SEC staff advises that private fund sponsors that exclude the impact of subscription credit facilities when showing a gross internal rate of return in their advertisements also must exclude such impact when showing the corresponding net internal rate of return.
On February 6, 2024, the U.S. Securities and Exchange Commission (“SEC”) issued an updated FAQ for investment advisers relating to SEC Rule 206(4)-1 (the “Marketing Rule”). It's been over a year since the last SEC Marketing Rule FAQ was issued. The FAQ focuses on private fund sponsors who advertise private fund performance. It clarifies that it is misleading to present gross internal rates of return (“gross IRR”) calculated without the impact of fund-level subscription facilities and compare it to only the net internal rates of return (“net IRR”) that is calculated beginning once all capital commitments are called and the lines of credit are retired. The SEC’s concern is that inconsistent presentation of gross and net IRRs over different periods makes comparison difficult.
It is worth noting that presenting net IRR without the impact of subscription facilities does not trigger a requirement to present gross IRR with the same methodology – there is no requirement to present gross performance. However, the FAQ outlines that to advertise only net IRR that includes the impact of subscription facilities, then the advertisement must either (i) present comparable performance (e.g., net IRR without the impact of fund-level subscription facilities) or (ii) include appropriate disclosures describing the impact of such subscription facilities on the net performance shown.
This FAQ emphasizes that when gross performance is showcased, it is imperative to also present net performance for the same timeframe, utilizing the same return types and methodologies. Firms are cautioned about the potential risk of misleading investors when displaying performance metrics that only reflect the impact of fund-level subscription facilities alone and not also presenting net IRR without the impact of fund-level subscription facilities. To mitigate that risk, advertisements that present net IRR that include the impact of fund-level subscription facilities need to also present net IRR without the impact of fund-level subscription facilities or provide disclosures describing the impact of such subscription facilities on the net performance shown.
Current FAQs relating to the Marketing Rule are available for reference at: SEC Marketing Rule FAQ
