SEC has proposed an overhaul of the registration and offering rules for business
development companies and closed-end funds. The proposal provides for a shelf registration
for funds with a public float of at least $75 Million and a more flexible
offering and communications scheme for Well-Known Seasoned Issuers with a
public float over $700 Million. The proposal
would allow interval funds to pay registration fees based on the issuance of
shares rather than paying an estimate at registration. The proposed new rules would change
disclosure rules to follow operating companies, utilizing Form 8-K for significant
events and management discussion of fund performance in annual reports. A 60-day comment period will begin upon
These changes are long overdue. The current rules shoehorn BDC and closed-end funds into the mutual fund regulatory regime, resulting in some unintended regulatory consequences. While we’re sure that industry pros will debate the specifics of the proposal, it’s hard to argue that the SEC shouldn’t revamp the rules.
The BDC should be thankful it didn’t get fined. Although the SEC alleged facts suggesting that the firm should have known about the mischaracterization, an allegation that the firm intentionally juiced reported returns would have resulted in much more significant penalties.
A BDC manager’s compliance failures led to nearly $4 Million in fines, disgorgement and penalties and the loss of its advisory business. The SEC charges the firm with misallocating overhead expenses to the registered Business Development Companies it managed and with overvaluing portfolio companies. The SEC maintains that the registrant used material nonpublic information about BDC portfolio companies to benefit affiliated hedge funds that it managed. In 2014, the firm had over $2.6 Billion in assets under management but withdrew its adviser registration in 2017 following the SEC enforcement action. The SEC asserts violations of the compliance rule (206(4)-7) in addition to a laundry list of other securities laws violations.
Failure to implement an effective compliance program has consequences beyond penalties and fines. The negative impact to a firm’s and its principals’ reputations could ultimately bring down the entire franchise.