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California Regulates Use of Placement Agents

October 14, 2009

 

On October 11, 2009, California Governor Schwarzenegger signed into law Assembly Bill No. 1584, which regulates the use of placement agents[1] by external asset managers who solicit investments from state or local public pension and retirement funds. California’s law — which requires placement agents to disclose contributions and gifts made to state and local pension and retirement board members, as well as information about the placement agent’s compensation, the services provided, and any lobbying or regulatory registrations — is the latest in a series of recent actions by government entities regarding the use of intermediaries to obtain investments from state pension funds.

Although the recent pension fund scandals have provoked widespread efforts to regulate the use of the placement agents, a split has developed between those regulators who have promulgated prohibition-based regimes and those who have followed disclosure-based approaches. For example, Illinois, the New York State Comptroller, each of the New York City public retirement funds, and the New Mexico State Investment Council have banned the use of placement agents,[2] and legislation was recently introduced in the New York State Senate that would prohibit investment firms from using placement agents, lobbyists, or any other third-party intermediaries to communicate or interact with public pension funds for any purpose.[3] In contrast, public entities such as Texas’s Teacher Retirement System and the California Public Employees’ Retirement System (CalPERS)[4] have placed no prohibitions on placement agent activity, and instead have regulated placement agent conduct through mandatory disclosures.

The new California law, which goes into effect immediately, builds on the reforms adopted earlier this year by CalPERS, and establishes a disclosure-based regime that requires:

  • Potential placement agents, prior to acting to solicit a potential state or local public pension or retirement system investment, must disclose campaign contributions and gifts to public pension board members[5] during the prior 24 months. Placement agents must disclose any subsequent gifts and campaign contributions to pension or retirement board members for as long as they are being paid to solicit investments. Cal. Gov’t Code § 7513.9.
  • Each state and local public pension system must develop and implement policies requiring disclosure of payments to placement agents by external asset managers by June 30, 2010. The new disclosures must include, at a minimum, the following information:
    • the existence of the relationship;
    • a résumé for each officer, partner or principal of the placement agent;
    • a description of compensation paid to the placement agent;
    • a description of services to be performed by the placement agent;
    • a statement of whether the placement agent, or its affiliates, is registered with the SEC, the Financial Industry Regulatory Authority (FINRA) or other regulatory body; and
    • a statement of whether the placement agent, or its affiliates, is registered as a lobbyist with any state or the federal government. Cal. Gov’t Code § 7513.85(a).
  • A state or local public pension or retirement system may not enter into an agreement with any asset manager that does not agree in writing to comply with any such policy. Cal. Gov’t Code § 7513.85(b).
  • Any placement agent or external manager that violates any such policy is barred from soliciting new investments from that state or local retirement system for five years from the time of the violation. This ban can be shortened only under a majority vote of the retirement system’s board at a public session upon a showing of good cause. Cal. Gov’t Code § 7513.85(c).

In addition, the new statute also extends the post-employment restrictions on members of the retirement board of a public pension system, prohibiting individuals from lobbying former colleagues for two years. The law also removes an exception for board members who served for more than five years, and who previously had not been subject to post-employment restrictions. Cal. Educ. Code § 22212.5; Cal. Gov’t Code § 7508.5. Finally, the statute prohibits state and local pension board members and employees from selling, directly or indirectly, investment products to other public retirement systems in California. Cal. Gov’t Code § 7513.95.

The coming months are likely to bring pay-to-play reforms in other states and at the federal level. As states and the SEC debate the best means for regulating placement agents and other pay-to-play issues, California’s decision to adopt a disclosure-based regime rather than an outright ban is significant. Because of California’s extensive pension fund investments, it has long been a leader in this area. Its choice to rely primarily on disclosure has the potential to shift the debate.

The fast-changing landscape of pay-to-play laws can have significant impacts on businesses with federal, state, and local contracts. It is therefore imperative that these businesses adopt and implement policies and procedures that are adequately tailored to their activities with all levels of government. In addition to pay-to-play, these policies should include procedures addressing state and local procurement lobbying restrictions, as well as gifts and entertainment provided to government officials.

O’Melveny & Myers has introduced an internet tool, available on a subscription basis, for tracking developments in pay-to-play and related areas of lobbying, gifts and entertainment, and campaign finance. Click to access full text of Assembly Bill No. 1584.


[1] Under California’s new law, “placement agent” is defined broadly. It includes any person or entity hired on behalf of an external asset manager as a “finder, solicitor, marketer, consultant, broker, or other intermediary to raise money or investment from, or to obtain access to” a California public retirement fund, whether directly or indirectly. Cal. Gov’t Code § 7513.8(c).

[2] In the federal arena, the Securities and Exchange Commission (SEC) proposed a ban on the use of third-party (i.e., non-affiliated) placement agents in soliciting investments from public funds in August 2009.

[3] The legislation, entitled, “Taxpayers’ Reform for Upholding Security and Transparency” (“T.R.U.S.T.”) would formalize the AG’s Public Pension Fund Reform Code of Conduct, which has been adopted by seven firms, and provide additional civil, criminal and administrative penalties and sanctions to ensure firms and individuals are held accountable for violations of the new law.

[4] The CalPERS policy requires external investment managers to disclose any retention of placement agents, the compensation paid, the services performed, and other details about the engagement. In addition, and consistent with the federal securities laws applicable to placement agents, all placement agents hired by managers of CalPERS funds must be registered broker-dealers with the SEC and a member of a self regulatory organization, such as the Financial Industry Regulatory Authority, and must disclose information about key employees of the placement agents, including whether they are registered lobbyists in any state or the federal government.

[5] For example, contributions to the State Comptroller and State Treasurer are covered as they sit on the Board of CalPERS.


If you would like to discuss this matter further, please contact Barbara Stettner at (202) 383-5283, Charles Borden at (202) 383-5269, any of the following lawyers, or your primary contact at O’Melveny & Myers LLP.

The attorneys in O'Melveny's global Investment Funds, Securitization, Investment Adviser Regulation and Compliance, and Political Law practices are actively engaged in the key areas of law affecting investment funds, including corporate law, partnership law, tax, ERISA , U.S. and non-U.S. securities laws, and federal, state, and local laws regulating political activity.

Charles Borden

(202) 383-5269

John Daghlian

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Harvey M. Eisenberg

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Deborah Festa

(213) 430-6323

Phillip Isom

(212) 408-2418

Ilan S. Nissan

(212) 408-2443

Daniel Passage

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Christopher Salter

(202) 383-5371

Kathryn Sanders

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Bill Satchell

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Barbara Stettner

(202) 383-5283

Kenneth J. Yellen

(202) 383-5228