BILL ANALYSIS AB 1743 Page 1 Date of Hearing: April 7, 2010 ASSEMBLY COMMITTEE ON PUBLIC EMPLOYEES, RETIREMENT AND SOCIAL SECURITY Alberto Torrico, Chair AB 1743 (Hernandez) - As Amended: March 17, 2010 SUBJECT : Political Reform Act of 1974: placement agents. SUMMARY : Prohibits a person from acting as a placement agent in connection with any potential investment made by a state public retirement system unless that person is registered as a lobbyist in accordance with, and is in full compliance with, the requirements of the California Political Reform Act (PRA). Requires placement agents connected with investments made by local public retirement systems to comply with any applicable requirements imposed by a local government agency on lobbyists pursuant to the PRA. Specifically, this bill : 1)Requires placement agents that do business with the California Public Employees' Retirement System (CalPERS) or the California State Teachers' Retirement System (CalSTRS) to be subject to the same reporting and ethics rules that govern lobbyists under the PRA. 2)Requires quarterly activity reports, including any honoraria, gifts, fees or other compensation, as well as attendance at a biennial ethics class. 3)Prohibits compensation paid to placement agents that is contingent upon defeat, enactment, or the outcome of any proposed investment action. 4)Prohibits campaign contributions and puts significant limits on gifts. 5)Requires placement agents connected with investments made by local public retirement systems to file any applicable reports with a local government agency that requires lobbyist to register and file reports and to comply with any additional requirements imposed by those local agencies on lobbyists pursuant to the PRA. 6)Revises the current definition of "placement agent" to exclude an employee, officer, director, equity holder, partner, AB 1743 Page 2 member, or trustee of an external manager who spends one-third or more of his or her time, as specified, managing the assets controlled by the external manager. 7)Adds to the PRA definitions of "external manager" and "placement agent". EXISTING LAW : 1)Defines a "lobbyist" as an individual who receives $2,000 or more in a calendar month or whose principal duties as an employee are to communicate directly or through his or her agents with an elective state official, agency official, or legislative official for the purpose of influencing legislative or administrative action. 2)Defines "administrative action" as the proposal, drafting, development, consideration, amendment, enactment, or defeat by any state agency of any rule, regulation, or other action in any ratemaking proceeding or a quasi-legislative proceeding. 3)Requires an individual who is considered a lobbyist, as defined, to register as a lobbyist and to comply with various ethical and reporting rules. 4)Requires any person who makes a payment to influence legislative or administrative action, as defined, to comply with various reporting rules. 5)Makes a violation of the PRA subject to administrative, civil, and criminal penalties. 6)Defines "placement agent" as a person or entity hired, engaged, or retained by an external manager to raise money or investment from a public retirement system in California. 7)Defines "external manager" as an asset management firm that is seeking to be, or has been, retained by a public retirement system to manage a portfolio or assets, including securities, for a fee. FISCAL EFFECT : Unknown. COMMENTS : According to the author, "By requiring placement agents that do business with California's public retirement AB 1743 Page 3 systems to be subject to the same reporting and ethics rules that govern lobbyists, AB 1743 would increase the confidence of retirement system members and the public that public retirement systems' investment decisions are made in an impartial manner, free from any potential bias caused by gifts, campaign contributions, or the financial interests of placement agents, retirement system officials and third parties who have supported these officials. "At least five states (New York, New Jersey, Illinois, Connecticut, and New Mexico) and the Securities Exchange Commission have established, augmented, or are in the process of establishing placement agent statutes in order to shield investment decisions from actual or perceived unwarranted influence ranging from increased disclosure to a complete ban." According to CalPERS, "Like lobbyists, placement agents attempt to influence the decisions of public officials - in this case, state public pension fund officials responsible for investing hundreds of billions of dollars on behalf of California public employers, employees, retirees and their beneficiaries. While only 20 percent of private investment managers responding to a CalPERS disclosure request indicated they had hired placement agents over the last fifteen years, the disclosures released to the public in late January revealed that the top ten placement agent firms were paid more than $125 million for securing investments from CalPERS. "These placement agents owe no contractual or fiduciary obligation to state public pension funds while receiving large payments from private investment managers seeking pension fund money. The media has reported extensively on the activities of former CalPERS board members and others employed as placement agents. One former board member, Alfred Villalobos, received almost $59 million from Apollo Global Management, a financial holding company that has benefited from billions in CalPERS investments, including a New York equity investment deal that may cost the state hundreds of millions of dollars. "The CalPERS Board of Administration believes its stakeholders and the public should be confident that its investment decisions are made in an impartial manner, free from potential bias or influence caused by the financial interests of placement agents, the pension fund official or third parties who have supported the official. To that end, it has adopted policies and AB 1743 Page 4 supported legislation to protect the investment fund from the undocumented influence of placement agents. However, continuing revelations have underscored the need for full disclosure of the finances and other activities of placement agents, and additional regulation and enforcement by an independent third party. "Many of the policy goals in favor of regulating those who try to influence legislation and regulatory actions or secure government contracts should also apply to placement agents. Extending the existing lobbyist bans on contingency fees, political contributions and the $10 gift limit to placement agents would increase the confidence in state public pension funds' investment decision making processes and reduce the perception of bias and the risk of actual bias. Under AB 1743, placement agents can still lobby to secure CalPERS and CalSTRS investments on behalf of a client, but they must comply with the California's lobbying laws when they do so." While the Securities Industry and Financial Markets Association (SIFMA) has expressed support for the bill's registration and reporting requirements, campaign contribution ban and strict gift limits, they are concerned about the provision that prohibits lobbyists from accepting payment on a contingency fee basis and, therefore, have taken an "oppose unless amended" position on the bill. According to SIFMA, "?professional placement agents play a vital role in the capital markets and provide substantial benefits both to their private equity fund clients and to potential institutional investors. In connection with the services they provide, placement agents are paid a contingency fee by their clients, which is consistent with the way nearly all securities business is undertaken. We believe that a ban on contingency fee payments would functionally operate as a ban on professional placement agents participating in any private investment transaction by a California retirement system. This would deny both private equity firms and pension and retirement system investors of professional placement agents' valuable services. We therefore would encourage the legislature to exempt professional placement agents from the contingency fee ban provision." SIFMA further contends, "Professional placement agents are broker-dealers registered with the Securities and Exchange AB 1743 Page 5 Commission and are subject to federal securities laws, regulation, FINRA registration and supervision, and applicable state law. They perform four primary functions as part of the placement process: (i) due diligence; (ii) project management; (iii) distribution; and (iv) road show organization." SIFMA is concerned that the current definition of "placement agents" would include not only professional placement agents but persons hired merely as "finders" or for, "?introductory services. A professional placement agent, however, performs a much bigger function than a finder, who generally does not perform - and is not qualified to undertake - many of the due diligence, project management, distribution and road show functions. Rather, a finder may often be unregistered, and he primarily provides his clients with access to a narrow group of potential investors, focusing on personal relationships with high-level officials." SIFMA concludes that they would "?not have an issue with banning contingency fees for finders. A finder's limited role of "opening doors" to a small group of California pension funds could presumably be compensated on a flat fee basis. We, however, do not believe that a flat fee structure, hourly or otherwise, works for professional placement agents or the private equity firms they represent. The end result of a contingency fee ban will likely be that many fewer emerging manager and other innovative opportunities get presented to the California pension fund system." Others who have registered concern with the bill are asking for an exemption for those placement agents who are regulated by the Financial Industry Regulatory Authority (FINRA), a division of the Securities and Exchange Commission (SEC), which oversees and enforces compliance of the rules governing the private placement of investment funds. REGISTERED SUPPORT / OPPOSITION : Support CalPERS Board of Administration (Sponsor) John Chiang, California State Controller (Sponsor) Bill Lockyer, California State Treasurer (Sponsor) AB 1743 Page 6 Debra Bowen, California Secretary of State AARP Association of California Water Agencies California Common Cause California Professional Firefighters California Retired Teachers Association California State Association of Counties California State Employees Association California Taxpayers' Association Faculty Association of California Community Colleges Fair Political Practices Commission Service Employees International Union, California Opposition Securities Industry and Financial Markets Association (Unless amended) Analysis Prepared by : Karon Green / P.E., R. & S.S. / (916) 319-3957