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While the venture capital market is shifting gears and focusing on challenges ahead after several years of decline, the regulators demonstrate intense rulemaking targeting investment management firms. The FinCEN and SEC have initiated several rules directly affecting traditionally exempt VC firms while changes in state and local legislation present novel challenges, accompanied by aggressive enforcement and hefty fines.
The regulatory pressures exerted on venture capital firms call for new approaches to cope with the ever-growing scope of new demands and disclosures. This article explores key regulatory challenges faced by VC firms and best practices to ensure multi-jurisdictional compliance.
The end of 2023 and the first half of 2024 have been marked by a number of significant regulatory changes affecting venture capital firms, which have traditionally received less attention from regulators.
Unlike banks, broker-dealers and mutual funds, PE and VC firms historically escaped Anti-Money Laundering (AML) and Combating the Financing of Terrorism (CFT) laws. However, in February 2024, the Financial Crimes Enforcement Network (FinCEN) suggested measures to mitigate the risks posed by firms managing vast amounts of funds outside the AML and CFT frameworks.
The new proposal by FinCEN applies to private equity and venture capital firms alike. These new regulations would affect Registered Investment Advisers (RIA) and Exempt Reporting Advisers (ERAs), thus also extending to venture capital managers exempt with the SEC.
When the new regulation goes into effect, VC firms will have to adopt comprehensive AML/CFT programs including extensive reporting and due diligence. Companies affected by the regulation will be in a much better position if they take a preemptive approach and start preparing for the new rule, not waiting until it comes into force.
With giants like BlackRock staying overweight on the AI theme, many venture capital firms hold high anticipation for AI startups. At the same time, regulators in multiple jurisdictions are keeping a close eye on AI to mitigate risks posed by the new technology.
The European Union has already adopted the Artificial Intelligence Act (AI Act), considered the world's first comprehensive legal framework for AI, setting rules for data quality, transparency and accountability. The Act imposes extensive disclosure requirements to ensure transparency and compliance.
It can be reasonably expected that similar regulations will soon be enacted in other jurisdictions. Venture capital firms considering investments in AI technologies will need to conduct thorough due diligence and risk assessment to ensure that their backed companies are compliant and adjust their strategies to avoid high-risk AI systems. Meanwhile, those VCs that seek to stay ahead of regulatory changes can already start implementing preemptive measures in their governance strategies to ensure multi-jurisdictional compliance with AI regulations.
In 2023, California adopted a New Diversity Reporting Law, obliging venture capital companies with ties to California to "collect and report the demographic information of the founding team of members of their invested companies." Coming into effect in March 2025, the new law is intended to address the inequitable distribution of funding to minority- and women-owned emerging companies.
The venture capital firms meeting the criteria of the law will need to collect the required information from portfolio companies. Meanwhile, the portfolio companies will have to anonymously report demographic information on the gender, race, disability status, sexual orientation, and veteran status of their founding teams. In turn, the venture capital firm will need to file reports on the investments made in the portfolio companies founded by diverse team members, as well as publicly release aggregated and anonymized reports.
While the majority of VC firms are Exempt Reporting Advisers, those businesses that are registered with the SEC as Registered Investment Advisers face a steep regulatory climb, which includes:
The sweeping nature of the new regulations creates a significant burden for venture capital firms, which can be considerably alleviated by preemptive measures and the application of modern technology.
By assessing the impact of new regulations early, not waiting until they come into force, venture capital firms can create necessary processes and define the roles within their organizations to ensure compliance. Investment management businesses need to establish comprehensive due diligence on new regulations to assess their applicability, the scope of their obligations and risks, and implement a change management plan.
As change management and compliance work are fully contingent upon the quality of data, companies need to implement a single source of truth for all corporate records to streamline collecting required data sets, reporting and filing. Companies need modern tools to collect new data required by the regulations, ensure it is regularly updated, provide for its safe storage, and ensure collaboration between their teams and entities.
In particular, venture capital businesses would benefit from implementing a comprehensive tech stack, which ensures the most fundamental compliance capabilities. At a minimum, such tech stack could include the following components:
- regulatory filing software,
- due diligence automation tools,
- entity management software,
- corporate structure visualization tools,
- investor relations platform.
Empowered by technology, the teams will be well-equipped to leverage corporate data as a strategic resource to streamline compliance work. Having efficient tools and the ability to file necessary reports at the click of a button is the best option companies can offer to their teams in the face of regulatory uncertainty.
The Athennian platform provides an extensive toolset aimed at helping investment funds and venture capital firms navigate the complexities of multinational compliance. Offering comprehensive entity management software, the Athennian allows automating reporting with customizable templates, streamlining due diligence and investor relationships. For more information, please don't hesitate to contact the Athennian team for a free demo.
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