When private equity firms were first required by Dodd-Frank to register with the SEC, I wrote about my yawning ambivalence.
On the one hand, I did not believe that private equity posed the sort of systemic risk that financial reform was designed to eradicate (i.e., the rules weren’t needed). On the other hand, I felt that all of the private equity industry’s teeth-gnashing was exaggerated. Sure it would be inconvenient, but registration was really a drop in the compliance cost bucket for most firms (and perhaps would serve as a bulwark against more extensive regulation).
But here was my big mistake: I actually believed that most private equity firms were complying with their own limited partnership agreements. Yup, smack me with the naivete hammer.
As we all know by now, the SEC believes it has found legal violations or material weakness in over half of the firms it has examined. Some of these misdeeds seem to be small, resulting in a few thousand dollars of overcharge here or there. But some are larger and, for LPs with extensive private equity portfolios, it all adds up. These violations also seem to have certain LPs wondering aloud if they can even trust the asset class anymore (even though we aren’t seeing much allocation reduction… at least not yet). And, yes, it sounds like enforcement actions are forthcoming.
In short, private equity registration has turned out to be a very big deal.
After the law was passed, some private equity execs warned me about unintended consequences. Specifically, that certain small-market and mid-market firms would have to lay off junior staff in order to cover the extra compliance costs. Maybe they really believed it. Or maybe they were really freaked out about other unintended consequences (i.e., LPs learning about their raw deal).
What is particularly troubling right now, of course, is that there are GOP-led (and PE industry-backed) congressional efforts to repeal private equity registration requirements. Even Dodd-Frank namesake Barney Frank has expressed an openness to increasing the AUM threshold from the current $150 million.
Several years ago, I would have been on board with such repeal. After all, it was a misguided rule to begin with. But not today. The genie is out of the bottle, even if it isn’t the genie we were expecting.
I was wrong. And being wrong again wouldn’t make any of this right.
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