By: Kamil Godlewski
Product Manager
September 26, 2023
Benjamin Franklin said that there were only two sure things in life, death and taxes. He forgot, of course, regulation.
Of course, regulation in the private market sphere has remained relatively light for many years, even post-Global Financial Crisis, and especially when compared to public market regulation. Part of this has to do with the lack of retail investors in private markets, a space where – for the most part – only accredited investors are offered access. Where retail investors are susceptible to marketing claims and the risk of losing money, the SEC and other regulatory bodies prefer to loom large.
The private markets are also inherently more challenging to regulate, as their private nature makes them more illusive. While public markets typically operate on exchanges for all to witness, private market transactions happen behind close doors and via contracts and terms that are often not made public.
But private equity regulation have a growing presence, and the regulators in each region have different interests and procedures. No matter where they are located, regulators are paying attention as private equity becomes a more important part of the financial markets.
Each region has its own regulatory agency, with its own philosophy of investment governance. It can change with the political winds, Brexit being an extreme example affecting UK investment companies. A look at some of the major regional regulators shows some of the philosophical differences in their approach to regulating private equity and other private investment funds. We’ll keep it updated as we become aware of major changes.
Private equity regulation in the United States
American regulators are recently focused on enhancing their oversight of private equity regulation. In February of 2022, the Securities and Exchange Commission announced proposed rules that would expand regulation of private funds by requiring quarterly private equity reporting to limited partners including information on fees, expenses, and performance. Advisors would be prohibited from offering preferential treatment for redemption or reporting to some investors unless the preferences are disclosed to all investors, and they would no longer be allowed to seek reimbursement from investors for such things as fees for unperformed services, the costs of an SEC examination, or lines of credit from a private fund client.
In August 2023, the SEC voted to adopt these private fund rule modifications to the Investment Advisers Act of 1940. Depending on the individual rule and AUM size, firms will have 12 to 18 months to comply with the changes.
“Private fund advisers, through the funds they manage, touch so much of our economy. Thus, it’s worth asking whether we can promote more efficiency, competition, and transparency in this field,” said SEC Chair Gary Gensler.
The United States does not mandate ESG reporting, although that may change. Investors have been asking for information about ESG factors, and those based outside the US often need it to meet regulations in their home countries. The SEC has made researching these policies a priority, but it has not set any standards.
Private equity regulation in the European Union
The EU’s Alternative Investment Fund Manager Directive (AIFMD) directly affects funds based in the European Union or raising capital from EU investors. It covers the basics of marketing, recordkeeping, and risk management. One component of the AIFMD applies directly to private equity firms. This is the anti-asset stripping provision (Regulation 43 of AIFMD), which prohibits funds from making distributions, reducing capital, or redeeming shares of a non-listed company or issuer that the fund acquires for 24 months following the acquisition. Each member state has passed its own version of the directive, so regulations may differ slightly among countries.
Earlier this year, the EU added the Foreign Subsidies Regulation (FSR), designed to “review deals and impose remedies on companies that have received financial contributions from non-EU countries if those contributions threaten to distort competition in the EU,” as explained in Funds Europe. This helps to guarantee that groups outside the EU cannot sway the European M&A market.
In addition, private funds are covered by the EU’s ESG regulations. Managers must report on sustainability risks and their performance on sustainability factors, with a particular emphasis on carbon.
Private equity regulation in Australia
Private equity funds are not registered in Australia, but the managers and trustees of them are. Managers must hold an Australian Financial Services license, and an Australian company must be set up as a trustee of the fund. These funds are open only to “wholesale” investors, as opposed to retail, a definition roughly analogous to institutional and accredited investors in the United States.
Private equity regulation in Japan
Japan requires anyone managing an investment partnership, including private equity and venture capital, to register as a “financial instruments business operator” under the regulation of the Financial Instruments and Exchange Act. Operators of funds based outside Japan but marketed to Japanese investors may need to register, too. There are some exemptions for qualified institutional purchasers, including banks and insurance companies. Japan currently does not have ESG reporting requirements.
Private equity regulation in Singapore
The Monetary Authority of Singapore (MAS) regulates fund activities under the Securities and Futures Act. Fund management companies must be licensed as a Licensed Fund Management Company, a Registered Fund Management Company, or be expressly exempted. The MAS has established a Green Finance Industry Taskforce to develop ESG disclosure guidelines. Beyond that, the regulatory approach emphasizes transparency rather than rules, with a key objective to make Singapore a hospitable place for doing business. Funds must file a prospectus unless the qualify for an exemption granted to funds that are marketed only to qualified investors or to no more than 50 prospective investors in any 12 months.
Private equity regulation in South Africa
In the Republic of South Africa, private equity is covered by the Financial Advisory and Intermediary Services Act 37 of 2002. Funds do not have to register with the government, but they must meet regulations that include recordkeeping and auditing. Fund managers also must abide by a code of conduct set by the Financial Services Conduct Authority that covers honesty, fairness, diligence, and conflicts of interest. There are currently no ESG requirements in place.
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Private equity regulation in the United Kingdom
In the UK, private equity fund managers are regulated under the 2013 Alternative Investment Fund Managers Regulations, originally passed as the local version of the EU’s Alternative Investment Manager Fund Directive including the anti-asset stripping provision. That remains intact following Brexit.
In addition, the UK government has been rolling out climate-based and other ESG reporting requirements under the Climate-Related Financial Disclosure Regulations that took effect in April of 2022. There is ongoing parliamentary debate about the effects of private equity on taxation, employment, and economic stability.
Private equity regulation in the United States
American regulators are recently focused on enhancing their oversight of private equity regulation. In February of 2022, the Securities and Exchange Commission announced proposed rules that would expand regulation of private funds by requiring quarterly private equity reporting to limited partners including information on fees, expenses, and performance. Advisors would be prohibited from offering preferential treatment for redemption or reporting to some investors unless the preferences are disclosed to all investors, and they would no longer be allowed to seek reimbursement from investors for such things as fees for unperformed services, the costs of an SEC examination, or lines of credit from a private fund client.
In August 2023, the SEC voted to adopt these private fund rule modifications to the Investment Advisers Act of 1940. Depending on the individual rule and AUM size, firms will have 12 to 18 months to comply with the changes.
“Private fund advisers, through the funds they manage, touch so much of our economy. Thus, it’s worth asking whether we can promote more efficiency, competition, and transparency in this field.”
SEC Chair Gary Gensler.
The United States does not mandate ESG reporting, although that may change. Investors have been asking for information about ESG factors, and those based outside the US often need it to meet regulations in their home countries. The SEC has made researching these policies a priority, but it has not set any standards.
Clean Data Helps Funds Comply with Regulations
No matter where a fund is domiciled or where its investors are located, there will be some type of reporting requirements. Funds with clean, accessible data will have an advantage in communicating with investors and with government authorities.
Allvue’s fund accounting solution offers true general ledger accounting for the alternatives market. This empowers fund executives to respond to inquiries from inside and outside of the organization, leading to superior investment decisions and fewer regulatory hassles.
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More About The Author
Kamil Godlewski
Product Manager
Kamil Godlewski is a product manager at Allvue Systems, a leading provider of investment management solutions. He has over 15 years of experience in finance and sales, working with various clients in the alternative investment space with an emphasis on private equity. He has a MBA in finance from Indiana University's Kelley School of Business and is a previous CPA license holder.
