, what are they saying to you about it when they’re not swearing and using curse words?

Gary Kaminsky, Rothstein Kass:
Well, you know, I’d like to think that, once they’ve hired us, that they don’t swear. Or, if they do, they don’t swear at us, it’s nothing like anything we’ve ever seen, there are over 2,000 data sets, up to 50 questions. Requiring the aggregation of data from multiple sources. And a ton of interpretive questions that need to be dealt with.

So, you really need to put a deliberative approach. You need to give yourself plenty of time because it’s clearly a Murphy’s Law type of thing. Tons of things go wrong. And I think the technology is essential. Firms who say, “Well, I could just fill this out,” I think they’re really making a mistake from a couple perspectives. One is they’re underestimating the amount of time that would take.

But also, they’re not building anything. There’s no repeatable process. There’s no real good record of what you’ve done. And it also is the preferred way that the SEC or FSOC because it really goes through FINRA to FSOC gets the information is through XML format. And if you don’t do it that way, in some ways, you’re an outlier at the get-go. But you do need to leave enough time, and you also have to allocate resources, both internal and external.

And you can’t be afraid to spend money. Because the OCIE and enforcement have made it clear that this document is now be a primary source for them to do risk-based exams. And the exercise is much more about aligning third party reporting than it is about providing information so the government will have their finger on the pulse of systemic risk. Hopefully they will have their pulse on that. The finger on it. But the reality is they’re going to look at your PF, your ADV, your DDQ, your Annex IV and AIFMD, and if there’s disparity, they’re going to have something to hassle you about. And that becomes what Form PF is about.

Snow: So, further to your point about the SEC trying to understand systemic risk, let’s step back a bit, and my question is, what was the purpose of Form PF, is it to allow the SEC to monitor potential areas of risk within firms, or, you know, why the 2,000 fields of data?

Kaminsky: Form PF came out of the mandate of the government worrying that they didn’t know enough about systemic risk. And they want to see information about folks’ counterparties, about the geographical areas they’re trading in, about concentrations of borrowing counterparties, about how they view risk. These are all things that they’re trying to learn.

The challenge is that there are some 2,000 firms that are filing this that have any number of different ways of keeping their records and information and are making independent decisions as to how they answer these questions. The guidance isn’t bad, but it’s not really that clear. And you get a whole bunch of disparate information. It is ten separate government agencies. And it’s unclear how they’re going to make sense of it all. So, I’m not worried as much about that because that luckily is not my job. My job is to make sure that they fill it out, not incorrectly, create a repeatable process, and they have a trail.

Bosco: And I think, too, unfortunately, private equity funds got looped up into this whole concept of systemic risk just in the private fund context in general. My firm in particular, Adam, myself, and some other people, we worked with a private equity group, Capital Council, too, we spent a lot of time–

Snow: The lobbying group in Washington, D.C., right.

Bosco: The lobbying group in Washington, right, spending a lot of time meeting with the SEC, former Commissioner, Mayor Schapiro in particular and some of the other Commissioners, and we spent a lot of time educating them about what private equity is. How the funds work, how carry works. How funds are incentivized to invest. And to their credit, they were very open to it, but by that point, I think everybody had gone down the road very far along, and so, at that point, it was very difficult to step back and carve out private equity firms from this Form PF requirement.

Snow: So now that this information has been corralled, it exists, it’s voluminous, who gets to access it, and who would like to see it, and what are the rules around that?

Kaminsky: Well, I mean, there aren’t any particular rules other than it’s not subject to FOIA. So arguably, the 10 government agencies will not be giving it out. You know, whether or not it gets passed on to EU stays in connection with some of the initiatives over there, and then who knows where it goes? It’s a separate issue. From an internal perspective, it’s an arm’s length agreement with your investor base in terms of how you want to do it. I can say that, if you are comfortable having the fund pay for it, it’s going to be very difficult to not give it to the fund investors. Which is something I would not recommend.

I would not recommend giving the form in its entirety because I think that it has a whole host of information that’s not relevant to a typical institutional investor, and it has certain assumptions potentially, there’s a Question 4 element where you can qualify particular questions as to why you answered them. I would not want to give that out. This is where technology could play a very important role because the better technologies allow you to create excerpts of the form, where you are giving out relevant information, but you’re not actually printing out like a PDF and giving it out.

Some funds are saying, “We’ll let you look at it in our office.” You know, pencils down kind of thing. But I really think that it’s, well, if you have somebody who gave you a hundred million dollars, and they want to see that and whatever else they want, you’re going to be hard-pressed not to show it to them.

Bosco: Yeah, we are internally talking about all those options. The challenge for us is we’re very concerned about the confidentiality, and so, to his point, we would be very happy to have the investor come in and take a look at it on sight. Or even offer to provide whatever specific information that the investor is interested in seeing in a separate format.

Snow: You’re not just going to email it to them.

Bosco: We’re not going to email it.

Snow: Okay.

Bosco: No. And the other issue there, too, is we might have some disclosure issues, right, so, assuming an LP gets that information, they may have follow-up questions. And maybe we provide additional information to clarify some of our responses, well, then, is there an obligation to go back and update your Form PF with the information that you provided to one investor and not another investor. And so I think the waters get muddied there, and so you have to be thoughtful of that.

Kaminsky: Well that raises the question of selective disclosure, and then, if you’re giving it to one investor, some firms would feel, and some lawyers would argue you have to give it to everybody. Because there’s so much information in there, it’s hard to say there’s not material information. And if you’re disclosing that, it’s hard not to give it to everybody because then people have an advantage, and, in the private fund arena, you live and die by disclosing your PPM and marketing documents. Because there is no other-, there aren’t 10 Qs, Ks. There are 8-K press releases.

Bosco: And I would think institutional investors almost would not want that form because there is so much information in there. You know, the old adage, once you get it, you’re responsible for it, you have to do something with it. Especially, you know, the state and local pension funds, they get all that information, and what if there’s something in there that they do have possession of, and they should’ve done something with it, well then they’re on the hook. And so it really mitigates their own risk.

Weinstein: And there’s nothing from a transparency perspective that we’re not willing to provide to investors, so, to Paula’s point, just the one thing that I’d add is that, you know, there’s not one line item in Form PF that we have any issue disclosing to an LP in any way, and so, we just, you know, say to LPs, and we say things like this all the time to LPs, “Just tell us what you’re looking for. You know, if you want to send us a template, and some of those metrics are things we have to pull from Form PF, we’re happy to do it,” and so, you know, that’s what we offer rather than to Paula’s point, you know, sending them this huge document that, you know, some areas don’t have a whole lot of meaning to them but then almost like it’s their responsibility to know what it means.

Paula: Right. The focus is on the quality of the information, not the quantity.

Snow: Quick question, what is the most sensitive information collected in Form PF that would be the most difficult or problematic potentially to share? Is it related to portfolio companies?

Kaminsky: Well, I’d be interested to hear, I mean, we’ve seen a lot of sensitivities in terms of kind of the risk-, more on the risk side. What types of stress testing, what types of things cause issues, counter-parties. You have a lot of disclosure in that, now, on the PE side, that’s not as relevant.

Snow: Counterparties related to portfolio companies? Or just trading positions?

Kamkinsky: Well, like I said, in the hedge fund context, the counterparties, the PBs, the ISDA kind of counterparties. Those are the types of strategies that you’re in. The concentration to those strategies. The concentration of investors. Those are the issues that people are most sensitive about, now, for a large PE fund, they have to fill out, and I don’t know if-, are you guys filling out Section 4?

Bosco: Yes.

Kamkinsky: And, in there, I suspect that there’s some sensitive information concerning portfolio companies. Not their names but the actual debt ratios, etcetera.

Bosco: Exactly, which the portfolio–

Snow: Yeah, dare I ask what is in Section 4.

Bosco: [laughter] Well, and the portfolio companies themselves are sensitive to that information. And I don’t know, at the end of the day, and this is probably a separate conversation, but will that affect deal flow and the types of transactions that will happen, will a company prefer to, you know, be sold to a strategic rather than a sponsor because they just don’t want to fall into the purview of having to disclose that information? Because it’s not only the disclosure issue. It’s the amount of resources that they have to dedicate to pulling that information for us. And so, depending on whether you’re filing your form quarterly or annually, that could be a resource issue for them.

Snow: So there’s information around leverage applied to the portfolio companies?

Kamkinsky: Mm-hm.

Weinstein: Yeah, and so I think, again, personally, just seeing the paradigm shift over the last five years of what you provide to investors, again, from my read, and when we sat down together to talk about this kind of more initially, and again, on our private equity side, we’re just starting to go through this now, or we started, but we’re not really starting to pull the information. I don’t think there’s all that much that we don’t provide to investors in another context.

I agree on the point that, you know, getting out there into the public domain would be something that concerns. But then again, a lot of our marketing materials where we do, you know, give, you know, underlying revenue information, our business, that’s sensitive information, but LPs are in a trusted relationship with us. Are under their own confidentiality provisions with us. And so I think what you’ll find is, as we go through it a little bit more, I think there won’t be a lot in there that we wouldn’t share with them if they asked the question, anyway.

Kamkinsky: Yeah, one thing that I, just because we’re on the subject of PE and PF, I feel like it’s important to highlight, even though it’s a little off this point, and that is I just want the PE firms to realize that I would say greater than 50% of clients that I’ve looked at who look, smell, and operate as a PE fund were hedge funds — under the definition of Form PF. And that is something that I think is very misunderstood in the industry, and it’s something that you have to take account because it has great relevance when you’re filling out this form.

As Paula said, it’s the difference between being a small or large filer, it’s the difference between filing quarterly or annually because PE firms only have to file annually no matter how big they are. But if you’re a hedge fund, you’re going to file quarterly. And an example is if you reserve the right to short stock, even though you’ve never done it, never intended to do it, and it is almost irrelevant to your strategy, if you have a risk factor in your PPM that says you might do it, you’re a hedge fund for purposes of now your ADV and your Form PF. So, the definitions of what is a hedge fund, what is a private equity fund, what is a venture capital fund, are all things that you need to look at.

Bosco: And that’s an important point on fundraising, so, to the extent that your firm is raising a new fund, maybe want to take the time to look at those offering documents, don’t just copy what you used last time. But make sure that, if you have that language in your offering documents that you either remove it or change it to comport with what your expectations are your abilities and resources around Form PF.

Snow: Or you might find yourself doing it four times a year instead of just once.

Weinstein: Right.

Bosco: Absolutely.

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