proskauer benefits brief podcast

In this episode of the Proskauer Benefits Brief, partner Ira Bogner and senior counsel Adam Scoll discuss VCOC “Management Rights.”  For VCOC compliance purposes, “management rights” are contractual rights directly between an investing entity and an operating company by which the investing entity can substantially participate in, or substantially influence the conduct of, the management of the operating company.  Unfortunately, there is not a ton of guidance out there explaining what constitutes sufficient VCOC “management rights,” so make sure to tune in to this podcast to hear our views.


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Adam Scoll:
  Hello, and welcome to the Proskauer Benefits Brief: Legal Insights on Employee Benefits and Executive Compensation.  I’m Adam Scoll, Senior Counsel in the firm’s Boston office, and I’m here with Ira Bogner, partner in our New York office, and today we will be discussing VCOC “Management Rights.”

By way of background, generally speaking, for an entity to qualify as a “venture capital operating company”, or “VCOC”, at least 50% of the entity’s assets (valued at cost), must be invested in operating companies with respect to which the entity has management rights, and the entity must actually exercise such management rights with respect to one or more such operating companies in the ordinary course of its business.

Ira Bogner:  Right. “Management rights” are contractual rights directly between an investing entity and an operating company, by which the investing entity can substantially participate in, or substantially influence the conduct of, the management of the operating company.  Unfortunately, there is not a ton of guidance out there explaining what constitutes sufficient management rights for these purposes.

Adam Scoll:  In the preamble to the plan assets regulation, which is the regulation containing the applicable VCOC rules, the Department of Labor generally declined to limit or define the types of rights that will constitute management rights.  Further, the Department of Labor noted that whether a set of rights obtained by a VCOC constitutes sufficient management rights is an inherently factual question to be determined by taking into account the particular facts and circumstances of each case.  But the DOL has noted that a VCOC does not need to have the power to direct a portfolio company’s management to comply with the VCOC’s input.

Ira Bogner:  Based on a discussion in the preamble to the proposed version of the plan assets regulation, and on the practice that has developed since the plan assets regulation was issued, the right to a seat on a company’s board of directors should constitute management rights, but the right to the board seat must be a direct contractual right with the company.  Thus, even where it is understood that the VCOC will have a board seat, for example where the VCOC holds the majority of a class of stock entitled to elect a director, care should be taken to document the right to the board seat.

Adam Scoll:  That being said, obtaining a board seat is not the only way to acquire sufficient management rights.  Helpfully, the Department of Labor concluded is advisory opinion 2002-01A that where a VCOC was given the right to receive certain financial statements from the operating company and its subsidiaries, the right to inspect and access copies of documents, reports, financial data and other information of the operating company and its subsidiaries, the right to visit and inspect any of the properties of the operating company and its subsidiaries, and the right to consult with and advise the management of the operating company and its subsidiaries on reasonable notice and at reasonable times on all matters relating to the operation of the operating company and its subsidiaries, the investor had obtained sufficient VCOC management rights.

Ira Bogner:  However, the VCOC that requested that advisory opinion letter represented that such rights were greater than the rights normally obtained by institutional investors in portfolio companies, and the Department of Labor acknowledged that this representation was a factor in making its determination.  Because there is less certainty about what rights, other than a board seat, qualifies management rights, we typically advise clients to obtain a strong a set of rights as they can, rather than asking us what is the least they can live with.

Adam Scoll:  Again, a VCOC’s rights need to be direct contractual rights in order to satisfy the requirements of the VCOC rules.  A common misconception is that a separate VCOC management rights letter is required.  Although it may be advisable in certain circumstances, the rules do not actually require it.  Accordingly, a VCOC can obtain management rights pursuant to the applicable investment documents, pursuant to the government documents of the portfolio company, pursuant to a separate VCOC management rights letter or other contractual agreement, or any combination thereof.

Ira Bogner:  Just a couple of other items to be aware of.  A VCOC has to have its own direct contractual management rights with respect to the operating company.  Generally, rights that it shares with another entity, such as a parallel fund or co-investor, will not satisfy the requirements.  Further, if the VCOC is investing indirectly into an operating company, for example through a wholly-owned blocker, you’ll need to make sure that even though the VCOC is investing indirectly, it still obtains direct contractual management rights with respect to the operating company.

Adam Scoll:  And those are two great reasons why sometimes having a separate VCOC management rights letter agreement can be really helpful.  With a separate agreement you’ll have more control and visibility as to making sure your VCOC has its own rights and is being granted rights by and with respect to the correct parties.  Another benefit is that a separate VCOC management rights letter agreement typically cannot be amended without the VCOC’s consent, which may not always be the case for other investment or governing documents with many parties.

Ira Bogner:  And don’t forget, simply obtaining direct contractual management rights is not the end of the story.  In order to qualify as a VCOC, the VCOC must actually exercise such management rights with respect to one or more such operating companies in the ordinary course of its business.  An example in the plan assets regulation indicates that a VCOC can satisfy this requirement by routinely consulting informally with and advising the management of an operating company, and devoting substantial resources to such consultations.

Adam Scoll:  Thanks, Ira.  That concludes our discussion of VCOC “Management Rights.”  Thank you all for joining us on the Proskauer Benefits Brief, stay tuned for more legal insights on Employee Benefits and Executive Compensation, and be sure to follow us on iTunes, Spotify and Google Play.

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Photo of Ira G. Bogner Ira G. Bogner

Ira G. Bogner is Managing Partner of the Firm. He is the immediate former chair of the Firm’s Tax Department. He is a member of the Employee Benefits & Executive Compensation Group and the Firm’s Executive Committee. Ira represents a varied list of…

Ira G. Bogner is Managing Partner of the Firm. He is the immediate former chair of the Firm’s Tax Department. He is a member of the Employee Benefits & Executive Compensation Group and the Firm’s Executive Committee. Ira represents a varied list of clients, including financial service companies, entertainment industry clients, and tax-exempt organizations, and also actively represents individual executives in executive compensation matters.

Ira counsels clients with respect to the tax, securities law disclosure, corporate governance, stock exchange and other requirements relevant to executive compensation arrangements. Ira also provides advice regarding equity arrangements, employment agreements, change in control agreements and all other types of executive compensation arrangements, including guidance regarding “409A,” “162m,” “457A,” and “280G.”

Ira frequently is called on to structure and analyze alternative investments for pension trusts and other exempt organizations. He also works with the Firm’s corporate and real estate lawyers in structuring and maintaining investment funds that include participation by pension plans. Through his work in the investment fund area Ira has obtained substantial experience in applying the rules provided under the “plan asset” regulations, including the operation of venture capital operating companies and real estate operating companies. He has assisted in the formation of private equity, real estate, infrastructure and hedge funds, including “fund of funds.” Ira also has advised clients on both avoiding ERISA “plan asset” status and operating an investment fund in accordance with ERISA.

Areas of Concentration

Ira has provided guidance to clients on a wide variety of matters in the areas of employee benefits and executive compensation, including:

  • investment of plan assets
  • implementation of employee benefit plans

  • employee benefit issues in mergers and acquisitions

  • awarding of equity-based compensation

  • negotiation and drafting of employment agreements and severance arrangements

  • structuring, analyzing and maintaining investment funds that are suitable for plan investors

Thought Leadership

Ira has published a number of articles in publications such as The New York Law Journal, The New Jersey Law Journal, The Daily Deal, The Journal of Pension Planning and Compliance, Mergers and Acquisitions (The Monthly Tax Journal), The Journal of Taxation and Regulation of Financial Institutions, The Metropolitan Corporate Counsel, European Private Equity & Venture Capital Associations, The LPA Anatomised and Private Equity International and has been named to the Board of Advisors of the Journal of Taxation and Regulation of Financial Institutions. He also has lectured on topics such as the classification of workers, drafting employment agreements, equity alternatives for senior executives, investing IRA assets, the plan asset regulations, shareholder approval of equity plans, Code Section 409A, and key provisions for ERISA investors investing in a private equity fund.

Recognition

Ira has been recognized and ranked by various directories. US Legal 500 has carried the following comments: “Ira Bogner is ‘available, responsive and knowledgeable;” “Ira Bogner ‘provides a level of comfort with respect to business issues that is rare in the world of ERISA;” “Ira Bogner is the ‘go-to guy for fund sponsors needing help with ERISA.’”

Photo of Adam Scoll Adam Scoll

Adam Scoll is a partner in the Firm’s Tax Department and Private Funds Group.

He specializes in the area of Title I of ERISA and the investment of ERISA “plan assets,” advising both pension trusts and their investment managers and advisers with regard…

Adam Scoll is a partner in the Firm’s Tax Department and Private Funds Group.

He specializes in the area of Title I of ERISA and the investment of ERISA “plan assets,” advising both pension trusts and their investment managers and advisers with regard to compliance with ERISA’s complex fiduciary duty and prohibited transaction rules.

Adam regularly advises private investment fund sponsors regarding the structuring of their funds in order to accept investments from ERISA-covered pension trusts, including compliance with the ERISA “plan asset” regulations and the operation of venture capital operating companies (VCOCs) and real estate operating companies (REOCs).

Adam also represents both employers and senior executives in the negotiation and drafting of employment and separation agreements, deferred compensation plans, and equity and “phantom equity” arrangements, including compliance with the nonqualified deferred compensation rules under Sections 409A and 457A of the Internal Revenue Code.