Joint presentation by Renee Ford and Beth Biega with Decosimo, and Sal Shah with McGladrey.

1. Regulatory Changes:
Impact on Financial Reporting
Sal (Kislay) Shah, Partner, Financial Services Group
McGladrey & Pullen, LLP
Kislay.shah@mcgladrey.com
212.372.1201 Renee B. Ford, Assurance Principal
Decosimo CPAs
reneeford@decosimo.com
423.266.1495

2. Amended Custody Rules for Registered
Investment Advisers

3. What is Custody?
 Holding client funds or securities directly or
indirectly
 Having any authority to obtain possession of
client funds (i.e. POA)
 Having authorization to withdraw client funds
or securities held by custodian
 Acting as a general partner or equivalent of a
private investment vehicle
 Related person has custody in connection
with adviser’s services
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4. Exceptions
 “Custody” solely because of authority to
deduct fees
 Related person has custody but is
operationally independent
- SEC presumes lack of operational independence
- Advisor must overcome presumption by meeting
five requirements
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5. Qualified Custodian Requirement
 Client assets must be maintained with a
qualified custodian (QC)
 Separate account for each client in the
client’s name
 Private securities no longer exempt
 Includes banks, broker-dealers or futures
commission merchants
 QC does not have to be independent of
adviser, but if not,
- Internal control report required (Type II SAS 70)
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6. Qualified Custodian Requirement
“Custody does not turn on whether the
securities are maintained with a qualified
custodian.”
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7. Pooled Investment Vehicles
Annual Audit Option
 Advisers to pooled investment vehicles are
deemed to have satisfied the requirement for
a surprise exam if-
- Annual financial statement audited by PCAOB-
registered firm (GAAP and GAAS)
• Some exceptions available for non-US advisers
- Distributes audited statements to investors within
required time frame annually (120 or 180 days)
- Provides audited financial statements upon
liquidation
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8. Private Investment Funds
 If audit exception is not met:
- QC must send account statements to each
investor of the PIV
- Statement must include transactions and
holdings of the entire pool
- Surprise examination is required
 Unable to meet 120 day requirement
- Unforeseeable circumstances
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9. Surprise Examinations – Independent
Verifications
 Requirements are contained in Rule 206(4) – 2
 Sets up in the context of:
- A registered investment adviser can’t have
custody of client funds or securities unless,
among other things:
• Client funds and securities of which you have custody
are verified by actual examination at least once during
each calendar year
• Exam is pursuant to a written agreement
• At a time that is chosen by the accountant without prior
notice and that is irregular from year to year
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10. Surprise Examinations – Independent
Verifications
 SEC Release regarding Independent Public
Accountant Engagements performed
pursuant to Rule 206(4) - 2
- Engagement objectives
- Reporting
- Scope of verification
 Concept of “surprise”
- Without prior notice
- Show up on client premises
- Vary from year to year
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11. Important Dates
 Surprise examination must commence prior
to December 31, 2010
 Must be completed within 120 days of
selected examination date
 For PIVs, the effective date is years
beginning on or after January 1, 2010
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12. Effective Dates
 Compliance date for internal control reports
was September 12, 2010 for advisers
subject to the requirement on March 12,
2010
 Newly registered advisers – within six
months of becoming subject to the
requirement
 Recurring Custody-Related SAS 70 report
timing considerations
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13. Compliance Issues
 Custodians lack information to produce and
deliver individual client account statements
- Must comply by third quarter 2010 statement
delivery
- Must notify clients with first quarter 2010
statements of plan to comply
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14. Compliance Issues
 Auditors don’t meet PCAOB-registered
requirements.
- Required for PIV audits, internal control
examinations, and surprise exams for advisers with
related custodians
- Requirement first applicable to 2010 audits for PIVs
- SEC No-Action Letter issued 10/12/10
• Non-qualified auditor engaged for most recently
completed year
• Auditor PCAOB-registered by 7/10/10 and engaged to
audit broker-dealer
• Written notification to each investor of auditor status
• Only short-term relief
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15. Clarification
 Can the audit firm of a PIV act as the
independent representative for investors in
the pool?
 Generally not.
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16. Some Clarification on “Custody”
 Online access to client’s pension account to
rebalance and adjust investments? Yes
 Limited authority to transfer client funds
between client’s accounts? No
 Authority to instruct QC to remit funds to
client? No, if certain rules followed
 Do rules apply to advisory clients from which
no compensation is received? Yes
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17. Clarification
 Under what circumstances must an adviser
still provide an audited balance sheet to its
advisory clients?
 If adviser charges fees six or more months in
advance
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18. Dodd-Frank Act

19. Who has to register pursuant to the provisions
of the Dodd-Frank law
 Old Law - Private Adviser Exemption
- Holding out
- Fewer than 15 clients
- No look through to fund
- SEC’s prior attempt at forcing registration
- Goldstein decision
 Dodd-Frank eliminates Private Adviser Exemption
 Dodd-Frank establishes dollar thresholds of AUM for
registration
- AUM between $25 and $100 million
- AUM over $100 million
- AUM $150 million and over
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20. Who has to register pursuant to the provisions
of the Dodd-Frank law cont’d
 Venture Capital Fund
- Exempt from registration
 Private Equity Fund
- No exemption
 Foreign Advisers
- Generally required to register
 CFTC Registered Advisers
- Exempt unless/until business becomes primarily securities
related
 Family Office
- Exempt from registration
 SBIC
- Exempt from registration
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21. Short Sale and New Derivatives Rules
Short Sale And New Derivatives Rule
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22. SEC Short Selling rule
 Three elements
- Uptick rule
- Circuit breaker
- Waiting for further regulations
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23. Uptick Old vs New Rule
 Old rule – Can sell short after the stock price
rises, an “uptick.”
- Sell above the last traded price or after the last
price was higher than the previous price.
 New rule was adopted in February 2010
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24. Uptick Old vs New Rule
 New rule – cannot sell short unless buyer
pays more than nations best bid
 SEC believes best bid is better reflection of
current price than the last sell price
 Much harder to sell short
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25. Circuit Breaker
 An equity security declines 10% or more
 Short sale may not be executed at or below
the national best bid
- That trading day and the following day
 SEC expects 1.3% stocks to hit the 10%
barrier on a normal day
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26. Further Regulations – Dodd-Frank Act
 Mandates that the SEC adopts rules for the
monthly reporting of short sales
- Not certain who will report
- Not certain what will be reported
 Stay tuned
- SEC (Division of Risk, Strategy, and Financial
Innovation) currently initiating studies of the
market – due by July 2012
• Impact of recent rule changes
• Incidence of failure to deliver shares sold short
• Feasibility of real time reporting
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27. Swap Dealers / Major Swap Participant
 Registration required with the CFTC / SEC
 On-going reporting requirements
- Transactions, positions, and financial condition
- Trading records for each customer / counterparty
 Capital and margin requirements for non-
cleared swaps
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28. Clearing and Exchange Trading
 All swaps must be submitted to a clearing house
for clearing
 Designated OTC contracts markets
 Note that the EC published its proposals for the
regulation of OTC derivative contracts
 Benefits:
- Achieve greater transparency and reduce systemic
risk in OTC derivative markets
- Greater price discovery
- Reduced counterparty risk
- New regulatory oversight
- Modification to operational processes
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29. Example: Credit Default Swaps
 Fixed coupon rates
 Standardized payment frequency
 Harmonizing effective dates
 Clarifying credit events
 Settlement price determination procedure
 Trade compression, central clearing and
faster trade processing
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30. Level 3 Documentation
 Need better documentation supporting
valuations.
 Disclosure in footnotes.
 LP communications.
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31. Post Registration Compliance Requirements
 Written Compliance Program
 Designate CCO & Required Annual Review of
Compliance Procedures
 System of Internal Controls & Conflicts of Interest
 Supervision
 Books and Records
 Advertising, Performance Fees and Solicitation
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32. Post Registration Compliance Requirements
(Cont.)
 Code of Ethics (Personal Securities
Transactions/ Insider Trading)
 Business Continuity Plan
 Custody and AML
 Proxy Voting and Privacy
 Other Relevant Requirements
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33. SEC Areas of Focus
 Management fees
 Incentive fees – allocation and distribution
 Fees from portfolio companies
 Carry fee offset
 Valuation
 In kind distribution
 Advertising
 Fund Raising
 Personal trades
 Soft Dollars
 Trade allocations
 Non compliance record and corrective measures
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