On September 26, 2023 the Federal Trade Commission (FTC) and 17 states filed suit against Amazon in the Western District of Washington, alleging the tech giant uses anticompetitive practices to maintain its monopoly power in its online supermarket store and marketplace services. The FTC seeks a permanent injunction to prohibit Amazon from continuing its alleged “punitive and coercive tactics.”

The FTC alleges Amazon engages in exclusionary conduct that both hinders the ability of competitors to meaningfully compete on Amazon’s platform, and inflates online prices for consumers. Amazon owns its marketplace platform, sells its products on its platform in competition with other online sellers, and controls the fulfillment, shipping, and delivery network that sellers and customers are incentivized to use. As alleged by the FTC, Amazon (among other things) punishes companies that discount their products on other platforms by burying those sellers in its search results, coerces sellers to obtain “Prime” eligibility for their products and use Amazon’s higher-cost delivery network, biases search results to preference Amazon’s own products, and charges unreasonable fees to hundreds of thousands of third-party sellers.

Continue Reading The FTC and States Sue Amazon, Alleging Anticompetitive Practices

A divided SEC adopted numerous reforms for private fund managers on August 23, 2023. These reforms represent the largest regulatory change for private fund managers since Dodd-Frank. The SEC’s stated purpose is to bring “transparency” to the operation of private funds by, among other things, restricting or requiring disclosure of preferential terms such as those granted in side letters as well as requiring advisers to address conflicts of interest.

We expect that each private fund adviser will be significantly impacted by the new regulations. In comparison to the proposed rule, the final rule represents an improvement for advisers as a number of restrictions are now permissible with disclosure and/or investor consent. In addition, a legacy product exemption (i.e., grandfathering), which was absent from the proposed rule, was added to a number of the provisions.

The new rule generally applies to managers of private funds but includes various nuances for SEC registered, exempt-reporting advisers (ERAs), state advisers and unregistered sponsors. The rule is also primarily limited to those advisers that manage “private funds.” Private funds mean those relying on either Section 3(c)(1) or 3(c)(7) of the Investment Company Act of 1940. Notably, this does not include funds relying on other exemptions such as is common for real estate or real assets funds. The SEC also
excluded securitized asset products such as CLOs from the new rule.

Compliance dates for the new rule are generally split between large private fund advisers with $1.5 billion or more in private funds assets under management and smaller advisers with under $1.5 billion in private funds assets. Compliance dates are generally either 12 months from publication in the Federal Register (September 14, 2024) for large advisers or 18 months (March 14, 2025) for smaller advisers. However, the new written report requirement for annual compliance reviews will take effect 60 days after publication (November 13, 2023).

The changes include new robust quarterly reporting requirements with respect to fees and expenses as well as performance disclosures. As a result, advisers will need to review existing reporting and update for compliance with the rule. The new rule also
includes prohibitions and disclosure requirements on preferential liquidity and information rights. Side letters remain a clear target of the SEC in the final rule, and careful attention will need to be paid to satisfy the new requirements. The rule also restricts advisers from seeking reimbursement for the cost of adviser compliance, regulatory and government investigations without disclosure and, in case of investigations, without investor consent; provided the adviser is not found liable for violations of the Advisers Act, in which case, reimbursement is not permitted.

Side Letters and MFNs

One result of the new rule will be a significant change to closing, side letter and MFN-election processes. Disclosure will now be required for all material economic terms granted to the other investors prior to admitting each new investor. The mechanics
surrounding this requirement are not clear. Advisers may face challenges in handling multiple investors closing on the same date with various preferential terms.

In addition, all preferential treatment terms regardless of materiality must ultimately be disclosed. For closed-end funds such as private equity or venture capital, the SEC indicated that all preferential treatment disclosures must be made as soon as reasonably practicable after the final closing. For open-end funds such as hedge funds, disclosure will be required as soon as reasonably practicable following the investors investment. Excuse rights were identified by the SEC as a post final closing (i.e., non-material) term. An adviser can provide a summary of the preferential terms or include the actual provisions in the disclosures. There are no grandfathering provisions for this new requirement.

Given the above changes, the MFN process for closed-end fund advisers will become bifurcated. Certain side letter terms will require disclosure prior to the final closing, while others will only be disclosed after the final closing. The practice of showing
investors only certain provisions to which they are eligible to elect will likely cease since the adviser will be required to disclose all preferential terms regardless of the investor’s size. That being said, advisers are not required to offer such terms to every investor.

Delivery of the new disclosure will also require advisers to reevaluate their existing investor communication options. We believe that supplements to private placement memorandums will be the preferred notice method combined with cloud-based investor data rooms.

Quarterly and Annual Statements

The new rule includes very prescriptive disclosure requirements as detailed below. The SEC also wants much of the information set forth separately and not aggregated. The rule also requires “clear and prominent disclosure” of the methodologies and assumptions made in calculating fund performance and requires clear, concise, plain English presentations that will facilitate review from one quarterly statement to the next. These new provisions will require significant efforts by advisers to ensure proper
compliance with these very technical requirements.

The summary below is an overview of the requirements and restrictions detailed in the rule. The summary should be considered a general summary.

Note that earlier this month several private fund trade groups sued the SEC arguing the agency overstepped its statutory authority when adopting the new rule. While the outcome of this lawsuit is unknown, it is possible that the new rule will not become effective on the compliance dates noted below. Accordingly, advisers will want to pay close attention to this litigation.

The below links direct to each article included in the August 2023 issue of the Investment Services Regulatory Update. These thought leadership pieces review new rules, proposed rules and guidance and alerts regarding the SEC.

Continue Reading Investment Services Regulatory Update August 2023

The Antitrust Division of the U.S. Department of Justice (“DOJ”) announced on August 16 that two directors of Pinterest Inc. and Nextdoor Holdings Inc. have resigned in response to an investigation into whether the corporations shared directors in violation of Section 8 of the Clayton Act, 15 U.S.C. § 19.  Section 8 prohibits director and officer interlocks between competing corporations meeting certain size thresholds that are updated yearly.  The Biden Administration has revived once-dormant enforcement of a statute designed to lessen the opportunity for competitors to tacitly coordinate with one another or exchange competitively sensitive information through such interlocks, and this week’s announcement marks the 15th director resignation (from 11 boards) secured by the Biden DOJ.

Section 8 enforcement is part of a broader effort by the Federal Trade Commission (“FTC”) and DOJ to address their concerns about entities with influence falling short of control over two or more competitors.  In the context of merger and acquisition review, for example, the FTC and DOJ have published draft Merger Guidelines that would focus more explicitly on acquisitions that confer or enhance minority ownership positions.  Such partial cross-ownership interests may, in the agencies’ view, give the partial owner the ability to influence the target firm through voting interests or governance rights, reduce the incentive of the partial owner to compete with the target firm, or give the acquiring firm access to non-public, competitively sensitive information of the target firm.  And to facilitate the agencies’ review, the FTC has proposed extensive revisions to the pre-merger notification process under the Hart-Scott-Rodino Antitrust Improvements Act (“HSR Act”) that would expand the amount of information filing parties would have to provide to the agencies about their minority holdings in other entities.

The proposed revisions to the Merger Guidelines and the HSR regulations are in the public comment period and may be altered, perhaps significantly, before final adoption.  What will not change in the near term is the antitrust agencies’ continued focus on interests in and influence on companies by their competitors, whether that occurs through cross-partial ownership, common partial ownership by investment companies, or interlocks between the officers or directors of one company and the board of a competitor.

On August 8, 2023, the United States Securities and Exchange Commission (the “SEC” or the “Commission”) announced that 11 Wall Street firms (10 broker-dealer firms and one dually-registered investment adviser) agreed to settle charges for failing to properly maintain and preserve electronic communications relating to firm business. This included text messages and other messages sent through applications contained on personal devices of employees and not subject to firm record retention systems (referred to as “off-channel communications”). The announcement underscores that regulatory scrutiny of recordkeeping obligations remains a high priority for the SEC’s Division of Enforcement. Specifically, the SEC continues to focus on holding registered entities accountable for failing to maintain and preserve off-channel communications pursuant to statutory requirements. As part of the settlements, the firms agreed to pay combined penalties of $289 million, admit liability, and implement improvements to their respective compliance policies and procedures.

Continue Reading Regulatory Scrutiny of “Off-Channel” Communications Continues: 11 Wall Street Firms Agree to Pay the SEC $289 Million in Civil Money Penalties for Recordkeeping Violations

On June 27, 2023, the Department of Health and Human Services (HHS), Office of Inspector General (OIG), posted a final rule on its website that amends the civil money penalty (CMP) regulations under the Information Blocking Rule. The final rule incorporates new CMP authority and increases the maximum penalties for certain CMP violations. The final rule was published to the Federal Register on July 3, 2023.

Continue Reading HHS Final Rule Imposes New Civil Money Penalties for Information Blocking

On July 19, 2023, the Federal Trade Commission (FTC) and Department of Justice (DOJ) released for comment proposed joint merger guidelines which seek to replace the agencies’ vertical merger guidelines released in 2020 and horizontal merger guidelines released in 2010.  The proposals introduce significant changes to both the ways in which the agencies define markets and competition, and the evidence and metrics they would use to assess a merger’s competitive effects.

Among the more significant proposed changes are the following:

They would materially change how relevant geographic and product markets are defined, and when to consider those markets “highly concentrated.”

Market definition:  The proposals would significantly change how product and geographic markets within which competitive effects of a merger would be defined.  Under current law, to define the boundaries of relevant product and geographic markets, the agencies apply the “hypothetical monopolist test,” in which firms or products that would prevent the merged firm from increasing price by a small but significant and non-transitory amount are considered to be within the “relevant market.”  The agencies propose to include in this calculus not only price but other “terms” such as “quality, service, capacity investment, choice of product variety or features, or innovative effort,” raising the possibility that the agencies may exclude from the market rivals who could discipline overt attempts to increase price but not more opaque reductions in service, quality, or R&D efforts, to which consumers may be much less sensitive. 

Market concentration:  The current guidelines recognize that the anticompetitive effects of a merger generally increase in more concentrated markets in which fewer significant firms compete.  The proposed guidelines would lower the standard for a “highly concentrated market” (a trigger for a presumption of a merger’s illegality) to a level that the current guidelines consider to be only a “moderately concentrated market.”  In addition, the proposals would introduce a market share-based test as a trigger for raising an “impermissible threat of undue concentration,” when the merged firm’s market share will exceed 30 percent and concentration would increase modestly.

Continue Reading DOJ and FTC Propose Draft Revised Merger Guidelines

On July 3, President Biden announced nominees Andrew Ferguson and Melissa Holyoak to the Federal Trade Commission, filling two Republican vacancies.

Ferguson has served as the Solicitor General of Virginia since February 2022, overseeing the state’s appellate litigation, including at the Supreme Court and federal courts of appeals. He served as counsel for Senators Lindsey Graham (R-SC), Chuck Grassley (R-IA), and most recently, Mitch McConnell (R-KY). Ferguson spent several years in private practice after clerking for Judge Karen Henderson on the U.S. Court of Appeals for the D.C. Circuit and for Justice Clarence Thomas on the US Supreme Court. Ferguson earned his undergraduate and law degrees from the University of Virginia.

Continue Reading White House Announces Nominees for FTC

On June 2, 2023, the United States Securities and Exchange Commission (“SEC”) dismissed 42 administrative enforcement actions and vacated 48 collateral industry bars because its Division of Enforcement (“Enforcement”) staff improperly had access to memoranda prepared to assist SEC Commissioners in deciding those matters.

The SEC investigates potential violations of the federal securities laws and is authorized by law to prosecute civil enforcement actions in its own in-house administrative courts or in federal court. The investigative and prosecutorial responsibilities are carried out by Enforcement staff and are required to be kept separate from the SEC’s in-house adjudication function.  However, on April 5, 2022, the SEC issued a statement disclosing that it identified a “control deficiency” in which certain SEC databases improperly allowed Enforcement staff to have access to memoranda prepared by the Office of the General Counsel Adjudication Group (“Adjudication Group”) to advise Commissioners in making decisions in administrative proceedings. 

Continue Reading SEC Dismisses 42 Enforcement Actions Because of Its Own Internal Control Deficiencies

On June 1, 2023 the U.S. Supreme Court vacated and remanded two Seventh Circuit decisions involving the False Claims Act (FCA), holding in a unanimous opinion that the FCA’s scienter element turns on a defendant’s subjective belief and intent, not by an after-the-fact analysis of whether the defendant’s actions were “objectively reasonable.”

The two cases at issue, United States et al. ex rel. Schutte et al. v. SuperValu Inc. et al. and United States et al. ex rel. Proctor v. Safeway Inc., alleged that respondents SuperValu and Safeway separately defrauded Medicaid and Medicare by offering discount programs to their customers while knowingly submitting claims for the higher retail prices exceeding the “usual and customary prices” customers paid. Ruling in favor of SuperValu and Safeway, the Seventh Circuit applied an “objectively reasonable” scienter standard, determining that SuperValu and Safeway would be liable for submitting false claims only if their respective interpretation of the FCA’s “usual and customary” language was not “objectively reasonable.”

Continue Reading U.S. Supreme Court Clarifies Usage of Subjective Standard for FCA Scienter Element