Investment managers, when forming their first private fund, can claim exemption for the fund from registration as an investment company (pursuant to Section 3(c)(1) of the Investment Company Act of 1940) if the fund (1) has no more than 100 investors; and (2) is not sold in a public offering. However, in many situations as investor demand increases – threatening to surpass the 100 investor limit - the investment manager decides to initiate a secondary private fund, believing it too will be exempt from registration. The result is that the manager is managing 2 identical funds with 160 investments.
The problem with operating two identical funds lies in the concept of integration, or treating two or more like funds as one and counting the aggregate number of investors to determine whether they exceed 100. If the manager launches a similar type of fund, (e.g., a second global macro fund) after the number of investors in the first fund reaches 100 and is closed, the SEC may, under certain circumstances, treat both funds as one 3(c)(1) fund. Consequently, neither fund will comply with section 3(c)(1). Here are some considerations to as to whether integration of a fund is appropriate or if indeed a separate fund should be established.
- Would a reasonable purchaser view an interest in one offering as not materially different from another?
- Are the offerings materially different?
- Are the two offerings intended for two different groups of investors?
- Investment funds can differ in structure and operation for legitimate business reasons, therefore investment in such funds can be materially different even where the investment objections are similar (See Shoreline Fund No-Action Letter)
It is important to be aware of these provisions when a fund that is relying upon the section 3(c)(1) exemption begins to grow and change. If you would like to read more on this topic, click here.
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