SEC Enforcement Action On Books & Records Provision Of Advisers Act

Steve KingLegal Insights

SEC Vioaltions of Investment Advisers Act

By Financial Services Partner, Steve King

SEC Enforces Violation of the Investment Advisers Act

SEC Vioaltions of Investment Advisers Act

Examining a Violation of the Books & Records Provision

On September 30, 2020, the Securities and Exchange Commission (SEC) announced settled charges against the Chief Compliance Officer (CCO) of a registered investment adviser (Adviser). These charges were for aiding & abetting and causing the Adviser to violate Section 204(a) of the Investment Advisers Act of 1940 (Advisers Act), the books and records provision.  The CCO was apparently backdating a compliance memorandum relating to potential issues with an investment of clients’ assets made by the Adviser.1  The Adviser was not identified in the administrative proceeding, and was not charged with the underlying violation giving rise to the charges against the CCO.

According to the SEC’s order, in October 2016, the CCO’s supervisor had asked her to memorialize the compliance review that she had conducted in connection with an investment made by the Adviser for its clients’ accounts.  The compliance review had related to potential material nonpublic information issues regarding the company in which the investment was made.  The supervisor was concerned that the circumstances around this investment might be the subject of future regulatory inquiries.  In response, the CCO created and saved a blank memorandum to the file, with a date but no other content.  

Nearly one year later, in September 2017, after the CCO’s supervisor inquired about the memorandum, the CCO drafted a memorandum of the review and backdated it to October 28, 2016.  Shortly after emailing this version of the memorandum to her supervisor, she further backdated the memorandum to October 21, 2016, the day before the subject investment was made.  The CCO did not rely upon any contemporaneous notes or analysis, or re-interview any employees of the Adviser, resulting in multiple factual inaccuracies in the memorandum.

SEC Exam

Approximately two weeks after the memoranda were drafted, the SEC staff commenced an examination of the Adviser.  In response to the SEC staff’s request for supporting documentation of the review of the investment that was the subject of the memorandum, the CCO produced the memorandum dated October 21, 2016, but not the version dated October 28, 2016, and described the memorandum as a “contemporaneous memo to file.”  The CCO reiterated in a later response to the SEC staff both the contemporaneous nature of the drafting of the memorandum and the factual inaccuracies contained in the memorandum.2

Investment Adviser’s Act Violations

The SEC found3 that as a result of this conduct, the CCO had willfully aided and abetted and was a cause of the Adviser’s violation of Section 204(a) of the Advisers Act.  As noted previously, the SEC did not charge the Adviser with any violations, including the underlying violations that led to the charges against the CCO.

Sanctions

The CCO was censured, ordered to cease and desist from committing or causing any violations and any future violations of Section 204(a) of the Advisers Act, required to pay a civil money penalty of $25,000,  was barred from acting in a compliance capacity in the industry, and was barred from appearing or practicing before the Commission as an attorney for one year.

Takeaways

This enforcement action is the second in as many weeks in which a CCO provided misleading information to the SEC staff.4  No fraudulent activity is alleged, and the Adviser is not charged with any violations (or even identified), although it is possible that the investigation is continuing and that a subsequent enforcement action against the Adviser could be brought in the future. Some of the lessons to be learned from this proceeding are:

  • Memoranda summarizing compliance reviews should clearly indicate the details of the timing of the review, even if the document is created after the actual review was conducted.  
  • If such a memorandum is inadvertently not created contemporaneously, date it accurately, provide details of the review that was conducted at the time of the review, and, if necessary, take steps to confirm the accuracy of the details of a review that was performed earlier (such as re-interviewing individuals, checking any documents or notes that may have been taken at the time of the review, etc.).
  • When producing documents to the SEC staff, be careful to produce all responsive documents and, if a narrative response is provided, make sure that it is accurate.

Conclusion 

This enforcement action again illustrates how a CCO can make an error or omission in their administration of the compliance program worse by trying to create or modify records after the event that they relate to and/or providing inaccurate information to the SEC staff.  The SEC will not hesitate to bring enforcement actions against CCOs who mislead regulators, even in the absence of underlying fraudulent activity.  

If you would like to discuss this enforcement action and the SEC’s expectations of chief compliance officers in more detail, please contact the author of this Legal Insight or one of the Practus attorneys with whom you work.

About the Author

Steve King Practus Partner

Practus Partner and Financial Services attorney, Steve King, has provided legal advice on SEC regulations and investment management for over 20 years.

Steve specializes in a wide array of regulatory and compliance issues that arise under the federal securities and commodities laws, including assisting in regulatory examinations, advising on the use of derivatives by registered investment companies, cross-trading, trade allocation policies, trade error policies, and affiliated transactions.

 

Attorney Phone Email
Steve King (949) 245-2700 Stephen.King@Practus.com

Article Footnotes


  1.  In the Matter of Meredith A. Simmons, Esq., Advisers Act Rel. No. 5603 (Sept. 30, 2020), available at https://www.sec.gov/litigation/admin/2020/34-90061.pdf.
  2.  During the SEC enforcement staff’s investigation, multiple versions of the memorandum were produced to the staff, but the CCO’s prior misstatements were not corrected.
  3.  In settled administrative proceedings such as this, the parties neither admit nor deny the SEC’s findings in the settled order, except as to the SEC’s jurisdiction over them and the subject matter of the proceedings, which are admitted.
  4.  See In the Matter of Gilder Gagnon Howe & Co. LLC and Bonnie M. Haupt, Advisers Act Rel. No. 5582 (Sept. 17, 2020), available at https://www.sec.gov/litigation/admin/2020/ia-5582.pdf.  See also, Practus Legal Insights (Sept. 27, 2020), available at https://practus.com/sec-enforces-compliance-program-rule-violation-against-adviser-and-cco/.