Global credit funds & CLO's
August 2020
| Issue 226
Published in London & New York.
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August 2020 | Issue 226
Managers advised to refresh disclosures after SEC risk alert
Michelle D’souza
Michelle D'Souza headshot
Credit managers should review their conflict disclosures after the SEC issued a risk alert, say lawyers.
Jessica O’Mary, partner at law firm Ropes & Gray, says the report, ‘Observations from Examinations of Investment Advisers Managing Private Funds’, which was published in late June, highlights that “high-level conflict disclosures that do not address a conflict with specificity are no longer sufficient to protect an adviser from challenge on exam”.
Among the items raised by the SEC was the fact that several managers did not adequately disclose preferential allocations. It cited managers which did not properly disclose allocations to new clients.
“To the extent that private debt managers manage accounts that are ramped at their introduction — such as CLOs — this should be clearly disclosed,” says New York-based O’Mary.
One example is where CLO tranches might be sold at different levels to different investors, with some firms buying the parts of a capital structure that are most difficult to sell in exchange for favourable pricing. Majority versus minority positions in the same CLO tranche might also price differently.
Multi-tranche investing was another area managers failed to adequately disclose, both in relation to when a fund can invest in debt and equity, and when different funds can invest in different tranches of debt from a portfolio company.
O’Mary says that credit managers should be particularly diligent around client accounts. “In certain circumstances, pro rata investments can mitigate these conflicts,” she says, but managers should be thoughtful about issues that will prevent pro rata participation, for example in restructurings when one client account may have insufficient capital.
The SEC also highlighted inadequate disclosure of conflicts between special financial arrangements and service providers. For example, a fund manager may sell the equity of a portfolio company directly to one of its investors, a sale which should be disclosed.
Similarly, some parties — such as fund administrators — might also be portfolio companies. This should be specifically disclosed rather than mentioned in a statement which says the relationship is at “arms-length”, as has been popular.
In these cases, the SEC has said the manager should be able to validate that terms are no less favourable than could be obtained from a third party.
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“High level disclosures are no longer sufficient”
Jessica O’Mary
, Partner | Ropes & Gray
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