Advisory, Executives, Charged with Undisclosed Conflicts – Fraud
The number of cases against investment advisers has been steadily rising since before the current main street investor focus. Now the number of cases being brought each in that classification is at or near the top of those initiated by SEC enforcement. Many of the investment adviser cases center on the failure to disclose conflicts such as those involving the payment of fees to recommend investments for clients. The Share Class initiative, perhaps the most successful recent cooperation initiative launched by the agency, is a good example.
Nevertheless, investment advisers not only continue to ignore the breach of duty that results from such disclosure failures, they often try to conceal the wrong-doing. The Commission’s most recent example of such conduct involves an advisory and its principals that repeatedly concealed such activity while failing to tell clients about the millions in fees paid to ensure that client investment money was directed to certain fund managers. SEC v. Criterion Wealth Management Insurance Services, Inc., Civil Action No. 2:20-cv-01402 (C.D.Ca. Filed Feb. 12, 2020).
Named as defendants are one-time registered investment adviser, Criterion Wealth (now a state registered firm) and Robert Allen Gravette and Mark A. MacArthur. During the period here the two executives co-owned the advisory.
The complaint centers on the arrangements made with Fund Manager A and Fund Manager B that arose during a five-year period beginning in 2012. The two executives were long time acquaintances of Fund Managers A and B. For example, over the five year period Criterion recommended four real estate investment funds offered by Fund Manager A to advisory clients.
A special and undisclosed compensation arrangement involving Fund Manager A required that payments be made to Broker-Dealer as a result of the investments. Virtually all of those payments were then transferred to the two advisory executives. That arrangement resulted in a reduction of the profit participation that Criterion investors received from their investments. Advisory clients were placed in a separate share class or feeder fund that paid Criterion investors lower returns than those received by all other investors in the same Fund Manager A funds.
Defendants also had a special, undisclosed, fee arrangement with Fund Manager B. Under that arrangement, which dated back to 2008, Criterion received referral fees that continued to be paid out over time. For example, for two real estate funds recommend by Defendants to advisory clients, Fund Manager B agreed to pay a referral fee of 2% every year based on the amount of capital invested by Criterion clients. The payments were made to Broker-Dealer. Most of those payments were then transferred to the two advisory executives.
The fee arrangements with Fund Manager A and Fund Manager B were not properly disclosed. During the period Criterion did not conduct annual reviews of the compliance policies and procedures as required. While that point and others were identified to the advisory during a 2014 compliance review by an outside consultant, the recommendations were largely ignored. The side fee arrangements with the two Fund Managers were also concealed from the compliance consultant retained. The complaint alleges violations of Advisers Act Sections 206(1), 206(2), 206(4) and 207. The case is pending. See Lit. Rel. No. 24738 (Feb. 13, 2020).