“We’re Not in Kansas Anymore:” SEC Enforcement Action Against a Trust Company With Trusts
The Great Plains Trust Company, Inc., was chartered in April 1994 by the State Bank Commissioner of Kansas to transact a general trust company business, (but was not chartered to nor did it) accept deposits. Its initial business was to “provide investment management services to employee benefit plans” (according to the Trust Company’s history on its website). It was and is located in Overland Park, Kansas, a well-to-do suburb of Kansas City, Missouri. Overland Park is a city of about 200,000 some 15 miles South-Southwest of Kansas City (Mo.). Kansas City and its suburbs have quite a number of major financial institutions, including Janus Henderson money management (where Janus had previously spun off its original parent, Kansas City Southern Railroad, in 1997, and then merged with the UK’s Henderson in 2017) and Waddell and Reed (also headquartered in Overland Park, Kansas). Kansas City is home to one of the nation’s 12 Federal Reserve Districts, which together comprise the Federal Reserve System. The Trust Company had approximately $100 million in fiduciary assets by the end of 1994 and had – until October 2020 – grown to over $3 billion of fiduciary assets. It is now in the process of becoming smaller.
A Trust Company With Trusts
As noted, the Trust Company began operations in 1994 by serving what has been called “Collective Pension Trust Funds.” In 1997, the Company added a new facility which has been called “Common Personal Trust Funds.” The Company evidently enjoyed some success in these businesses, as in 2011, it obtained a charter for an affiliated entity, the Great Plains Trust Company of South Dakota. The Trust Company of South Dakota was (according to the Trust Company’s website) formed to provide perpetual (so-called “dynasty”) trusts and “self-settled” asset protection plans under the favorable trust laws of South Dakota. One might say it was a bit of the Cayman Islands in the South Dakota Badlands.
Commingled funds can be an “investment company,” i.e., essentially the equivalent of a mutual fund, etc. under the Investment Company Act of 1940, as amended (the “ICA”), WHENEVER the entity holds itself out as “being engaged in the business of investing, reinvesting, or trading in securities.” ICA, Section 3 (a)(1)(A). If one is an “investment company,” one must register with the U.S. Securities and Exchange Commission (“SEC”), UNLESS an exclusion applies. Two exclusions appear at first glance to overcome the registration requirements, if the investment vehicles involved are trusts – as was the case here – which are “maintained by a bank.” Therein lies the problem. This is not like the state securities law of the State of California, which exempted security issued by a “bank” from California registration requirements. Under California law, a “bank” was only a nationally chartered bank or a bank chartered in California. So in an acquisition transaction (in which the author was involved) of a savings institution chartered in New Jersey by a bank chartered in New Jersey, the one savings institution shareholder residing in California had to be paid cash to avoid having to register the stock of the acquiring New Jersey bank in California. There was no dispute that a Kansas-chartered non-depository trust company is a “bank” for purposes of the ICA. Here, rather, the question was: were the trust funds “maintained by” Great Plains?
SEC Enforcement Action
The SEC read “maintained by” a bank to require that the Trust Company either have or exercise “substantial investment responsibility” over the management of the trust funds. This interpretation was based on just two formal SEC pronouncements. The first, “Employee Benefit Plans: Interpretations of Statute”, Rel. No. 33-6188, 45 Fed. Reg. 8960 (Feb. 11, 1980), set out the SEC staff’s view that being just a custodian or similar administrative capacity does not meet the “maintain” requirement. The staff pointed out that a bank would meet the “maintain” requirement if it either actively managed the trust fund or retained an investment adviser where the bank made the final investment decisions based on the adviser’s recommendations. The SEC saw a need for this interpretation because collective investment trusts had by 1980 become an attractive alternative investment vehicle (for cost and flexibility reasons) to mutual funds, particularly with respect to pensions and other retirement and benefit plans. Although there were a series of no-action letters in the ensuing years (which did not “paint” a consistent approach) the SEC did not formally revisit this topic until 2006 in Dunham & Associates Holdings, Inc., et al., Rel. No. 33-8740 (Sept. 22, 2006), where the SEC concluded that a trust company did not “maintain” a trust, as the trust company “exercised no investment responsibility over …[the trust]”, rather the investors in the trust made all investment decisions and the trust “simply carried out those instructions and provided recordkeeping services.” The paucity of these interpretive resources led Commissioner Hester Pierce, in an October 2, 2020, statement, to express a vigorous dissent from the SEC enforcement action in Great Plains Trust Company, Rel. No. 33-10869 (Sept. 30, 2020). Commissioner Pierce was particularly concerned that the SEC, as a secondary regulator, had not given sufficient deference to the Trust Company’s primary regulator, the Kansas Department of Banking. She also thought it inappropriate jurisprudence for the SEC to use “… an enforcement action to disentangle overlapping regulatory regimes.”
What does not appear in the Great Plains enforcement action is a full portrayal of underlying facts, which one suspects may have been the unspoken predicate for the SEC decision to take what Commissioner Pierce describes as a “full-blown enforcement action.” Great Plains retained Kornitzer Capital Management (“KCM”) as the investment adviser for the Great Plains trust funds, beginning in 1994. KCM was founded in 1989 in Mission, Kansas, practically next-door to Overland Park. By 2020, KCM had become one of the largest fee-only investment adviser firms in the Kansas City metropolitan area, with some $5.2 billion under management. By 2015 KCM had caused the four Great Plains trust funds (the Retirement Equity Fund [“REF”]; the Retirement Fixed Fund [“RFF”]; the Common Equity Fund [“CEF”]; and the Common Fixed Fund [“CFF”]), to accumulate great holdings of the securities of Lion Gate Entertainment Corporation (“Lionsgate”), the movie production company. In 2015, the Lionsgate stock was $41/share. By February 2016 the price had fallen to $18.53/share. By this time Lionsgate stock comprised the following portions of the four trust funds: REF 30%; RFF 79%; CEF 30%; CFF 89%. As a result, the board of Great Plains adopted new investment policies in May 2016, which among other things forbade having any one security being more than 10% of the holdings of a trust fund. KCM undertook to reduce the concentrations to under 10% within 12 – 18 months. Nonetheless, by the end of 2016, the holdings were: REF 28%; RFF 53%; CEF 28%; and CFF 39%. Despite the Great Plains memoranda and letters to KCM in 2017, by June 30, 2018, the Lionsgate holdings in the four funds still materially exceeded 10 %; namely: REF 25%; RFF 72%; CEF 22%; and CFF 52%.
By then investors in the four funds had commenced litigation against KCM and, in at least some instances, against Great Plains. An SEC investigation and enforcement action ensued. On December 10, 2019, the SEC settled the action against KCM, which among other things required KCM to disgorge to the Great Plains trust funds $4.98 million (less $4.13 KCM had already paid to the trusts) and to pay a civil penalty of $2.7 million. On September 30, 2020, Great Plains Trust Company, Inc., settled with the SEC, agreeing to:
A cease and desist order
Pay a $300,000 civil penalty
Terminate the four trust funds
Distribute any remaining monies to the investors
The liquidation of the trust funds is expected to be completed by October 30, 2020. Although Great Plains and its trust funds were the victims of the negligence (or more) of KCM in managing the monies in those trusts, it is manifest that the board of Great Plains had failed to act decisively and protectively to rescue the investors in those trusts. It is for this reason that the decision of the SEC to take “full-blown enforcement action” does not seem unjustified. This background also suggests why Great Plains Trust Company elected to abandon the collective trust fund businesses which had led to its founding in the first place.