On July 15, 2008, the staff of the Securities and Exchange Commission (the “SEC”) issued an interpretive letter1 indicating that the cash solicitation rule (Rule 206(4)-3) under the Investment Advisers Act of 1940 (the “Advisers Act”) generally does not apply to cash payments by a registered investment adviser to a soliciting person solely for the purpose of compensating the person for soliciting investors to a private fund managed by the adviser. In general, Rule 206(4)-3 makes it unlawful for any adviser required to be registered pursuant to section 203 of the Advisers Act to pay a cash fee, directly or indirectly, to a person for their solicitation activities unless the payments are made in accordance with certain conditions specified in the Rule.
In reaching its conclusion, the SEC stated that the Rule refers to an adviser’s “clients” and “prospective clients”, as opposed to “investors” and “prospective investors”. Citing the decision made by the U.S. Court of Appeals for the D.C. Circuit in Goldstein, et al. v. Securities and Exchange Commission2, the SEC indicated that, for purposes of this Rule, “clients” of an adviser are managed accounts and private funds and not the underlying investors in the private funds. Accordingly, the SEC expressed its view that the Rule is intended for situations in which solicitations will result in the solicited person entering into an advisory contract with the adviser (i.e., a managed account agreement).
This letter clarifies a fair amount of uncertainty with respect to the cash solicitation rule. The SEC staff stated that its views expressed in this letter supersede its views expressed in prior no-action letters, which indicated that Rule 206(4)-3 applies to cash payments by an adviser to a solicitor for the purpose of compensating the solicitor for soliciting investors to a private fund. Whether or not the Rule applies to a particular situation is ultimately dependent on the facts and circumstances of each situation. For example, the SEC staff indicated the Rule will apply where an adviser manages both private funds and managed accounts and the cash payment made by the adviser to a solicitor compensates the solicitor for referring investors as prospective managed account clients.
Finally, the SEC staff indicated that, even if the Rule does not apply to a particular situation, a soliciting person may be required to disclose material facts relating to its conflicts of interest with solicited persons if the soliciting person’s activities and compensation qualify the person as an investment adviser under the Advisers Act.
If you have any questions please contact any member of the Investment Management Group.
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1 See Mayer Brown LLP (July 15, 2008, File No. 132-3).
2 See Philip Goldstein, et al. v. Securities and Exchange Commission, 2006 Fed. Sec. L. Rep. ¶ 93, 890 (June 23, 2006).
