On Friday, April 3, the SEC issued an investor alert about investment scams using phony claims of SEC endorsement. The alert cited unauthorized use of the SEC seal, letters purported to be signed by the SEC and fraudulent investment offers that falsely implied SEC endorsement. (See Alert.)
Key Quote:
“The SEC does not ‘approve’ or ‘endorse’ any particular securities, issuers, products, loans, services, professional credentials, firms or individuals…”
In light of the SEC’s alert, it may be a good time for investors and managers to consider situations where SEC “approval” or “endorsement” concerns can arise in the private fund context — even if those situations don’t amount to fraud. Consider, for example, SEC examinations of registered investment managers and how exam results can be conveyed by manager personnel and processed by investors.
Certain manager personnel or outside marketing firms hired by a manager to market their fund interests may have an incentive to employ aggressive sales tactics. They may over-hype the results of an SEC exam to prospective fund investors and imply that a manager’s investment program has received SEC approval.
Alternatively, in a private fund market that is characterized by limited information, certain investors may view a manager’s successful completion of an SEC examination as some sort of regulatory stamp of approval related to a manager’s investment program.
It’s not.
Investor Considerations
The purpose of SEC examinations is three-fold: To determine whether registered managers are:
1) conducting their activities in accordance with the federal securities laws;
2) adhering to the disclosure made to their investment clients and regulators; and
3) implementing required supervisory oversight and compliance programs on their operations.
Any one of these factors may be material to an investor’s decision on whether to invest in a particular private fund or not, but none amount to SEC investment approval or endorsement. The above SEC quote, in my opinion, should be front and center to any investor and their personnel when analyzing the results of an SEC examination on a manager in the private fund context.
Manager Considerations
For managers, it may be tempting to rely on disclaimer language in a fund’s offering documents and investor representations to address this concern. However, if written disclosure in a fund’s offering documents state one thing and manager personnel are stating or implying facts about an SEC exam results that are inconsistent with that disclosure, it calls into question whether a manager is adhering to written disclosure provided to investors.
To the extent not being done already, a manager should consider implementing oversight on the nature of information being conveyed to prospective investors about SEC exam results.