The SEC charged an investment advisory firm and two of its investment advisers with violating their fiduciary duty and defrauding clients by failing to disclose significant financial conflicts of interest.
According to the SEC Complaint, between 2014 and 2017, the firm and its advisers recommended that their clients invest more than $16 million in four private placement real estate funds, but did not first disclose that the managers of the real estate funds paid the firm and its advisers more than $1 million in side compensation for investing their clients' assets in the funds, separate from the fees paid to them by their clients. The SEC also alleged that the firm and its advisers were incentivized to keep their clients invested in the funds because the side compensation was ongoing and would only be paid if the clients stayed invested. The SEC claimed that these conflicts caused a reduced return for investors in two of the private placement funds. In addition, the SEC alleged that the firm's Form ADV filings were misleading due to its failure to disclose these incentives to clients, and that the firm lacked policies that would have prevented this violation.
The Complaint alleges violations of the antifraud provisions of the Investment Advisers Act. The SEC is seeking (i) a permanent injunction to prohibit any further violations of SEC regulations, (ii) disgorgement of ill-gotten gains, including prejudgment interest, and (iii) the imposition of civil penalties. The litigation is ongoing.
Commentary Kyle DeYoung
This case is the latest example of the SEC Enforcement Division's focus on investment adviser conflicts of interest. The SEC brought a variety of cases against investment advisers for failing to adequately disclose information about how they are compensated. This has recently included a number of cases involving disclosures related to revenue sharing arrangements impacting the selection of mutual fund share classes and other investments for clients. Given the SEC's continued focus on this area, investment advisers would do well to review their non-advisory compensation arrangements and related disclosures in light of this SEC action.
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