A recent string of SEC enforcement actions should prompt advisors to carefully review their Form ADV for one potentially dangerous word: “may.” It likely appears many times throughout various sections, and in most instances is likely perfectly appropriate. Where it isn’t appropriate, the SEC has made clear, is when it is used to describe an existing compensation arrangement that creates a conflict of interest.
In her remarks to the IA Watch 17th Annual IA Compliance Conference in February, Julie Riewe, Co-Chief of the SEC’s Asset Management Unit within the Division of Enforcement, dedicated significant speaking time to what she described as “conflicts, conflicts everywhere.” She explained that “In nearly every ongoing matter in the Asset Management Unit, we are examining, at least in part, whether the adviser in question has discharged its fiduciary obligation to identify its conflicts of interest and either (1) eliminate them, or (2) mitigate them and disclose their existence to boards or investors. Over and over again we see advisers failing properly to identify and then address their conflicts.”
Identification of conflicts of interest is only half the battle; disclosing them completely and accurately (e.g., in Form ADV) is equally as important. This focus on complete and accurate conflicts disclosure is ostensibly a result of the Asset Management Unit’s “Undisclosed Adviser Revenue risk-analytic initiative,” which has been finding exactly what it was looking for.
Three specific cases are cited as examples: In re Shelton Financial Group, Inc. (Jan. 13, 2015), In re The Robare Group, Ltd. et al. (Sept. 2, 2014), and In re Focus Point Solutions, Inc. (Sept. 6, 2012). I’d add an additional case as well: In re Alan Gavornik et al. (November 24, 2014). All are worth a read, and all center on unidentified or improperly disclosed conflicts of interest. In instances when conflicts were properly identified but improperly disclosed, the SEC cited the respondents’ use of “may” in Form ADV as misleading:
Robare: “In addition, the revised disclosure is inadequate because it states that Robare Group may receive compensation from Broker when it was, in fact, receiving payments from Broker.”
Focus Point: “In addition, the use of the prospective ‘may’… is misleading because it suggested the mere possibility that Tore would make a referral and/or be paid ‘referral fees’ at a later point, when in fact a commission sharing arrangement was already in place and generating income to Tore and Respondents.”