On April 21, 2015, the SEC announced settled administrative proceedings against Kornitzer Capital Management, Inc. (KCM), the adviser to the Buffalo Funds, and Barry E. Koster, KCM’s chief financial officer and chief compliance officer, based on the SEC’s finding that KCM and Koster violated Section 15(c) of the 1940 Act by providing inaccurate and incomplete information concerning the profitability of KCM’s advisory contracts with the Funds. The SEC found that KCM violated its duty under Section 15(c) to furnish such information as may reasonably be necessary for investment company directors to evaluate the terms of the advisory contracts and that Koster caused such violation.

The SEC found that the profitability analyses prepared and provi ded by Koster on behalf of KCM included an explanation of KCM’s expense allocation methodology which specifically represented that employee compensation expense allocated to the funds was allocated “based on estimated labor hours.” The SEC found that Koster in fact considered other undisclosed factors and adjusted the allocation of the compensation of the firm’s CEO to the funds in a manner designed, in part, to achieve year-to-year consistency of KCM’s profitability with respect to the funds. As a result, the fi rm was able to report almost identical pre-tax net profit margins year over year.

Although recognizing that Section 15(c) does not define what is “reasonably necessary” to evaluate the terms of an advisory contract, the SEC’s order noted the 2004 f orm amendments and the disclosure necessary in the fund’s shareholder report as to the approval o r renewal of an advisory contract, as well as the required discussion therein concerning, among other things, the costs of the services to be provided and profits to be realized by the investment adviser an d its affiliates from the relationship with the fund. Citing the 2004 adopting release, Disclosure Regarding the Approval of Investment Advisory Contracts by Directors of Investment Companies, the order states “[i]t would be difficult for a board to reach a final conclusion as to whether to approve an advisory co ntract without reaching conclusions as to each material factor.” Thus, the SEC found that KCM’s profitability analysis was reasonably necessary for the board’s consideration of KCM’s advisory contracts under Section 15(c) of the 1940 Act. KCM and Koster were ordered to pay penalties of $50,000 and $25,000, respectively.