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CCO Barred for Altering Reports to Mislead SEC Staff

Recently, the U.S. Securities and Exchange Commission (the “SEC”) charged a dually registered firm and its Chief Compliance Officer (“CCO”) with multiple violations of the Investment Advisers Act of 1940 (“Advisers Act”). The charges included allegations against the CCO that she altered documents in an attempt to mislead SEC examination staff and failures to comply with enhanced policies and procedures adopted as a result of a prior examination by FINRA. The SEC charged the firm with willfully violating Section 206(4) of the Advisers Act and Rule 206(4)-7 thereunder, which require, in part, that registered investment advisors “[a]dopt and implement written policies and procedures reasonably designed to prevent violation” of the Advisers Act and its rules. The CCO was charged with willfully aiding and abetting the firm’s violations. The firm and the CCO were fined $1.7 million and $45,000, respectively, and the CCO was barred from the industry.

Four years prior during its examination, FINRA found the firm failed to actively monitor its cost-to-equity ratios and turnover rates in its clients’ accounts. In response, the firm amended its policies and procedures to require that the CCO or her team review the cost-to-equity ratio and turnover reports on a monthly basis, document these reviews, and escalate all client accounts with a cost-to-equity ratio above 6%. Despite the firm’s amended policies, the SEC stated that the respondents did not implement them by conducting any monthly reviews of cost-to-equity ratios of its client accounts in 2017. According to the SEC’s order, these reviews were “especially important” because the firm charged commissions instead of an asset-based percentage management fee for over 4,500 nonretirement advisory accounts. Because the respondents did not review the cost-to-equity ratios in 2017, the SEC stated that the CCO did not escalate any client accounts with cost-to-equity ratios above 6%, as required by firm policy.

While it is somewhat unusual for  CCOs to face regulatory liability, the order noted that the CCO attempted to cover up her failures by providing altered reports to the SEC’s examination and enforcement staffs. Specifically, the order noted that the CCO had altered the firm’s cost-to-equity and turnover reports by “manually whit[ing] out the printed ‘as of’ date at the bottom of each of the[ ] turnover reports, covering up that they had been printed in December 2017.” The CCO also made handwritten notations on the report to give the appearance she reviewed them earlier in the year. The SEC stated this effort was to give “the misleading appearance that she had contemporaneously reviewed them.” According to the order, the CCO did admit under oath that she altered the reports. While SEC cases charging CCOs individually are rare, the facts of this case align with the guidance provided by a prior director of the Division of Enforcement regarding when CCOs will be investigated and charged. Short of the unique and egregious conduct here, CCOs do find themselves periodically confronted with red flags regarding potential violations of the federal securities laws and/or firm policies and procedures. For guidance on how to reasonably manage those difficult situations, please refer to this article. Another important takeaway from this SEC enforcement action is that firms need to take examination findings by FINRA and the SEC examination staff seriously and follow through on efforts related to responses to examination findings.

© 2020 Faegre Drinker Biddle & Reath LLP. All Rights Reserved.National Law Review, Volume X, Number 274
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About this Author

James G. Lundy, Drinker Biddle, regulatory investigations lawyer, financial services compliance attorney
Partner

James G. Lundy represents clients in Securities and Exchange Commission (SEC), Commodities Futures Trading Commission (CFTC), self-regulatory organization, and other financial regulatory agency investigations and examinations, and compliance and governance counseling, white collar criminal investigations, and complex business litigation.

With 12 years of senior SEC experience and more than two years of in-house experience at a futures and securities brokerage firm, Jim has developed an in-depth working knowledge of the various...

312-569-1120
Michael R. MacPhail Partner Denver Litigation White Collar Crime
Partner

Michael MacPhail defends clients against federal and state government agencies during civil and criminal investigations and litigation, primarily involving the securities industry. He represents public companies, registered investment advisers and broker-dealers.

Securities Litigation

Michael handles investigations and litigation by securities regulators including:

  • The U.S. Securities and Exchange Commission (SEC)

  • The FINRA

  • The Public Company Accounting Oversight Board (PCAOB)

  • The Colorado Division of Securities

  • Other state securities regulators in the Western United States

  • The Colorado Board of Accountancy

303-607-3692
David W. Porteous Corporate Attorney Faegre Drinker Biddle & Reath Chicago, IL
Partner

David Porteous routinely counsels clients in the investment management, broker-dealer and financial services industries on regulatory matters including examinations, investigations and enforcement proceedings as well as complex civil and securities-related litigation. In addition, he assists clients in developing and implementing compliance and regulatory risk management plans and represents clients in complex civil and securities litigation.

Regulatory Agency Background

Before entering private practice, David was a staff attorney in the Securities & Exchange Commission...

312-356-5117
Christina Chapin, Drinker Biddle, Trial Lawyer
Associate

Christina R. Chapin assists clients with various aspects of trial preparation, including legal research and the drafting of motions and other legal memoranda.

As a summer associate at Drinker Biddle, she researched and drafted memoranda on issues including cross-border discovery conflicts and tortious interference claims.

Christina served as a judicial extern for the Hon. Thomas M. Durkin of the District Court for the Northern District of Illinois and the Hon. Mary Anne Mason of the Illinois Appellate Court. 

(312) 569-1106
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