SEC Charges Recidivist Adviser, Co-Founders With Violations of Custody Rule
The SEC has brought a number of custody rule cases as part of its broken windows initiative. Its newest proceeding centered on the custody rule, however, is a contested administrative proceeding which names as Respondents an adviser, its two principals, all of whom are securities law recidivists whose prior violations include the custody rule, and the adviser’s chief compliance officer. In the Matter of Sands Brothers Asset Management, LLC, Adm. Proc. File No. 3-16223 (October 29, 2014).
Named as Respondents are the registered investment adviser, Steven Sands, Martin Sands and Christopher Kelly. Sands Brothers Asset provides investment advisory service to a number of pooled investment vehicles. In 2010 the adviser settled a Commission administrative proceeding in which it was ordered to cease and desist from violating the custody rule, censured and paid a $60,000 penalty. The adviser has also been sanctions by the Connecticut Department of Banking for violations of the state’s securities laws. Steven and Martin Sands are co-founds of the adviser. Each is also subject to the 2010 Commission cease and desist order entered against the adviser. Steven Sands has had his broker-dealer registration subjected to a number of conditions by the State of Connecticut and his license suspended by the NASD. Martin Sands has twice been temporarily barred from association or suspended from holding supervisory positions, censured and fined by the NYSE and had restrictions imposed on his broker-dealer license by the State of Connecticut. Attorney Kelly is the chief compliance and operating officer of the adviser.
The custody rule requires an adviser to ensure that a qualified custodian maintains the client assets; has a reasonable basis for believing that the custodian sends quarterly account statements to clients; and ensures that client funds and securities are verified by actual examination each year by an independent public accountant. For an adviser to a pooled investment vehicle, the rule provides an alternative to the verification requirement if its audited financial statements are distributed to all limited partners within 120 days of year end.
In 1999 OCIE examined the adviser and sent a deficiency letter. The examination demonstrated that the representation in the adviser’s ADV stating that it did not have custody of client assets was incorrect. By virtue of the relationship of the adviser to the pooled investment vehicles, and the relationships of the two brothers and the managing member and general partners, Sand Brothers Asset did have custody of the client assets.
In 2010, as a result of subsequent OCIE examinations in 2004 and 2009, and an investigation by the Division of Enforcement, the adviser and brother were named in a Commission administrative proceeding. The proceeding alleged violations of the custody rule and was resolved as noted above.
From 2010 through 2012 Sand Brothers Asset continued to have custody of client assets. Yet the adviser did not submit to a surprise examination by an independent public accountant. The adviser did distribute its funds’ audited financial statements for fiscal years 2010 to 2012 but after the 120 time limit. The circumstances which caused the audits to be delayed were predictable and not unforeseeable. For example, for 2012 the auditors noted that there was a delay in receiving information from management regarding the valuation of assets.
Steven and Martin Sands aided and abetted the violations since they were responsible for ensuring that compliance personnel had the authority to implement whatever procedures and policies were necessary to ensure that the adviser complied with the Advisers Act.
Mr. Kelley, who was tasked in the compliance manual with ensuring compliance with the restrictions and requirements of the custody rule, knew that the audited financial statements were not being distributed on time. Yet at most he reminded people of the time deadline but failed to take any other steps.
The Order alleges violations of the custody rule. The action will be set for hearing.