United States: SEC Compliance Initiative: Lessons From The Latest Cases

On Oct. 23, 2013, the SEC announced settled enforcement proceedings with three investment advisory firms. The cases were announced in a single press release, designed to impress on advisers that the SEC is pursuing compliance issues when advisers are not taking compliance issues seriously.

Executive Summary

These cases all involve situations in which registered investment advisers either ignored, or did not respond adequately to, comments from SEC staff in regulatory compliance exams. The cases involved sanctions for three advisory firms and several individuals involved with these firms. These cases involve civil monetary penalties that total $400,000.

The lessons from these cases include to:

  • follow up on deficiencies cited in SEC regulatory compliance exams;
  • make sure compliance personnel are adequately trained;
  • tailor your compliance procedures to the operations of your company;
  • complete and document annual reviews of compliance procedures;
  • make sure accounting inputs have adequate cross-checks to avoid billing and other errors; and
  • make sure disclosures to advisory clients and potential advisory clients about SEC compliance exams are accurate.

These cases arise out of the compliance initiative in the SEC Enforcement Division's Asset Management Unit, which seeks to proactively prevent investor harm by working closely with SEC examiners to ensure that advisers have viable compliance programs in place.

An earlier SEC press release stated the following concerning this compliance initiative:

When SEC examiners identify deficiencies in a firm's compliance program, those deficiencies need to be corrected before they lead to other securities law violations that could harm investors. Investment advisers that essentially ignore SEC examination warnings risk being the subject of SEC enforcement actions.

These cases demonstrate these concepts in action, and provide a clear indication that advisers need to have a continued focus on compliance matters.

Equitas Capital Advisors, LLC (Equitas) and Equitas Partners LLC (Equitas Partners)

Two of these cases arise out of the same adviser, Equitas, whose core business is recommending money managers to clients, as opposed to investing client assets directly. Equitas is based in New Orleans, Louisiana.

Equitas Partners was a registered investment adviser from 2005 to March 2012 when it withdrew. Equitas Partners is now an exempt reporting adviser at the federal level and manages a fund of hedge funds known as the Evergreen Fund.

David Thomas is the principal founder and sole owner of Equitas.

Susan Christina has worked at Equitas since it was founded and has been its CCO since approximately 2004.

SEC Office of Compliance Inspections and Examinations' (OCIE) Examinations of Equitas and Equitas Partners in 2005, 2008 and 2011

The order alleges a number of violations, including Equitas's:

  • inadvertent overbilling and underbilling of certain clients;
  • negligently making false and misleading disclosures to clients and potential clients about its historical performance, compensation, conflicts of interest and prior examination deficiencies;
  • failing to conduct the required annual compliance reviews; and
  • failing to maintain written compliance policies and procedures reasonably designed to prevent violations of the Advisers Act and its rules.

The order alleges that Equitas Partners, as well as Equitas, had the violations in the last two bullets.

Remedial Action

The settlement includes remedial action.

  • Equitas and Equitas Partners agreed to continue to retain an independent compliance consultant to conduct three annual compliance reviews.
  • The reports of the consultant are to be provided to the SEC, as well as Equitas and Equitas Partners.
  • Equitas and Equitas Partners are required to implement the recommendations of the consultant (except to the extent that Equitas and Equitas Partners can convince the consultant that the recommendations are burdensome).
  • Advisory clients are to receive notice of the settlement.
  • A summary of the settlement is required to be placed on the website of Equitas with a link to the order itself.

Monetary Penalties

Equitas and Equitas Partners were censured. There were civil monetary penalties for Equitas of $100,000 and Thomas of $35,000.

Stephen Derby Gisclair (Gisclair)

Gisclair was a cofounder, coowner and the COO of Equitas. Gisclair was the CCO of Equitas Partners.

Gisclair was the primary liaison between OCIE staff and Equitas and the primary author of responses by Equitas to SEC staff deficiency letters. As result, Gisclair has a separate order and settlement relating mainly to deficiencies at Equitas and Equitas Partners.

Gisclair left Equitas in 2010 and became associated with Crescent Capital Consulting, LCC (Crescent). This move resulted in litigation between Equitas and Gisclair.

The Gisclair order involves alleged violations that are the same items as those described above for Equitas and Equitas Partners. In addition, the SEC order states that Gisclair used customer information in violation of the provisions of Regulation S P when he left Equitas and Equitas Partners to join Crescent.

After Gisclair left Equitas in 2010 and became associated with Crescent, OCIE found some of the same deficiencies during its first examination of Crescent in 2012-2013.

The SEC's order notes that:

  • Gisclair gave up his role as CCO of Crescent at the start of 2013.
  • Crescent hired an independent consultant in 2012 to evaluate and improve compliance procedures, including matters related to deficiencies found by OCIE during its 2012-2013 examination.
  • Crescent reimbursed its overcharged advisory clients.
  • Crescent implemented a new, more automated billing system expected to reduce billing errors.

Gisclair also agreed to provide notice of the settlement to Crescent's advisory clients.

Gisclair Monetary Penalty

Gisclair was subject to a civil monetary penalty of $90,000, the highest individual civil monetary penalty in these cases.

Modern Portfolio Management, Inc. (MPM)

This case involves the alleged failure of MPM, a registered investment adviser based in Ohio, and its principals, G. Thomas Damasco and Bryan F. Ohm, to correct ongoing violations at the advisory firm. MPM's ADV indicates that it provides customized nondiscretionary portfolio management services.

Damasco and Ohm are the founders and principal shareholders of MPM. Damasco is the CEO and was designated as the CCO in November 2012. Ohm is the president.

The SEC emphasizes that in the view of the SEC, the MPM employee who handled compliance functions during almost all of the period of time involved here did not have adequate knowledge, training or resources to carry out compliance duties.

As is outlined below, the violations alleged by the SEC took place over a relatively long period of time and were not fixed, despite being noted in two consecutive compliance exams.

2008 OCIE Examination

An on-site examination of MPM in 2008 by OCIE found that MPM had violated securities laws by:

  • failing to complete an annual compliance review in 2006;
  • making misleading statements on MPM's website regarding MPM's exclusive access to Dimensional Fund Advisors (DFA) funds;
  • omitting disclosures in its performance information that were required by MPM's own policies and procedures; and
  • making misleading statements in its performance information by providing model results that did not deduct MPM's advisory fees.

After the examination, OCIE staff sent MPM a letter concerning these violations and, according to the order, MPM stated that it would take corrective action to remedy these violations.

2011 OCIE Examination

The SEC order states that MPM continued to violate securities laws at the time of OCIE's 2011 examination by failing to complete an annual compliance review in 2009 and by continuing to make misleading statements in its marketing materials regarding its access to DFA funds. MPM also misleadingly represented in one location on its website that it had over $600 million in assets when it reported in its Form ADV that it had less than $325 million in assets under management as of September 2011.

During the SEC's investigation, MPM hired a compliance consultant to help MPM with compliance issues.

Remedial Action

The settlement with the SEC included significant remedial actions.

  • Damasco and Ohm agreed to complete 30 hours of compliance training relating to the Advisors Act.
  • MPM agreed to hire a new CCO.
  • MPM agreed to retain a compliance consultant for at least three years.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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