Securities Law | Expert Legal Commentary
December 27, 2010
Parkcentral Global v. Brown Investment: Hedge Fund Investors Are Entitled to Ownership Lists
Parkcentral Global L.P. v. Brown Inv. Management L.P.
Josh Lawler of Zuber Lawler & Del Duca and Joel Ginsberg
The Delaware Supreme Court has ruled that hedge funds cannot hide behind federal privacy laws in refusing to disclose the identities of their investors. In Parkcentral Global L.P. v. Brown Inv. Management L.P., 1 A.3d 291 (Del. 2010), the Delaware Supreme Court held that federal privacy laws do not preempt Delaware state laws requiring disclosure of all limited partners’ names and addresses to other limited partners who request the information. The ruling opens the door for hedge fund investors to join together and pool their resources in investigating and pursuing claims against the hedge fund.
Parkcentral Global was a hedge fund (now defunct) run by affiliates of H. Ross Perot and the Perot Family Trust. In November 2008, Parkcentral lost approximately $2.6 billion due to devaluation of its commercial mortgage-backed securities investments.
Brown Investment Management L.P., a limited partner with Parkcentral, lost its entire investment in Parkcentral in less than three months. Other Parkcentral investors filed a class action against Parkcentral in the Northern District of Texas for breach of fiduciary duty and other charges. Brown Investment Management is not participating in that class action, reserving the right to file its own separate suit.
Brown sought to investigate the claims made in the class action lawsuit, so it requested from Parkcentral a list of investors, pursuant to its rights under section 17-305 of the Delaware Revised Uniform Limited Partnership Act and the terms of the partnership agreement. Section 17-305 entitles limited partners to access partner information if they make a demand for purpose “reasonably related” to their interest as a limited partner. Brown claimed that it sought the information in order to investigate the claims of mismanagement and breach of fiduciary duty and ask other investors about their interest in joining together to pursue legal action, among other things.
Brown requested the list of investors three times and each time, Parkcentral refused, claiming that federal law limited its ability to disclose the information. Brown sued Parkcentral in the Delaware Court of Chancery, which ruled that Parkcentral had to release the requested information. Parkcentral appealed.
Federal Law Does Not Preempt the Delaware Statute Requiring Disclosure
Parkcentral argued that the Gramm-Leach-Bliley Financial Modernization Act of 1999 (the “Act”), which provided privacy protections for customers of financial institutions, preempted the Delaware law and prohibited disclosure of the investor list. Pursuant to the Act, various federal agencies including the SEC and the FTC promulgated rules and regulations designed to protect the privacy interest of individuals. Under those privacy regulations, “a financial institution may not disclose any nonpublic personal information about a consumer to a non-affiliated third party unless the individual has been provided notice and the opportunity to opt out of the disclosure. Parkcentral Global L.P. v. Brown Inv. Management L.P., 1 A.3d 291, 297 (Del. 2010). The FTC privacy regulations also include a statement that the regulations should not be construed as superseding or affecting state law unless there is a direct conflict between the two. Id.
The Delaware Supreme Court held that the federal regulations do not preempt Delaware state law requiring the disclosure. First, the Court reasoned that a financial institution could comply with both the federal regulations and the state law, noting that the regulations included an exception to the notice and opt out requirements when a financial institution discloses non-public personal information in order to enable compliance with state laws. Id. at 297-298.
Because the Delaware statute falls within the exception carved out in the regulations, the regulations do not preempt the state law. Moreover, the Court held that Parkcentral’s limited partners are not “unaffiliated third parties” whose identities the federal regulations were designed to protect, meaning that the federal regulations do not really even apply to these facts. Id. at 298.
The Partnership Agreement Did Not Prohibit Disclosure
Parkcentral also argued that its partnership agreement prevented it from disclosing the information because 1) the general partner believed in good faith that Disclosure would damage the Partnership and 2) an agreement with a third party required that the information remain confidential. The Court rejected both of these arguments.
The Court found that the general partner did not really hold a good faith belief that disclosure would harm Parkcentral – it may harm the general partner himself, but not the partnership. Id. The Court also determined that no “third party agreement” existed that would prevent disclosure. Parkcentral had tried to argue that each limited partner was a “third party” in relation to all other limited partners, but because all limited parties became parties to the same Partnership Agreement, this assertion lacked merit. Id. at 299.
Even though this case was decided in Delaware, it has far-reaching effects because so many corporations are incorporated in Delaware, and because many other states look to Delaware as the guide for interpreting corporate laws and issues.
The most important impact of Parkcentral is that it has opened the doors for investors to band together as a group to investigate and pursue claims against hedge fund managers in the face of catastrophic losses. This ability to coordinate efforts will ease the financial burden for each investor for pursuing such claims, which will likely result in an increase of such claims in the future.
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