The concept of “control” of insurers received significant attention from state insurance regulators last year and will receive even more in 2023. We wrote a brief report in April 2022 following the New York Department of Financial Services’ (NYDFS) publication of Circular Letter No. 5. That letter reminded the industry that neither acquiring less than 10% of the voting equity of an insurer nor limiting board representation to a single seat would guarantee a finding of no control (thus absolving investors of the need to obtain regulatory approval to acquire the minority interest and provide detailed biographical and financial information). As Circular Letter No. 5 stated, “[a] determination of ‘control’ under Insurance Law § 1501(a)(2) depends on all the facts and circumstances… [there is no] safe harbor for acquisitions below the 10% threshold, which may still result in a control determination.”
We followed up with another report in May 2022 in which we discussed the ongoing work of multiple National Association of Insurance Commissioners (NAIC) committees, task forces and working groups under the overall direction of the Macroprudential (E) Working Group to address 13 “regulatory considerations” relating to control of insurers by, among others, private equity funds (PE Funds). One of the key regulatory considerations being handled by the NAIC’s Group Solvency (E) Issues Working Group concerns persons/entities that do not have 10% or more ownership of voting securities of an insurer, including consideration of:
Non-customary minority shareholder rights
Investment management agreement provisions, such as costly termination provisions or excessive control over investment decisions.
On December 20, 2022, NYDFS published a “Request for Comments regarding the Presumption of Control” (the December 20 RFC)—not control of insurers, but of New York-regulated banks. What can we learn from comparing the approach of the banking side of NYDFS with their counterparts in the insurance division and with the NAIC’s developing approach as a whole?
THE DECEMBER 20 RFC
New York banking regulators began their request for comments by identifying “investment management companies” as the specific investors they were concerned about rather than listing all “potential investors” (as their insurance counterparts did back in April 2022). Throughout the remainder of the December 20 RFC, bank regulators continued to focus on investment management companies and the various funds (such as mutual, exchange-traded and PE), including individual and pooled accounts “sponsored, managed or advised” by investment managers and their affiliates with power to vote those shares. As the December 20 RFC went on to explain, certain fund managers had suggested various limitations and constraints that regulators could impose to allow the fund managers to hold large “passive” equity positions—perhaps significantly more than 10% positions that would trigger the presumption of control—without the need to be classified as controllers.
The December 20 RFC reviewed several proposed passivity commitments ranging from voting cutbacks, seat limitations on boards of directors and committees of boards of directors, prohibitions on serving as officers or employees of the controlled entity to soliciting proxies or exercising operational control or discretion as to a controlled entity’s “major policies and decisions.” All of these proposed commitments replicate or, at the very least, echo those found in NYDFS’ required “Special Commitment” that must be agreed upon before NYDFS will consent to a finding of no control of a domestic insurer, including a final commitment prohibiting disposals or threatened disposals of equity that implicitly or explicitly act as conditions to or inducements for the controlled entity to take or refrain from taking some action. Other states besides New York have taken similar stances.
The December 20 RFC then goes on to review multiple additional limitations or prohibitions on:
Selling shares in the controlled entity, including single transaction sale limitations (e.g., no more than 5% of the controlled entity’s equity)
Entering into banking or non-banking transactions with the controlled entity.
The December 20 RFC concludes by requesting comments and responses to 13 questions, including maximum percentages of equity, voting and non-voting, that fund managers ought to be able to acquire without a finding of “control” (assuming compliance with voting cutback commitments). Other questions are specific to investment managers, e.g., should regulators regard equity ownership by index funds as inherently “passive” and therefore unobjectionable? Should regulators care about ownership of voting equity by multiple investment managers and managed funds? Should regulators care about equity ownership of funds sponsored by investment managers but managed by “external managers”? If so, how independent must the external managers be? Additional questions seek comments on “abrupt dispositions” of equity and “alternative structures” (e.g., “certain types of derivatives” that act as substitutes for holding voting equity).
While several of the proposed commitments being considered by the NYDFS banking division seem similar to (if not identical with) those that the insurance side of NYDFS have employed for many years, the kinds of questions being posed by the NYDFS banking division as it engages with the investment management industry might be answered differently by insurance regulators. Indeed, insurance regulator reactions to certain asserted passive investments, the size of such investments (i.e., those well in excess of 10%) and to certain fund investors (i.e., PE Funds) might be quite different. Perhaps the differences in approach have more to do with insurance regulators considering an extremely wide range of potential acquirers of control, ranging from already regulated industry participants, including licensed insurers and managing general agents, to unregulated fund managers, with many categories of potential acquirers in between. Regardless, the NAIC’s Macroprudential (E) Working Group (now being chaired by NYDFS Acting Deputy Superintendent of Insurance Robert Kasinow, one of the country’s most experienced insurance regulators) will have additional issues to consider in 2023 if the December 20 RFC is any indication.