SEC Performance Fee Proposal Includes Significant Board Duties

The SEC recently proposed rule amendments permitting investment advisers to charge performance-based fees to registered funds, including BDCs, and broadening the definition of an investor category under the Investment Advisers Act of 1940. The proposal would expand the ability of advisers to receive performance-based fees calculated on the basis of capital gains in or capital appreciation of a regulated fund’s account pursuant to the following conditions:

• The performance-based fee does not exceed 20% of the fund’s net gains over a specified period.
• The fund satisfies certain Investment Company Act rules known as the fund governance standards.
• The fund’s board, including a majority of independent directors, determines that the performance-based fee arrangement is in the best interest of the fund and its shareholders, and the board makes specific written findings to that effect.

The required board findings would be made as part of the Section 15(c) advisory contract renewal process and would consider: the appropriateness of the performance fee arrangement, including such factors as the fund’s investment strategy and valuation practices; the basis upon which the performance fee is calculated, including the measurement period over which performance is assessed, and whether the performance fee is determined with reference to realized gains, unrealized gains, or both; and the adequacy of investor protection features in the performance fee arrangement, such as a preferred return or hurdle rate, high-water mark, or loss carry forward mechanisms, or, where none are present, the basis for concluding the arrangement adequately protects shareholders.

The proposal also would amend certain registration and reporting forms to require disclosure of the performance-based fee. 

MFDF expects to comment on the rule proposal within the next several weeks.

Click here to read the Commission’s proposal on performance fee eligibility.

Click here to read a Dechert client alert covering the Commission’s proposal.