3. This article is for general information only. Modernizing the SEC's Definition of Venture Capital Fund Background on SEC's VC Fund Definition Where it Came From: Dodd-Frank eliminated the exemption from registration for investment advisors with fewer than 15 clients, thus forcing hedge funds and private equity funds to become registered investment advisors (RIAs). In addition, if the fund does guarantee portfolio company debt for a period greater than 120 days, the total debt guaranteed cannot be larger than the funds investment in that portfolio company. In addition, registered investment advisers must adopt comprehensive compliance policies and a procedures manual, and a Code of Ethics that must be distributed to all firm employees, and must conduct a complete review of its compliance program on at least an annual basis. The Securities and Exchange Commission today charged New York-based investment adviser Insight Venture Management LLC with charging excess management fees and failing to disclose a conflict of interest to investors relating to its fee calculations. Both for purposes of the Venture Fund's definition and for prior funds to qualify for the "grandfathering" exemption, the Final Rule requires in Rule 203(l)-1(a)(1) that Venture Fund must have represented itself to investors and potential investors as pursuing a venture capital strategy. 2023 Proskauer Rose LLP. The fund must not be registered under Section 8 of the Company Act and has not elected to be treated as a "business development company" under Section 54 of the Company Act. 1. The SEC commentary in the Release states that "subsequent distributions" to the Venture Fund solely because it is an existing investor in the qualifying portfolio company would not necessarily cause qualifying portfolio company borrowing "in connection with" a Venture Fund's financing to be impermissible. The fund represents itself to its investors and prospective investors as pursuing a venture capital strategy; and. However, the Advisers Act, as amended by Dodd-Frank, now also includes new exemptions from registration for advisers to some "private funds," including a new Section 203(l) exemption for private fund advisers that solely advise Venture Funds. First, qualifying investments must be equity and not debt. SEC Issues Interpretive Guidance on the Venture Capital Fund Adviser Effective Date: [1] Although exempt from registration under the Advisers Act, investment advisers that rely on the VC Exemption are still required to file annual reports on Form ADV with the SEC as "exempt reporting advisers.". This is because, under the proposed rule, a qualifying portfolio company was not permitted to redeem or repurchase stock or distribute assets "in connection with" the Venture Fund's financing. See "Exemptions for Advisers to Venture Capital Funds, Private Fund Advisers With Less Than $150 Million in Assets Under Management, and Foreign Private Advisers," Investment Advisers Act Release No. A private fund adviser is an investment adviser that provides advice solely to one or more qualifying private funds, which are funds that qualify for exclusion from the definition of "investment company" under one or more of sections 3 (c) (1), 3 (c) (5) and 3 (c) (7) of the Investment Company Act of 1940 (the "ICA"). Private Fund Adviser FAQ | Texas State Securities Board Rule Exemptions From Investment Adviser Registration for Advisers to Certain Rural Business Investment Companies A Rule by the Securities and Exchange Commission on 03/10/2020 Document Details Printed version: PDF Publication Date: 03/10/2020 Agency: Securities and Exchange Commission Dates: Effective date: March 10, 2020. A venture capital fund typically uses one of two exemptions: the 3(c)(1) exemption or the 3(c)(7) exemption. Managerial Assistance/Control Not Relevant. For example, if a fund makes an investment in a non-qualifying investment that is equal to 8% of its capital commitments, and, on the date that investment is made, the fund has used 2% of its capital commitments to pay management fees, holds qualifying investments representing 65% of its capital commitments, and already holds non-qualifying investments representing 10% of its capital commitments, then the new 8% non-qualifying investment would be permitted because, immediately after its acquisition, the fund would still be holding only 18% of its capital commitments in non-qualifying investments. 3222 (June 22, 2011), available at http://www.sec.gov/rules/final/2011/ia-3222.pdf (the "Release"). Section 203(l) of the Investment Advisers Act of 1940 (the Advisers Act), also known as the venture capital adviser exemption, provides that an investment adviser that solely advises venture capital funds is exempt from registration with the SEC under the Advisers Act. Not a Registered Investment Company. SEC Issues Interpretive Guidance on the Venture Capital Fund Adviser [5] Notwithstanding this helpful guidance with respect to feeder funds, the Guidance Update does not address whether other types of alternative investment vehicles (such as alternative investment vehicles formed for tax, legal or regulatory purposes that make one or more nonqualifying investments in lieu of the venture capital fund) would similarly be disregarded. Item (ii) allows the fund to retain its interest in a qualifying portfolio company after a corporate reorganization or some other situation where there is some kind of exchange of equity interests. The information presented should not be construed to be formal legal advice nor the formation of a lawyer/client relationship. Consequently, in the event an investment adviser seeks to qualify for the . Venture capital funds frequently set up feeder funds to address varying tax, legal or regulatory concerns of their investors. Venture capital "strategy" is not defined in the Final Rule. The Final Rule sets forth five basic requirements for a private fund to be a Venture Fund: 1. [4] Advisers whose principal office and place of business is outside of the United States are not permitted to omit from Item 7.B information for private funds that are not organized in the United States and not offered to or owned by U.S. persons if those funds are treated as private funds for purposes of the Venture Capital Exemption. The Private Fund Adviser Exemption This exemption is available to U.S.-based investment advisers that: Solely manage private funds, and Have less than $150 million in assets under management (AUM) across all funds managed by the investment adviser. Register as an investment adviser with the SEC effective by March 30, 2012. As a result, the Venture Fund must have held its initial closing before 2011 and its final closing prior to the original Dodd-Frank Act registration effective date of July 21, 2011 to qualify for the grandfathering exemption. However, if the fund acquires additional shares of a portfolio company after it goes public, then that investment would not be considered a qualifying investment. Therefore, if a venture capital fund is asked to enter into an agreement to participate in all future rounds of financing of a portfolio company, that any such requirement carves out shares sold in an IPO. Further, the Basket assets are permitted to be valued at their historical cost which provides additional certainty as to the determination of whether the Venture Fund's Basket assets will fall within the 20% limit. The Staff also cautioned VC Advisers to consider their fiduciary obligations under the antifraud provisions of the Advisers Act (including Section 206(3) and Rule 206(4)-8). The SEC's definition of "equity securities" that a venture capital fund may acquire includes "instruments that are ultimately convertible into a portfolio company's common or preferred stock at a subsequent investment stage" and is intended to include many of the types of bridge financings that venture capital funds provide to portfolio companies. A qualifying portfolio company also cannot itself be a private fund, so an investment in another Venture Fund or other fund would not be a qualified portfolio company. A venture capital fund is a private fund that pursues a venture capital strategy, holds no more than 20% of assets in non-qualifying investments, does not borrow or incur leverage and does not grant investors redemption rights, except in . Nonetheless, a fund many invest in other investment vehicles with its 20% basket. In order to qualify as a "venture capital fund" for purposes of the Venture Capital Exemption, a fund may only invest in the equity securities 9 of qualifying portfolio companies, cash and cash equivalents, and US Treasuries with a remaining maturity of 60 days or less. The Final Rule also maintains the earlier proposed requirement that a qualifying portfolio company not be a public company or a control affiliate of a public company (or foreign traded). However, since the definition of qualifying portfolio company looks to the time of investment, a Venture Fund can continue to hold public securities after a qualifying portfolio company's initial public offering. Implementing Rule's Reporting Requirements for Adviser Itself. " Venture Capital Fund " = a fund that represents that it pursues venture capital strategy with 80% of its investments consisting of Qualifying Investments; that does not incur debt exceeding 15% of its aggregate capital contributions and uncalled committed capital (and debt is short term); and does not allow for redemption and liquidity. In the Guidance Update, the Staff states that it would not object to VC Advisers disregarding AIVs for purposes of complying with the VC Exemption, provided that (i) the AIV is formed solely to address investors' tax, legal or regulatory concerns, and (ii) such AIV is not intended to circumvent the VC Exemption's general limitation on investing in other investment vehicles. The amendment does not require advisers to report on private funds advised by related persons.[5]. Venture Capital Regulations: What You Need to Know | Carta of Schedule D for each private fund they (and not a related person) advise. PDF NASAA Registration Exemption for Investment Advisers to Private Funds In the event that one or more existing funds do not now comply with the Final Rule or the adviser is otherwise engaged in activities which caused it to be an investment adviser but allowed it to rely upon the Private Adviser Exemption, that exemption is gone effective July 21, 2011.