Teleconference number: 877.211.3621 – Passcode: 212 803 4073
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FINAL as of 06/07/17 @ noon
hosts the
MidTown Regulatory Group
590 Madison Avenue, 20th Floor
Wednesday, June 7, 2017 @ 4pm NYT
2017 MEETING SCHEDULE:
July 12 (no meeting in August), September 6th,
October 4th, November 1st, and 2017’s Holiday Party on December 6th.
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1.
DISCUSSION: Sutherland Asbill and Brennan published an article regarding the SEC Robare
Opinion in which the SEC sued an IA and two of its principals in 2015 (Respondents) for
failing to disclose conflicts of interest to the IA’s clients. According to the SEC, the IA failed to
disclose to its clients that it received compensation from its custodian for maintaining client
assets in certain mutual funds. After the trial, the administrative law judge (ALJ) found that
the SEC’s Division of Enforcement failed to prove that Respondents committed fraud by
acting with scienter or negligence. The ALJ noted that “Respondents relied in good faith on
the advice of its compliance firms” and such reliance presented “‘possible evidence of an
absence of any intent to defraud.’” Late last year, on appeal, the SEC reversed the decision of
the ALJ. The SEC found that although there was no finding of scienter, Respondents were
negligent for failing to disclose conflicts of interest to clients, despite the assertion that they
relied on the advice of compliance firms. The Commission found that Respondents did not
adequately disclose on the firm’s Forms ADV the existence of its arrangement with the
custodian or details about the conflict the arrangement presented and therefore violated
Sections 206(2) and 207 of the Investment Advisers Act of 1940. The Commission imposed a
cease-and desist order on Respondents and ordered each Respondent to pay a $50,000 civil
money penalty. (article here: http://bit.ly/2qIRx6p, initial opinion here: http://bit.ly/2s242xL,
appeal here: http://bit.ly/2rNQFBR, and all attached below)
2.
QUERY: Do firms performing institutional business plan on sending out some sort of letter
relating to the DOL rules to confirm non-fiduciary status?
Teleconference number: 877.211.3621 – Passcode: 212 803 4073
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3.
DISCUSSION: FINRA Regulatory Notice 17-18: Guidance on Social Networking Websites and
Business Communications (here: http://bit.ly/2rNLeD5 and below) which provides guidance
regarding the application of FINRA rules governing communications with the public to digital
communications, in light of emerging technologies and communications innovations.
4.
DISCUSSION: FINRA Regulatory Notice 17-20: FINRA Requests Comment on the Effectiveness
and Efficiency of Its Rules on Outside Business Activities and Private Securities Transactions
(here: http://bit.ly/2qJ6Dc2 and below). FINRA is conducting a retrospective review of the
rules governing outside business activities and private securities transactions to assess their
effectiveness and efficiency. This Notice outlines the general retrospective rule review
process and seeks responses to several questions related to firms’ experiences with these
specific rules.
5.
QUERY: A member would like to know if there is anyone willing to describe how their firm
handles SA and disclosure for technical analysis?
• This member’s firm has a technical analyst coming on board who will be mostly publishing
macro pieces but is planning on including some single stock charts. Do they need to treat
each single stock chart as individual coverage?
• If this member’s firm has no rice target and no buy/sell/hold for the single names, does
that change the analysis? Finally,
• If it’s a collection of charts with no specific recommendation, does that change the
analysis?
6.
QUERY: A member asks, in light of recent FINRA and state scrutiny, do firms have an internal
definition of ‘high risk’ or ‘recidivist broker’?
7.
QUERY: A member would like to know if firms are completing FINRA's Risk Control
Assessment (RCA) survey? FINRA uses the information obtained from the RCA to enrich their
surveillance program and regulatory coordinator's knowledge of your firm; develop their
national, risk-based examination plan; and risk-focus and streamline each examination.
8.
Other items?
Caveat Compliance:
Can Firms Rely on Advice Received
from Compliance Consultants?
By Brian L. Rubin and Rebekah R. Runyon
Caveat emptor, quia ignorare non debuit quod jus alienum emit.
(“Let a purchaser beware, for he ought not to be ignorant of the
nature of the property which he is buying from another party.”)1
B
Brian L. Rubin is Head of Litigation in the
Washington, D.C. office of Sutherland Asbill
and Brennan, LLP, and is the Administrative
Partner in charge of the Securities Enforcement and Litigation Team.*
Rebekah R. Runyon is an associate in the
Atlanta, GA office of Sutherland Asbill and
Brennan, LLP. She advises clients on complex
business litigation matters, particularly in
securities litigation, accountants’ liability and
commercial litigation. She also represents
clients in a wide variety of proceedings in state
and federal courts.**
roker-dealers (BDs) and investment advisers (IAs) regularly hire compliance consultants to obtain advice about
regulatory requirements. A recent Securities and Exchange
Commission (SEC or Commission) enforcement proceeding against an investment adviser (IA) calls into question whether firms
may rely on compliance consultants as a defense to violating the law.2
However, if firms take proper steps, BDs and IAs may still be able to
retain consultants and defend themselves based on the advice they
receive. Otherwise, “caveat emptor” (as the saying goes) or “caveat
compliance” (as the SEC seems to be saying).
The relevant case began in 2015 when the SEC sued an IA and two
of its principals (Respondents) for failing to disclose conflicts of interest
to the IA’s clients. According to the SEC, the IA failed to disclose to its
clients that it received compensation from its custodian for maintaining
client assets in certain mutual funds. After the trial, the administrative
law judge (ALJ) found that the SEC’s Division of Enforcement failed
to prove that Respondents committed fraud by acting with scienter or
negligence. The ALJ noted that “Respondents relied in good faith on
the advice of its compliance firms” and such reliance presented “‘possible evidence of an absence of any intent to defraud.’”3
Late last year, on appeal, the SEC reversed the decision of the
ALJ. The SEC found that although there was no finding of scienter,
Respondents were negligent for failing to disclose conflicts of interest to clients, despite the assertion that they relied on the advice of
compliance firms. The Commission found that Respondents did
not adequately disclose on the firm’s Forms ADV the existence of its
arrangement with the custodian or details about the conflict the arrangement presented and therefore violated Sections 206(2) and 207
of the Investment Advisers Act of 1940. The Commission imposed a
cease-and desist order on Respondents and ordered each Respondent
to pay a $50,000 civil money penalty.
©2017, Brian L. Rubin and Rebekah R. Runyon
PRACTICAL COMPLIANCE & RISK MANAGEMENT FOR THE SECURITIES INDUSTRY | MARCH–APRIL 2017
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Caveat Compliance: Can Firms Rely on Advice Received from Compliance Consultants?
The ALJ Decision
In dismissing the allegations against Respondents, the ALJ
reviewed Respondents’ reliance on the advice of professional
securities consultants in drafting the firm’s disclosures. The
ALJ noted that the firm “attempted to meet its responsibility
for determining what it needed to disclose in its Form ADV
by hiring outside consultants.” The principals paid compliance
had testified that throughout the relevant period, outside
consultants advised the firm about its disclosures to ensure
that the firm met its disclosure requirements. However, in
reversing the decision of the ALJ, the Commission held that
neither Respondents nor the ALJ cited any case recognizing
reliance on compliance consultants as a defense.
The Commission further noted that even if such a defense
existed, Respondents had been unable to establish such reliance. The record contained no evidence
that the firm sought, received or relied
on advice from consultants regarding the
disclosures it needed to make about the
arrangement with the custodian.4 The
SEC noted that neither principal was able
to recall specific details about the discussions with the consultants nor did they
remember providing the consultants with
copies of the agreement the firm entered
into with the custodian. The Commission concluded that the firm and one principal (the president
and CEO) “could not reasonably rely on any advice that the
disclosures were adequate because they knew their obligations
as investments advisors, that they were required to disclose
potential conflicts of interest, and that the Arrangement presented such a conflict but was not disclosed.”5
A recent [SEC] enforcement proceeding
against an investment adviser calls
into question whether firms may rely on
compliance consultants as a defense to
violating the law.
consultants to assist them in preparing disclosures and reviewing and updating the firm’s Form ADV, and the consultants
were provided with the necessary information to render this
advice. While the principals could not recall the specific conversations about when they informed the consultants of the
arrangement with the custodian, the consultants confirmed that
such an arrangement would ordinarily be a topic of discussion
and that the principals were forthcoming with information and
were engaged and proactive during their discussions. After
reviewing the Forms ADV, the consultants told the principals
that the firm’s disclosures were adequate and compliant with
then-current requirements. Therefore, the ALJ held that the
principals “belt-and-suspenders approach to compliance,
through which they relied on multiple [compliance] firms” to
ensure the firm “was compliant with its disclosure obligation
belie[d] any argument that [the principals] acted with intent to
deceive, manipulate, or defraud anyone.” The ALJ concluded
that Respondents’ good faith reliance on compliance firms was
clear evidence of an absence of scienter.
The SEC Opinion
On appeal, the Commission reviewed Respondents’ reliance on the advice of compliance consultants and addressed
Respondents’ contention that they did not act negligently
because they relied on consultants. At the trial, Respondents
12
MARCH–APRIL 2017
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Quid est veritas (What Is Truth):
Does a Reliance on Consultant Defense Exist?
The SEC decided not to answer this question. Instead, the
SEC stated: “Neither Respondents nor the law judge cite
any case recognizing a defense of reliance on compliance
consultants.” Despite the fact that no case law was cited by
the parties or by the ALJ, the SEC found one of its own cases,
Edgar R. Page, Advisers Act Release No. 4400, 2016 WL
3030845, at *6 (May 27, 2016), and included this parenthetical: “assuming arguendo ‘that engagement of compliance
professionals—as compared to counsel—might under some
circumstances mitigate the egregiousness of a wrongdoer’s
misconduct,’ but concluding that the alleged reliance was,
in fact, not mitigating.” That case, however, didn’t answer
the question, but it raised separate questions, such as when
and how would the engagement of a compliance professional
provide mitigation, as opposed to a defense? It is odd that
PRACTICAL COMPLIANCE & RISK MANAGEMENT FOR THE SECURITIES INDUSTRY
Caveat Compliance: Can Firms Rely on Advice Received from Compliance Consultants?
the SEC raised the issue of mitigation (but didn’t resolve it),
rather than address the issue of defense which is implicated
by the case (but didn’t even resolve that issue either).
The SEC could have answered the question in the affirmative,
citing its own cases where it has heard expert testimony from
compliance professionals on industry standards.6 While the controlling standard for negligence-based actions is reasonableness,
“industry standard is a relevant factor.”7 If industry standard is a
good enough factor for the SEC to rely on to determine whether
a party complied with its rules, that same industry standard—
when supplied by compliance professionals in the course of
their day-to-day jobs, as opposed to expert testimony—should
also be good enough for BDs and IAs to rely on.
It is possible that in a future case, with a better factual
record, the Commission will recognize a reliance on compliance consultant defense. In Robare, the SEC left the
door open for such a defense, concluding that the firm
was unable to show evidence that it disclosed the necessary
information to the consultants and relied in good faith on
the opinion of the hired consultants. However, had the
firm been able to prove elements similar to the reliance on
and rely on compliance consultants regarding disclosures.
While it is common for firms to tap into the experience
and expertise of consultants to assist with disclosures, the
SEC’s opinion could cause firms to question retaining
compliance consultants. In its opinion, the Commission
did not recognize that a defense of relying on compliance
consultants exists. The SEC further noted that even if such
a defense did exist, firms would need to prove that they
sought, received and relied on specific advice in good faith
to invoke such a defense. Therefore, it may be difficult for
firms to simply assume that if they retain a consultant, they
will be able to use that advice to defend themselves in an
enforcement proceeding.
If firms cannot rely on compliance consultants to provide advice that can be relied on and used as a defense in
a regulatory enforcement action, firms may be able to get
similar results if their in-house or outside counsel retain
the compliance consultant to assist the lawyers in providing legal advice. In Robare, the SEC acknowledged that
while reliance on a consultant may not constitute a defense,
reliance on counsel is still a recognized defense. To establish such a defense, a respondent must
demonstrate “that he made complete
disclosure to counsel, sought advice as
to the legality of his conduct, received
advice that his conduct was legal, and
relied on that advice in good faith.”9
Firms may be able to use this wellrecognized defense to protect themselves
when they seek advice from compliance consultants. If inside or outside
counsel hires a consultant and uses the
advice from the consultant to form a
legal opinion and advise the firm, then
the firm may be able to rely on the combined advice of
the consultant and counsel under the reliance on counsel
defense. The BD or IA would, of course, need to ensure
that the advice coming from counsel clearly met the elements of the reliance on counsel defense discussed above.
In a somewhat similar context, courts have found that
when attorneys retain accountants to assist the attorneys,
the attorney-client privilege extends to the accountant.10
While this analysis appears to make sense from a practical standpoint, no cases have been identified in which the
Commission has opined on this practice.
The SEC found that although there was
no finding of scienter, Respondents
were negligent for failing to disclose
conflicts of interest to clients, despite the
assertion that they relied on the advice of
compliance firms.
counsel defense, the Commission may have found that such
a defense was available. The concept of defending one’s
conduct by relying on a non-lawyer professional has been
recognized in other contexts, such as when parties have
retained tax professionals.8
Caveat Emptor: Considerations for Firms
When They Retain Compliance Consultants
The Commission’s opinion provides a clear warning that
BDs and IAs may want to be careful when they retain
PRACTICAL COMPLIANCE & RISK MANAGEMENT FOR THE SECURITIES INDUSTRY
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MARCH–APRIL 2017
13
Caveat Compliance: Can Firms Rely on Advice Received from Compliance Consultants?
To rely on the advice of a compliance consultant as a defense, firms should consider taking the following steps after
engaging a consultant:
Document all disclosures made to the consultant;
Save all communications with the consultant; and
Keep records of the firm’s compliance with the consultant’s
advice.
Verba de futuro: Words About the Future
What does the future hold for BDs and IAs that want to
retain compliance consultants? Unfortunately, given the
Commission’s Robare opinion, the answer to this question is
not entirely clear. While the SEC did not directly answer the
question of whether a reliance on consultant defense exists, it
did leave open the possibility that such a defense could exist.
However, if the Commission were to permit such a defense,
firms would likely need to make a strong showing of their reliance on consultants and be able to prove elements similar to
those required for the reliance on counsel defense. Additionally,
it is possible that BDs and IAs will be able to assert a variation of
the reliance on consultant defense if counsel hires the consultant
directly and uses the advice of the consultant to form its legal
opinion. While the ultimate impact of the Robare opinion
has yet to be determined, it appears that if firms take to heart
the Latin phrase “semper paratus” (always ready), by jumping
through the right hoops and scaling the right walls, they may
find that they can use the advice of compliance consultants to
defend their conduct against regulators.
ENDNOTES
* Brian L. Rubin represents companies and individuals being examined, investigated and
prosecuted by the Securities and Exchange
Commission, the Financial Industry Regulatory
Authority (FINRA) and the states. He also advises
broker-dealers and investment advisers on federal and state regulatory and compliance matters.
Brian was previously Deputy Chief Counsel of
Enforcement with NASD and Senior Counsel with
the SEC’s Enforcement Division.
**Prior to joining Sutherland as an associate, Rebekah R. Runyon participated in the firm’s 2014
Summer Associate program, where she assisted
in preparing depositions in connection with the
Financial Industry Regulatory Authority (FINRA).
Her previous experience includes serving as a
judicial intern for Chris M. McAliley, a federal
magistrate judge for the United States District
Court for the Southern District of Florida.
1
http://wordinfo.info/unit/2975.
2
Robare Grp., Ltd., Mark L. Robare & Jack L. Jones,
Jr., Opinion of the Commission, Release No. 4566
(Nov. 7, 2016), available at https://www.sec.gov/
litigation/opinions/2016/ia-4566.pdf [hereinafter
SEC Robare Opinion].
3
Robare Grp., Ltd., Mark L. Robare & Jack L. Jones,
Jr., Administrative Law Judge Decision, Release No.
806 (June 4, 2015), available at https://www.sec.
gov/alj/aljdec/2015/id806jeg.pdf (quoting United
States v. Peterson, 101 F.3d 375, 381 (5th Cir. 1996)).
SEC Robare Opinion (citing United States v. Masat, 948 F.2d 923, 930 (5th Cir. 1992) (rejecting a
reliance on professionals defense because the
defendant did not “clearly articulate how he
relied on these professionals”)).
5
SEC Robare Opinion (citing SEC v. Goldfield Deep
Mines, 758 F.2d 459, 467 (9th Cir. 1986) (“If a company officer knows that the financial statements
are false or misleading and yet proceeds to file
them, the willingness of an accountant to give an
unqualified opinion with respect to them does
not negate the existence of the requisite intent
or establish good faith reliance.”)).
6
See, e.g., Thomas R. Delaney II & Charles W.
Yancey, Release No. 755 (Mar. 18, 2015) (noting that
compliance experts testified at length concerning
the standard of care for compliance); Dean Witter
Reynolds Inc., Henry L. Auwinger, and Dennis W.
Peterson, Release No. 179 (Jan. 22, 2001) (noting
that compliance expert testified that respondents’ supervisory procedures and activity letters
comported with industry standards); George J.
Kolar, Release No. 152 (Oct. 28, 1999) (noting that
the Division’s compliance expert acknowledged
that the supervisory procedures were in accordance with industry standards at the time).
7
SEC v. Dain Rauscher, 254 F.3d 852, 857 (9th Cir.
2001).
4
See, e.g., New Phoenix Sunrise Corp. v. C.I.R., 408
F. App’x 908, 917 (6th Cir. 2010) (holding good
faith reliance on professional tax advice may
establish a defense to penalties if the advice
is “from a competent and independent advisor
unburdened with a conflict of interest and not
from promoters of the investment.”); United
States v. Bishop, 291 F.3d 1100, 1107 (9th Cir. 2002)
(holding a defendant claiming good faith reliance on the advice of a tax professional as
a defense to willfulness in cases of tax fraud
and evasion must have made full disclosure of
all relevant information to that professional);
Addington v. C.I.R., 205 F.3d 54, 58 (2d Cir. 2000)
(holding good faith reliance on professional
advice is a defense to negligence penalties;
however, such reliance must be objectively
reasonable, which means the adviser has to
have knowledge about the industry in which the
taxpayer is investing); Chamberlain v. C.I.R., 66
F.3d 729, 732 (5th Cir. 1995) (holding good faith
reliance on professional advice concerning tax
laws is a defense if the reliance is objectively
reasonable, and the reliance is not “on someone
with an inherent conflict of interest, or someone
with no knowledge concerning that matter upon
which the advice is given”).
9
Markowski v. SEC, 34 F.3d 99, 105 (2d Cir. 1994).
10
United States v. Kovel, 296 F.2d 918 (2d Cir. 1961).
8
This article is reprinted with permission from Practical Compliance and Risk Management for the Securities Industry,
a professional journal published by Wolters Kluwer Financial Services, Inc. This article may not be further re-published
without permission from Wolters Kluwer Financial Services, Inc. For more information on this journal or to order a
subscription to Practical Compliance and Risk Management for the Securities Industry, go to pcrmj.com or call 866-220-0297
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MARCH–APRIL 2017
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PRACTICAL COMPLIANCE & RISK MANAGEMENT FOR THE SECURITIES INDUSTRY
Overturned on Appeal
INITIAL DECISION RELEASE NO. 806
ADMINISTRATIVE PROCEEDING
File No. 3-16047
UNITED STATES OF AMERICA
Before the
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
In the Matter of
INITIAL DECISION
June 4, 2015
THE ROBARE GROUP, LTD.,
MARK L. ROBARE, AND
JACK L. JONES, JR.
APPEARANCES:
Janie L. Frank and Jessica B. Magee for the Division of Enforcement,
Securities and Exchange Commission
Alan M. Wolper and Heidi VonderHeide, Ulmer & Berne LLP, for
Respondents The Robare Group, Ltd., Mark L. Robare, and Jack L. Jones,
Jr.
BEFORE:
James E. Grimes, Administrative Law Judge
Summary
In this Initial Decision, I find that the Division of Enforcement failed to carry its burden
to show that Respondents The Robare Group, Ltd. (the Robare Group or TRG), Mark L. Robare,
and Jack L. Jones, Jr. (collectively Respondents), violated Sections 206(1), 206(2), and 207 of
the Investment Advisers Act of 1940. The allegations against Respondents are therefore
dismissed.
Introduction
The Securities and Exchange Commission instituted this proceeding with an Order
Instituting Administrative and Cease-and-Desist Proceedings (OIP). As authority, the OIP cited
Section 15(b)(6) of the Securities Exchange Act of 1934, Section 203(e), (f), and (k) of the
Advisers Act, and Section 9(b) of the Investment Company Act of 1940. The OIP alleges that
the Robare Group and Mr. Robare are liable for primary violations of subsections (1) and (2) of
Section 206 of the Advisers Act and that Mr. Jones aided and abetted and caused those same
violations. The OIP also alleges that Respondents violated Section 207 of the Advisers Act.
I held a hearing in this matter in Houston, Texas, on February 9 through 11, 2015.
During the hearing, the parties called a number of witnesses, including Mr. Robare and Mr.
Jones. Having received the parties’ stipulation at the hearing, I admitted all but four of the
exhibits they offered into evidence.1 Tr. 6.
Findings of Fact
I base the following findings of fact and conclusions on the entire record and the
demeanor of the witnesses who testified at the hearing, applying preponderance of the evidence
as the standard of proof. See Steadman v. SEC, 450 U.S. 91, 100-04 (1981). All arguments and
proposed findings of fact that are inconsistent with this decision are rejected.
1.1
Background regarding Form ADV
This case concerns the adequacy of certain disclosures Respondents made to their clients,
primarily in TRG’s Forms ADV. By way of background, Form ADV is the form used by an
investment adviser to register with the Commission. See 17 C.F.R. §§ 275.203-1(a), 279.1.
Registered investment advisers are required to provide clients with “a brochure and one or more
brochure supplements . . . that contains all information required by Part 2 of Form ADV.” 17
C.F.R. § 275.204-3(a); see 17 C.F.R. § 275.204-3(a) (2008) (requiring an investment adviser to
provide “a written disclosure statement which may be either a copy of Part II of its form ADV
. . . or a written document containing at least the information then so required by Part II of Form
ADV.”). “Part 2[2] of Form ADV contains disclosure requirements for [a] firm’s ‘brochure,
which advisers must provide to prospective clients initially and to existing clients annually.’”
Montford & Co., Advisers Act Release No. 3829, 2014 SEC LEXIS 1529, at *6-7 (May 2, 2014)
(quoting Amendments to Form ADV, Advisers Act Release No. 3060, 2010 SEC LEXIS 2679,
at *7 n.5 (Aug. 12, 2010), available at 75 Fed. Reg. 49,234). Schedule F of Part 2 is a
continuation sheet that allows a firm to provide complete responses to the questions in Part 2.
Part 2 and Schedule F provide a method for investment advisers to disclose conflicts of interest.
Amendments to Form ADV, 2010 SEC LEXIS 2679, at *7-8 & n.7.
1
I declined to admit Division Exhibit 84. Robare Grp. Ltd., Admin. Proc. Rulings Release
No. 2379, 2015 SEC LEXIS 882 (Mar. 4, 2015). The Division also withdrew Exhibits 51, 54,
and 85. Division Exhibits 57 through 60 were admitted for impeachment purposes only. Tr.
931. Citations to the Division’s Exhibits and Respondents’ Exhibits are noted as “Div. Ex. ___,”
and “Resp. Ex. ___,” respectively. Respondents’ and the Division’s posthearing briefs are noted
as “Resp. Br. at ___,” and “Div. Br. at ___,” respectively. Citations to the transcript of the
hearing are noted as “Tr. __.”.
2
In 2010, the Commission officially recognized the fall of the Roman Empire and
switched from a Roman to an Arabic numbering convention. See Amendments to Form ADV,
Advisers Act Release No. 3060, 2010 SEC LEXIS 2679, at *7 n.5 (Aug. 12, 2010). What was
Part II thus became Part 2. Id. I follow suit in numbering the sections in this Initial Decision.
2
What is currently Item 14 in Part 2 directs firms to explain whether anyone “who is not a
client provides an economic benefit to you for providing investment advice or other advisory
services to your clients,” and to “describe how you address the conflicts of interest.” Div. Ex. 90
at 93 (attested as current through January 15, 2015). Notably, the requirements governing the
current version of Part 2 have only been in place since the Commission amended Form ADV
effective October 12, 2010. See Amendments to Form ADV, 2010 SEC LEXIS 2679, at *146.
Prior to October 12, 2010, this disclosure was covered by Item 13, which required firms to
explain arrangements in which the firm or related people were given “cash . . . or . . . some
economic benefit (including commissions, equipment or non-research services) from a non-client
in connection with giving advice to clients.” Div. Ex. 88 at 68.
The previous Part II did not include instructions and was organized in a check-the-box
format. The current version of Form ADV, including its subparts and attached schedules is 109
pages long. Parts 2 and 2A come with five pages of instructions. These include the instructions
to advisers to “[w]rite your brochure and supplements in plain English, taking into consideration
your clients’ level of financial sophistication,” and to make the adviser’s “brochure . . . concise
and direct.” Div. Ex. 90 at 81. It also instructs advisers to “discuss only conflicts the adviser has
or is reasonably likely to have, and practices in which it engages or is reasonably likely to
engage.” Id. Melissa Harke, a branch chief in the Commission’s Division of Investment
Management,3 testified that advisers are expected to disclose material conflicts and should
conversely not throw in everything just to “cover” themselves “for legal purposes.” Tr. 280.
1.2
The Respondents: The Robare Group, Mark Robare, and Jack Jones
The Robare Group is an investment adviser located in Houston. Stipulations of Fact
(Stip.) ¶ 1. It has approximately $150 million in assets under management and manages roughly
350 separate accounts. Id. The Robare Group’s current client base is primarily comprised of
about 300 households, which is about twice what it was in the early 2000s. Tr. 301-02, 663. Its
typical client is a person who has retired from an executive or management position in the energy
industry or is within five years of retirement. Tr. 302. The Robare Group’s clients are “highly
educated” and “sophisticated.” Tr. 302-03. Mr. Jones testified that the Robare Group’s clients
come to it “[e]xclusively through referrals.” Tr. 661. The Robare Group’s client retention rate is
about 97% over the past ten years.4 Tr. 304, 713-14. Its clients’ portfolios generally range
between $500,000 and $800,000. Tr. 300.
The Robare Group offers its clients a number of model portfolios depending on the
client’s investment goals. Stip. ¶ 4; Tr. 299-301. These portfolios are largely comprised of
3
Ms. Harke has worked for the Commission since 2008. Tr. 261. She is a branch chief in
the Commission’s Division of Investment Management. Tr. 260–61. From 2008 to 2013, she
dealt with rulemaking regarding investment advisers. Tr. 262.
4
Ninety-seven percent is apparently an admirable figure. See Suzanne McGee, 2010 Top
1,000 Advisors, Barron’s, Feb. 22, 2010,
http://online.barrons.com/articles/SB126662296193648683?tesla=y.
3
non-transaction fee mutual funds offered on Fidelity’s on-line platform. Stip. ¶ 4; see Tr. 300,
306, 670. The Robare Group places its clients’ investments in mutual funds because they allow
clients to “broadly diversify in multiple asset classes and management styles.” Tr. 300. And it
relies on non-transaction fee funds “[b]ecause they’re cheaper to use.”5 Tr. 307. Mr. Jones
explained that the Robare Group tries to keep transaction costs and overall fees low. Tr. 669.
He said that using non-transaction fee funds fits within these goals. Tr. 669.
Mark Robare is sixty-two and moved to Houston from Michigan in the 1970s. Tr. 285;
Stip. ¶ 2. He owns 83% of the Robare Group and is its chief compliance officer. Tr. 514; Stip. ¶
2. Mr. Robare is a limited partner in the Robare Group. Tr. 514. He is also the president and
CEO of the Robare Group’s general partner, Robare Asset Management. Tr. 514-15; Stip. ¶¶
1-2. Mr. Robare holds three professional designations: chartered life underwriter, certified
financial planner, and chartered financial consultant. Tr. 286. Over time, he has passed the
series 6, 7, 22, 24, 63, and 65 examinations. Tr. 287-89; Resp. Ex. 110 at 6.6 Aside from this
pending proceeding, Mr. Robare has no disciplinary history. Tr. 292; Resp. Ex. 110 at 10-12.
Since 1987, Mr. Robare has had a total of two customer complaints, one in 2003 that was
resolved within ninety days, and one involving a client’s second spouse who complained about a
beneficiary designation. Tr. 292. Both complaints were dismissed. Tr. 292.
After working in the insurance industry in the 1970s and 1980s, Mr. Robare transitioned
to the securities industry in 1987. Tr. 287-88. In the 1990s, Mr. Robare was affiliated with
Allmerica Financial, which later became Veravest. Tr. 288, 293-94, 659. While working for
Allmerica, Mr. Robare provided investment advisory services through Allmerica’s registered
investment adviser. Tr. 296.
Mr. Jones is Mr. Robare’s son-in-law. Tr. 658. He is forty-three and has series 6, 7, 63,
and 65 licenses. Tr. 658; Stip. ¶ 3; Resp. Ex. 109 at 5. He began working for Allmerica
Financial in 1994. Tr. 657. Mr. Jones helped form the Robare Group in 2000, but remained a
registered representative with Veravest until 2003 when the Robare Group became an
independent firm. Tr. 659-60; Resp. Ex. 109 at 6. Currently, he is a Robare Group limited
partner and owner, and serves as a financial adviser and planner. Tr. 660-61; Stip. ¶ 3. Aside
from this pending proceeding, Mr. Jones has no disciplinary history. Tr. 660; Resp. Ex. 109 at
9-11.
5
Mr. Robare testified that TRG ran a historical comparison between clients’
non-transaction fee investments and transaction fee equivalents, applying a “35-dollar
transaction fee,” and “found that even if you could [find an equivalent] transaction fee fund,” the
fees “created probably three times the cost that the differential between a no[-]transaction fee
fund and a transaction fee fund would have as an internal expense.” Tr. 307-08.
6
In general, because many exhibits lack or contain multiple sequences of pagination, page
numbers of exhibits refer to the page number indicated by the PDF reader used to view the
exhibits.
4
1.3
Mr. Robare and Mr. Jones form The Robare Group
While at Allmerica, Mr. Robare worked closely with Fidelity, Tr. 297, which provided
clearing and custody services for Allmerica clients, Tr. 356. He had a high opinion of Fidelity
because it “had great technology,” Tr. 297, “a good platform, [and] great execution,” Tr. 356.
Additionally, its employees were very helpful. Tr. 297, 356.
In the late 1990s, Mr. Robare and Mr. Jones decided to create their own investment
advisory firm, the Robare Group. Tr. 294-96. Allmerica was helpful, suggesting that the Robare
Group use National Regulatory Services, a professional consulting firm, to help it through the
process. Tr. 294-95. Fidelity also remained very helpful during that process. Tr. 297-98. It
referred the Robare Group to a number of broker-dealers, including Triad Advisers. Tr. 298.
After investigating the matter, the Robare Group decided to “align” itself with Fidelity as its
custodian and Triad as its broker-dealer. Tr. 298. Mr. Robare and Mr. Jones signed an
agreement affiliating themselves with Triad in October 2002. See Resp. Ex. 16. They became
registered representatives with Triad in February 2003. Stip. ¶ 7. At the same time, Fidelity
agreed to serve as custodian for the Robare Group’s clients. Stip. ¶ 6. The Robare Group
became an independent investment adviser in 2003, after Allmerica ran into financial difficulties.
Tr. 297, 737.
The Robare Group’s transition to being an independent investment adviser involved a lot
of paperwork for each client. Tr. 809-10. Mr. Jones and Mr. Robare were “comfortable with
[Fidelity’s] technology and tools.” Tr. 809. That level of comfort and familiarity with Fidelity
eased the Robare Group’s transition to being an independent investment adviser. Tr. 809-10.
Staying with Fidelity also made for a smoother transition for existing clients. See Tr. 810-12.
The Robare Group initially registered as an investment adviser with the state of Texas.
Tr. 310-11. After acquiring enough assets under management, it registered with the Commission
in 2003. Tr. 311; Stip. ¶ 5. It amended its Form ADV to reflect the change. Tr. 311. In May
2003, the Robare Group sent Triad “a copy of [its] updated ADV Part[s] I and II indicating that”
it was “under SEC registration for [its] registered investment adviser.” Resp. Ex. 37 at 3. The
Robare Group also sent Triad its “disclosure agreement which [it] use[d] with [its] clients.” Id.
As explained by Mr. Robare, the Robare Group routinely informed Triad “[w]henever [it]
updated anything.” Tr. 398.
1.4
The Robare Group’s account opening process
Because Fidelity provides custody services for the Robare Group’s clients, see Tr. 356;
Stip. ¶ 6, the Robare Group’s clients each have a brokerage agreement with Fidelity, Tr. 356; see
Resp. Ex. 75-79. Because the Robare Group is “charged with opening” “and servicing” “the
[client’s] account,” the Robare Group gives Fidelity’s brokerage agreement to the Robare
Group’s clients as part of its account-opening process. Tr. 357. Mr. Robare reviews the Fidelity
agreement with customers before they sign it. Tr. 357-58. The Robare Group, however, does
not send clients a new copy of Fidelity’s agreement every time Fidelity updates it. Tr. 479-80.
This is so because the Robare Group’s clients operate under the agreement they originally
signed. Tr. 480-81.
5
During the account-opening process, Mr. Robare gives his prospective clients “an
overview about how [the Robare Group and its principals] get paid.” Tr. 358; see Tr. 664.
Clients are given the Form ADV Part 2 during this phase of the process, as well as the Robare
Group’s brochure, fee agreement, the new account agreement the client signs with Fidelity, and
disclosure documents. Tr. 664-65, see Resp. Ex. 97. Mr. Robare or Mr. Jones also explain the
Robare Group’s business practices, its fees, and the fact that it earns both fees and commissions.
Tr. 665. According to Mr. Robare, the Robare Group is different from many investment advisers
because it is a “hybrid,” in that it receives both fees and commissions. Tr. 358. He discusses
this arrangement with potential clients because it could lead to conflicts of interest. Id.
Respondents’ Exhibit 76, Fidelity’s December 2005 “Brokerage Account Client
Agreement,” is one example of a document clients receive. Tr. 358. Mr. Robare reviews this
agreement with clients. Tr. 357. On its first page, set off in a separate box, the agreement states
that Fidelity “may pay” the Robare Group for “performing certain back-office, administrative,
custodial support, and clerical services for [Fidelity] in connection with client accounts for which
[Fidelity] act[s] as custodian.” Resp. Ex. 76 at 1. It continues by adding that these payments
“may create an incentive for” the client’s adviser “to favor certain types of investments over
others.” Id.; see Resp. Ex. 76 at 1; see also Resp. Ex. 77 at 1; Resp. Ex. 78 at 1; Resp. Ex. 79 at
1. Mr. Robare was aware of the foregoing language and “consider[ed] [it] to be part of the
universe of disclosures that” he makes to his clients. Tr. 359-60.
Prior to December 2005, Fidelity’s brokerage account agreement did not contain the
above language. See Resp. Ex. 75. Given the Robare Group’s 97% client retention rate and the
fact that it does not give existing clients updates to Fidelity’s brokerage agreement, the
approximately 150 clients it had before December 2005 who are still with the firm, see Tr. 423,
have not received the disclosure in the December 2005 or later brokerage agreements.
Mr. Robare also gives his new clients a “disclosure brochure,” which he said “basically
describes who we are and how we get paid and how we work.” Tr. 362; see Resp. Ex. 97.
According to Mr. Robare, a compliance adviser suggested that he give new clients the brochure
and the Form ADV. Tr. 363-64. The brochure discloses that Mr. Robare and Mr. Jones “are
also stockbrokers . . . who may earn sales commissions when [clients] purchase securities
. . . through TRG.” Resp. Ex. 97 at 1; see also Resp. Exs. 98, 99. The Robare Group also
discloses that it “may select and monitor other money managers” for its clients. Resp. Ex. 97 at
3; Resp. Ex. 99 at 4. In doing so, the Robare Group informs clients that “the other money
managers pay us a portion of the fees generated by the referred clients” who “do not pay us
directly for this service.” Resp. Ex. 97 at 1; Resp. Ex. 99 at 4; Tr. 367-68 (testifying that the
Robare Group has been giving this information to clients “from the beginning”). The Robare
Group’s disclosure brochure then adds that clients “should be aware that a conflict may exist
between [the client’s] interests and those of the Robare Group.” Resp. Ex. 97 at 1.
1.5
The Robare Group enters into a compensation arrangement with Fidelity
At some point after the Robare Group registered with the Commission, Mr. Robare met
with Mark Mettelman, Triad’s CEO. Tr. 310, 312. Mr. Mettelman knew that the Robare Group
6
used Fidelity as a custodian and was familiar with the portfolios the Robare Group had
developed. Tr. 312. During their discussions, Mr. Mettelman asked Mr. Robare whether Mr.
Robare knew “that Fidelity had a revenue sharing arrangement for advisers like” the Robare
Group. Tr. 312. Because Mr. Robare was unaware of this program, Mr. Mettelmen suggested
that he contact Fidelity about it. Tr. 312.
Soon afterwards, Mr. Robare phoned his point of contact at Fidelity and learned that, in
fact, it did have a “revenue sharing arrangement.” Tr. 312-13. The nature of this agreement and
the Robare Group’s disclosure of it lie at the heart of this case. As eventually constituted, under
the revenue sharing arrangement (the Program or Program Agreement), Fidelity would remit
payments to the Robare Group when the Robare Group’s clients invested on Fidelity’s platform
in certain “eligible” non-Fidelity non-transaction fee funds; “Fidelity Retail Funds [were]
excluded from the” Program. See Resp. Ex. 1 at 1. The term “eligible” was undefined in the
Program agreement. See id. at 1-4. To Mr. Jones, the use of the word “eligible” suggested that
some non-Fidelity funds were not “eligible” and thus not included in the Program. Tr. 669.
Under the Program, Fidelity would pay the Robare Group between two and twelve basis
points, in an increasing formula, based on the value of eligible assets under management. Resp.
Ex. 1 at 1-2; Stip. ¶ 12. As assets under management in qualifying funds increased above set
thresholds, the basis points would increase. Resp. Ex. 1 at 1-2.
After the Robare Group’s contact at Fidelity confirmed the program’s existence, Mr.
Robare asked whether the Robare Group’s participation in the program would lead to extra costs
for its clients. Tr. 314-15, 523; see Tr. 667. Fidelity said that it would not. Tr. 314-15; see Tr.
84. Mr. Robare also confirmed that the Robare Group’s participation would not force it to alter
the way in which it constructed its portfolios for its clients. Tr. 315-16, 523, 667. Mr. Jones
testified that if entering into the Program would have added costs to the Robare Group’s clients,
the Robare Group would not have participated in the Program. Tr. 667. Mr. Robare and Mr.
Jones both noted that they and the Robare Group were judged and paid based on performance.
Tr. 339-40, 343, 667. Extra costs cut into performance. Tr. 667. Both Mr. Robare and Mr.
Jones denied that payments under the Program influenced their investment decisions. Tr. 343,
415, 671, 814.
After Mr. Robare confirmed that the Robare Group’s participation in the program would
not affect the Robare Group’s clients, Fidelity sent the Robare Group a Program Agreement for
its review. Tr. 317. The Robare Group sent the Program Agreement to Triad for compliance
review. Tr. 317. Once Triad approved, the Robare Group signed the Agreement. Tr. 317. Mr.
Mettelman signed the agreement on Triad’s behalf on April 16, 2004, and Mr. Robare signed it
on the Robare Group’s behalf three days later. Resp. Ex. 1 at 3. Fidelity signed on May 3, 2004.
Id.
The Program Agreement is entitled “Investment Advisor Commission Schedule and
Servicing Fee Agreement.” Resp. Ex. 1 at 1. It interposed Triad between Fidelity and TRG for
purposes of payment. See Resp. Ex. 1 at 2; Tr. 372-73. Fidelity’s payments under the Program
were initially made to Triad. Resp. Ex. 1 at 2. Triad then retained ten percent of those payments
and forwarded the remaining ninety percent to TRG. Tr. 375. Without contradiction, Mr.
7
Robare testified that it was Fidelity’s idea to interpose Triad. Tr. 317-19. He emphatically said
that “[t]here was no negotiation” and “no discussion,” and that he and Mr. Jones “thought that
was the only agreement . . . there was.” Tr. 319. A Fidelity senior vice president affirmed that
Fidelity drafted the agreement. Tr. 77. There being no contrary evidence, I find that it was
Fidelity’s idea to interpose Triad between Fidelity and the Robare Group.
In the Program Agreement, TRG affirmed its understanding that the underlying mutual
funds could change or suspend payments at any time. Tr. 83; see Tr. 186; Resp. Ex. 1 at 2. The
funds could also cancel their participation, after an initial twenty-four month window, at any
time on thirty days’ notice. Resp. Ex. 1 at 2. Based on this, TRG understood that the underlying
mutual fund companies could stop paying fees at any time. Tr. 355. The Agreement also made
TRG responsible for determining what it needed to disclose in its Form ADV. Resp. Ex. 1 at 2.
The Robare Group’s payments through the Program were reflected on commission
statements it received from Triad. Tr. 373; see, e.g., Resp. Ex. 29 at 3. Relevant to this fact,
TRG’s original contract with Triad (original Triad contract), which was signed in 2002, provided
under a bullet-point titled “Commission Business,” that TRG would receive a 90% “payout” on
“Packaged Products,” which “include[d] Mutual Funds, Variable Insurance, 12b-1 [fees] and
other trails.” 7 Resp. Ex. 16 at 1. Mr. Robare testified that a “12b-1 [fee] is a commission that’s
passed through from the mutual fund company . . . for placing and servicing that mutual fund.”
Tr. 376; see Tr. 381. Likewise, Charles Strauss, Triad’s chief compliance officer, testified that
Triad considered payments under the Program to be 12b-1 fees, which he said were
commissions. Tr. 614-15. And when Triad received the funds from Fidelity, Fidelity
characterized them as 12b-1 fees. Tr. 619. TRG thus thought fees paid under the Program were
12b-1 fees or commissions. Tr. 757, 815. As a factual matter, I find that until 2013, when
Fidelity changed the Program Agreement, see infra, Fidelity and Triad considered payments
under the Program to be 12b-1 fees.
Mr. Robare understood that the 90/10 split applied to all commissions that flowed
through Triad. Tr. 427. Mr. Robare explained that no one had to tell him that Program payments
were commissions; that fact was obvious or “self-evident” insofar as Program payments had to
be paid through a broker-dealer. Tr. 429, 432. And Triad told TRG that all commissions, no
matter the source, had to be paid through it. Tr. 431.
Respondents’ Exhibit 29 is a 2004 compensation summary issued by Triad to Mr.
Robare. It reflects a net commission payout of $18,875.59. Resp. Ex. 29 at 2. The payment
from Fidelity under the Program is described on a page titled “commission production report” as
7
The nature of 12b-1 fees and who may permissibly receive them was of some importance
to the parties during the hearing. More on the latter point below. As to the former point, 12b-1
fees are authorized by Rule 12b-1 under the Investment Company Act. See 17 C.F.R.
§ 270.12b-1. The rule permits a fund to pay “distribution” expenses, including broker’s
commissions, and shareholder service expenses from fund assets. For a history of the rule, see
Mutual Fund Distribution Fees; Confirmations, Exchange Act Release No. 62544, 2010 WL
2860109 (July 21, 2010).
8
“Fidelity 12B-1.” Id. at 3; Tr. 380-81, 619; see Tr. 384-86. Other compensation summaries also
included payments from Fidelity that were listed as 12b-1 fees. See Resp. Ex. 30 at 3 (May
2005); Resp. Ex. 31 at 2 (August 2006). In 2007, Triad continued to report payments under the
Program as 12b-1 fees associated with Fidelity. See Tr. 386; Resp. Ex. 32 at 2. Whereas, in
2006 Triad listed the payment under the category “mutual funds,” Resp. Ex. 31 at 2, in 2007,
Triad listed the payment under a category called “direct fees,” Tr. 386; Resp. Ex. 32 at 2. In
2008, Triad moved the payment back to the mutual funds category, but called it “Trails
Fidelity-ACH.” Tr. 387; Resp. Ex. 33 at 1. In 2009, TRG’s commission statement from Triad
listed the payments under “other revenue” and called them “direct fees.” Tr. 387; Resp. Ex. 34
at 1.
From September 2005 through September 2013, what the Division calls “the relevant
period,” Div. Br. at 46, the Robare Group was paid roughly $401,778.54 under the Program, see
Div. Ex. 35; Tr. 502-03.8 This amounts to about $50,000 per year or nearly $4,200 per month.
Without contradiction, Mr. Robare testified that payments under the Program amounted to 2.5%
of TRG’s gross revenue. Tr. 413-14, 504. This means that TRG’s gross revenue during the
relevant period was roughly $16,000,000, which works out to about $2 million annually or about
$167,000 per month.
Respondents concede that payments were a potential conflict of interest. Stip ¶ 30; Tr.
442. Mr. Robare does not believe, however, that they are an actual conflict of interest. Tr. 442.
1.6
The Robare Group’s Forms ADV
An investment adviser’s material conflicts of interest must be disclosed to clients. As
noted, Part 2 of Form ADV is an appropriate place to make that disclosure. Notably, however, it
is not the only way in which conflicts can be disclosed. The Form itself says that a firm “may
disclose this additional information to clients in [the firm’s] brochure or by some other means.”
Div. Ex. 89 at 66; see 17 C.F.R. § 275.204-3(a) (2008).
In its 2003 Form ADV Part II, TRG checked a box in item 9 indicating that it “or a
related person” acting as a “broker or agent[,] effects securities transactions for compensation for
any client.” Resp. Ex. 4 at 5. In 2003, TRG’s schedule F was two pages long. See id. at 7-8. In
the explanation in Schedule F corresponding to item 9, TRG said that a conflict of interest
existed between it and clients and that clients were not obliged to follow TRG’s advice. Id. at 7.
TRG also checked a box in item 13 indicating that it was “paid cash by or receives some
economic benefit (including commissions, equipment or non-research services) from a non-client
in connection with giving advice to clients.” Resp. Ex. 4 at 6. In the corresponding explanation
in Schedule F to the Form, TRG stated that “Mark Robare . . . & Jack Jones may sell securities
8
The OIP charged that the Robare Group received about $441,000 “[f]rom September
2005 through September 30, 2013.” OIP ¶ 13. The Division now says the amount was
$401,778.54. Div. Br. at 46. During the hearing, Mr. Robare agreed this latter figure was
“reasonable.” Tr. 502.
9
and insurance products for sales commissions.” Id. at 8. Inasmuch as TRG was not participating
in the Program in 2003, this statement was not a reference to the Program. Tr. 453.
TRG filed a new Form ADV in March 2005, after it began participating in the Program.
See Div. Ex. 12; Tr. 455. TRG, however, did not amend the language in Schedule F
corresponding to item 13. See Div. Ex. 12 at 10; Tr. 455-56.
TRG’s next revision occurred in August 2005. See Resp. Ex. 6. Its Schedule F was
eleven pages long. See id. at 7-17. According to Mr. Robare, the increased length of TRG’s
Schedule F resulted from advice it received from its compliance consultant, Capital Markets,
whom it retained in mid-2005. Tr. 529. Mr. Jones likewise confirmed that the changes resulted
from “collaborat[ion] with . . . Capital Markets Compliance.” Tr. 676.
As before, TRG checked a box in item 9 indicating that it “or a related person” acting as
a “broker or agent[,] effects securities transactions for compensation for any client.” Resp. Ex. 6
at 5. In the corresponding portion of the attached Schedule F, TRG said that “[a]ny” “securities
transactions related to [its] advisory services . . . may be facilitated through Triad, in its capacity
as a registered broker-dealer.” Id. at 14. It continued that “for the purposes of” the Form ADV
and Schedule F, all securities transactions facilitated through Triad would be “considered
‘broker-dealer activities.’” Id. TRG concluded that “[t]o the extent allowed by applicable law
and/or regulation, individuals associated with [TRG] may receive compensation (i.e.
commissions) for their broker-dealer activities.” Id.
In regard to this disclosure, in item 12, TRG indicated that it or “any related person [had]
authority to determine, without obtaining specific client consent, the: (1) securities to be bought
or sold,” and (2) “amount of the securities to be bought or sold.” Div. Ex. 6 at 6. In the
corresponding section of Schedule F, TRG identified National Financial Services, which Mr.
Robare identified as being part of Fidelity’s “family of companies,” Tr. 531, as its recommended
custodian and Triad as its recommended broker, Div. Ex. 6 at 17. TRG also disclosed that in
exchange for using Triad and National Financial, it might “receive certain support services that
may assist [TRG] in its investment decision-making process for all of [TRG’s] clients.” Id.
In the section of Schedule F corresponding to item 13, TRG said:
Certain investment adviser representatives of [TRG], when acting
as registered representatives of a broker-dealer, may receive selling
compensation from such broker-dealer as a result of the facilitation
of certain securities transactions on Client’s behalf through such
broker-dealer.
....
These other arrangements may create a conflict of interest.9
9
The omitted language concerned insurance products. Resp. Ex. 6 at 17. Mr. Robare
conceded this language was not relevant. Tr. 456-57.
10
Id. According to Mr. Robare, the first paragraph regarding item 13 referred to any commissions
TRG received through Triad. Tr. 457; see Tr. 532. He conceded, however, that the disclosure
referenced actions as a registered representative, not as an investment adviser. Tr. 457, 459. He
also conceded that payments under the Program were made in relation to TRG’s “clients’
advised assets.” Tr. 460.
Mr. Jones testified that the first paragraph disclosed “[t]hat every commission that we
received was received through the broker-dealer, and that we had commission business in
addition to fee business.” Tr. 675. He “believed [the paragraph] describes accurately all the
elements of the relationship” between TRG and Fidelity under the Program. Tr. 677.
Specifically, it provided “[t]hat certain investment advisers, that would be us, acting as reps of
the broker-dealer may receive commission from the broker-dealer, which we did in the form of
12b-1, as a result of facilitation of certain, meaning eligible [non-transaction fee] funds,
securities transactions, on our client’s behalf through the broker-dealer.” Tr. 677. Mr. Jones
opined that Program compensation had to be disclosed in this manner because “the mechanics of
[the] compensation” involved “a commission . . . with the entity through whom we’d get paid
each and every commission, [and] that we were registered representatives of.” Tr. 781. Mr.
Jones also opined that the program was disclosed through TRG’s disclosure brochure and
elsewhere in Schedule F. Tr. 678.
The Robare Group’s Forms ADV issued in January 2006, January 2008, and April 2008
retained this same language. See Div. Ex. 13 at 17; Resp. Ex. 9 at 14; Div. Ex. 14 at 20. Mr.
Robare maintained that through its Schedule F, TRG attempted “to disclose all of [its]
commission arrangements” and that its disclosures were based on advice received from outside
compliance consultants. Tr. 532.
As noted in section 1.1, supra, the Commission changed Part 2 in 2010. Amendments to
Form ADV, 2010 SEC LEXIS 2679. The relevant disclosure in item 13 of the old Form ADV
moved to item 14 in the new Form ADV. See Div. Ex. 23 at 25. In the prior form, item 13
simply asked whether the:
applicant or a related person have any arrangements, oral or in
writing, where it is paid cash by or receives some economic benefit
(including commissions, equipment or non- research services)
from a non-client in connection with giving advice to clients.
Div. Ex. 88 at 68. The new version, which is governed by five new pages of general
instructions, see Div. Ex. 89 at 65-69, directs that:
If someone who is not a client provides an economic benefit to you
for providing investment advice or other advisory services to your
clients, generally describe the arrangement, explain the conflicts of
interest, and describe how you address the conflicts of interest.
For purposes of this Item, economic benefits include any sales
awards or other prizes.
11
Div. Ex. 89 at 77.
Following these changes, the Robare Group amended its Form ADV.10 In the
explanation corresponding to item 14 in its Schedule F issued in March 2011, the Robare Group
now disclosed:
We do not have any arrangement under which it or its related
person compensates, or receives compensation from, another for
client referrals at this time.
Certain of our [Investment Advisor Representatives], when acting
as registered representatives of Triad, may receive selling
compensation from Triad as a result of the facilitation of certain
securities transactions on your behalf through Triad. Such fee
arrangements shall be fully disclosed to clients. In connection with
the placement of client funds into investment companies,
compensation may take the form of front-end sales charges,
redemption fees and 12(b)-1 fees or a combination thereof. The
prospectus for the investment company will give explicit detail as
to the method and form of compensation.
Div. Ex. 23 at 25.
Mr. Jones testified that this amendment was made with the assistance of the Robare
Group’s compliance consultant, Renaissance Regulatory Services. Tr. 681, 683, 686. He said
that Renaissance helped by “coming up with and approving all of [TRG’s] disclosure
documents,” including the Form ADV. Tr. 683. Mr. Jones thought this language disclosed the
payments under the Program because TRG had always believed the payments were 12b-1 fees.
Tr. 684. In addition, he felt that TRG’s disclosure brochure, Fidelity’s account “agreement
[clients] would sign with the custodian,” and TRG’s fee agreement, also provided disclosure to
clients. Tr. 684-85. Although he thought the 2011 disclosure was better than the 2005
disclosure, he did not believe the 2011 disclosure disclosed anything new. Tr. 685. Mr. Jones
explained that TRG continuously tries to improve its disclosures and make them more accurate.
Tr. 686.
As a result of concerns raised by Fidelity, see infra § 1.11, TRG amended its Form ADV
again in December 2011. Tr. 468-69, 689. In item 14, it provided:
We do not receive an economic benefit from a non-client for
providing investment advice or other advisory services to our
clients. Additionally, we do not have any arrangement under
which we, or a related person, directly or indirectly compensate
10
Registered advisers were required to update their disclosures by March 31, 2011.
Amendments to Form ADV, 2010 SEC LEXIS 2679, at *147.
12
any person, who is not our supervised person, or receive
compensation from another for client referrals at this time.
Certain of our [Investment Advisor Representatives], when acting
as registered representatives of Triad, may receive selling
compensation from Triad as a result of the facilitation of certain
securities transactions on your behalf through Triad. Such fee
arrangements shall be fully disclosed to clients. In connection with
the placement of client funds into investment companies,
compensation may take the form of front-end sales charges,
redemption fees and 12(b)-1 fees or a combination thereof. The
prospectus for the investment company will give explicit detail as
to the method and form of compensation.
Additionally, we may receive additional compensation in the form
of custodial support services from Fidelity based on revenue from
the sale of funds through Fidelity. Fidelity has agreed to pay us a
fee on specified assets, namely no transaction fee mutual fund
assets in custody with Fidelity. This additional compensation does
not represent additional fees from your accounts to us.
Div. Ex. 25 at 27 (emphasis added).
Mr. Robare testified that TRG used the word “may” in the emphasized language because
the original Program agreement provided that the underlying mutual funds could stop payments
at any time. Tr. 469-70; see Resp. Ex. 1 at 2. Mr. Jones added that any party to the Program
agreement could cancel it at any time. Tr. 783. TRG maintained the same language in its March
2012 Form ADV. See Div. Ex. 26 at 27; Tr. 471-72. Mr. Jones testified that he did not believe
the 2011 Schedule F disclosed anything that previously had not been disclosed. Tr. 694, 821.
He explained, however, that TRG’s philosophy was to rely on Triad, Fidelity, and its compliance
consultants “to tell [TRG] how to improve disclosure.” Tr. 694. According to Mr. Jones, “when
anybody said anything, we acted on it.” Tr. 694. He added that “Fidelity is an important partner
to us. They made a suggestion. We wanted to in good faith respond and take their advice.” Tr.
695. Obviously, TRG was also concerned that Fidelity would withhold payments under the
Program. Tr. 697. Mr. Jones testified that he and Mr. Robare thought Fidelity was asking TRG
to provide additional disclosure beyond what was strictly necessary. Tr. 701. He said TRG was
“more than happy to accommodate [Fidelity’s] request.” Tr. 701.
TRG amended its Form ADV again in April 2013. See Div. Ex. 28. In item 14, it said:
We do not receive an economic benefit from a non-client for
providing investment advice or other advisory services to our
clients. Additionally, we do not have any arrangement under
which we, or a related person, directly or indirectly compensate
any person, who is not our supervised person, or receive
compensation from another for client referrals at this time.
13
However, certain mutual fund issuers may sponsor and pay for
client luncheons, or other events, that Robare hosts. These
arrangements may give rise to conflicts of interest, or perceived
conflicts of interest, with the firm’s clients in connection with
Robare’s recommendation of certain mutual funds. However,
Robare’s commitment to its clients and the policies and procedures
it has adopted are designed to limit any interference with Robare’s
independent decision making when choosing the best mutual funds
for our clients.
Certain of our [Investment Advisor Representatives], when acting
as registered representatives of Triad, may receive selling
compensation from Triad as a result of the facilitation of certain
securities transactions on your behalf through Triad. Such fee
arrangements shall be fully disclosed to clients. In connection with
the placement of client funds into investment companies,
compensation may take the form of front-end sales charges,
redemption fees and 12(b)-1 fees or a combination thereof. The
prospectus for the investment company will give explicit detail as
to the method and form of compensation.
Additionally, we may receive additional compensation in the form
of custodial support services from Fidelity based on revenue from
the sale of funds through Fidelity. Fidelity has agreed to pay us a
fee on specified assets, namely no transaction fee mutual fund
assets in custody with Fidelity. This additional compensation does
not represent additional fees from your accounts to us.
Div. Ex. 28 at 22. According to Mr. Jones, in this new disclosure, TRG intended “to disclose
. . . the fact that we received compensation from Fidelity . . . and that either a perceived or real
conflict of interest may exist. And we continued to add the Fidelity suggested language that
you’ll see in the bottom beginning with additionally.” Tr. 707. Mr. Jones conceded that at this
point, TRG was under investigation by the Commission. Tr. 709. He said that TRG “continued
. . . to try to meet a standard that we didn’t know exactly how to meet by adding additional
disclosures.” Tr. 709. It was thus the case that, although TRG did not specifically know what
the Commission’s concerns were, its principals were trying to address what they thought the
concerns might have been.11 Tr. 709-10.
11
As is discussed below, the Robare Group signed a new Program Agreement with Fidelity
in 2013. See infra § 1.12. The second Program Agreement provided that either party could
terminate the agreement on 120 days’ notice or immediately if one of two conditions were met.
Div. Ex. 33 at 4. Division counsel and Mr. Jones quibbled about whether this language meant
that the use of the word “may” in TRG’s Form ADV was inaccurate. Tr. 785-88.
14
Two months later, TRG amended its Form ADV again. See Tr. 473-74 (explaining that
although the Form was dated April 2013, it was filed in June 2013); Div. Ex. 29. Item 14 now
read:
We do not receive an economic benefit from a non-client for
providing investment advice or other advisory services to our
clients. Additionally, we do not have any arrangement under
which we, or a related person, directly or indirectly compensate
any person, who is not our supervised person, or receive
compensation from another for client referrals at this time.
However, certain mutual fund issuers may sponsor and pay for
client luncheons, or other events, that Robare hosts. These
arrangements may give rise to conflicts of interest, or perceived
conflicts of interest, with the firm’s clients in connection with
Robare’s recommendation of certain mutual funds. However,
Robare’s commitment to its clients and the policies and procedures
it has adopted are designed to limit any interference with Robare’s
independent decision making when choosing the best mutual funds
for our clients.
Certain of our [Investment Advisor Representatives], when acting
as registered representatives of Triad, may receive selling
compensation from Triad as a result of the facilitation of certain
securities transactions on your behalf through Triad. Such fee
arrangements shall be fully disclosed to clients. In connection with
the placement of client funds into investment companies,
compensation may take the form of front-end sales charges,
redemption fees and 12(b)-1 fees or a combination thereof. The
prospectus for the investment company will give explicit detail as
to the method and form of compensation.
Additionally, we may receive additional compensation in the form
of back-office, administrative, custodial support and clerical
services from Fidelity based on revenue from the sale of funds
through Fidelity. Fidelity has agreed to pay us a fee on specified
assets, namely no transaction fee mutual fund assets in custody
with Fidelity. Similar to the luncheons and events described
above, this arrangement may give rise to conflicts of interest, or
perceived conflicts of interest, with the Firm’s decision to utilize
Fidelity as our Custodian. However, Robare’s commitment to its
clients and the policies and procedures it has adopted are designed
to limit any interference with Robare’s independent decision
making when choosing the most appropriate custodian for our
clients. In addition, this additional compensation does not
represent additional fees from your accounts to us, and we are
committed to utilizing these fees to enhance our services to you.
15
Div. Ex. 29 at 22. Finally, TRG issued a Form ADV in August 2013 that was not materially
different from the one issued in June 2013. See Tr. 476; Div. Ex. 31 at 22.
Mr. Robare agreed that he always tried to make TRG’s disclosures “as complete and as
detailed as necessary,” and said he never intentionally omitted anything to avoid disclosing
revenue from Fidelity or conflicts of interest. Tr. 414.
1.7
TRG’s relationship with Triad
The Robare Group’s principals’ original agreement with Triad made Triad “responsible
for supervising [TRG’s] outside [registered investment adviser] business.” Resp. Ex. 16 at 2.
Under the contract, TRG paid Triad a $1,500 quarterly fee for its supervision. Id.; see Tr. 388.
Mr. Robare and Mr. Jones each had their own individual agreements with Triad. Tr.
389-90, 491-92; see Resp. Exs. 17 (Robare manager agreement), 18 (Robare investment adviser
agreement), 19 (Jones registered representative agreement). Those individual agreements gave
Triad “full and complete authority to supervise” Mr. Robare and Mr. Jones to insure “compliance
with federal and state securities and investor protection laws and regulations.” Resp. Ex. 19 at 1;
Resp. Ex. 21 at 2; Tr. 391. They also provided that “Triad has compliance responsibilities
relative to” Mr. Robare’s and Mr. Jones’s “investment advisory business, even if such business is
conducted as or through” an adviser “not affiliated with Triad.”12 Resp. Ex. 19 at 6; see Resp.
Ex. 17 at 17-18. Mr. Robare agreed that he believed that Triad was responsible for “assur[ing]
his compliance” with regulatory requirements. Tr. 392. Under his manager agreement, Mr.
Robare was required to “use his best efforts to ensure that all registered representatives in his
[office] conduct their investment advisory business in accordance with all Regulatory
Requirements and Compliance Standards.” Resp. Ex. 17 at 18.
Mr. Robare’s manager agreement made him responsible for supervising registered
representatives in his office who were associated with Triad. Resp. Ex. 17 at 3, 15. The
agreement also gave Triad the authority to “control or direct” Mr. Robare with respect to
“enforcing Regulatory Requirements and in promulgating and enforcing Compliance Standards.”
Id. at 4; see id. at 8 (giving Triad authority to “promulgate” or change “Compliance Standards”).
12
According to Triad’s chief compliance officer:
because Mr. Robare and Mr. Jones are registered reps, they fall
under the purview of certain FINRA regulation. Those regulations
dictate that because of their registered rep duties, any sort of
outside business activity or private securities transaction inclusive
of investment advisory business, even if it’s not affiliated with
Triad, that Triad has a responsibility to supervise those activities
and again, record those transactions and treat them as if they were
their own transactions.
Tr. 603.
16
It also placed Mr. Robare “under the oversight of Triad’s Compliance Department.” Id. at 6.
The agreement provided that Triad would “receive all commissions and fees earned by or
through the securities activities of [Mr. Robare] and any registered representative in” his office
and would pay Mr. Robare in accordance with a separate schedule.13 Id. at 9. According to
Triad’s chief compliance officer, this provision governed any commission TRG or its principals
earned through any securities activities. Tr. 645.
As part of Triad’s supervision of TRG, TRG was subject to an annual audit by Triad. Tr.
393; see Tr. 606-11. As part of the audit process, TRG supplied the auditors with copies of
TRG’s Form ADV. Tr. 393-94. Each audit concluded with an exit interview and with the
auditor providing TRG with items to be addressed. Tr. 394-95; see Resp. Ex. 22 (2004 exit
interview notes). Although Triad was a party to the Program Agreement, it never raised any
concerns about TRG’s disclosures regarding the Program. Tr. 395. In 2004, after TRG’s first
audit, Triad’s auditor instructed TRG to provide Form ADV Parts I and II to TRG’s clients, once
it was updated. Tr. 396-97, 399-400; Resp. Ex. 22 at 2; Resp. Ex. 23 at 2.
By 2008, the auditor raised only four issues, none of which concerned Form ADV. See
Resp. Ex. 24 at 2; Tr. 401. The audits in 2011 and 2012 resulted in no findings that TRG needed
to address. Resp. Ex. 25 at 14; Resp. Ex. 26 at 23; Tr. 402-03. The 2013 auditor identified areas
to be addressed but did not raise any issues concerning TRG’s disclosures concerning the
Program. Tr. 405; see Resp. Ex. 27 at 2. The same was true with respect to the 2014 audit. Tr.
405; see Resp. Ex. 28 at 2. Apart from the issues raised in the Triad audits, none of which
pertained to disclosure of the Program, Triad never identified another disclosure issue to TRG.
Tr. 405-06.
In 2005, Mr. Robare signed, on behalf of TRG, a registered investment adviser agreement
with Triad. See Resp. Ex. 18. The adviser agreement required Triad to give TRG Triad’s
brochure or Form ADV Part II and required TRG to provide the brochure or Form ADV Part II
to TRG’s clients. Id. at 4, 7. It also required TRG to give its clients TRG’s “disclosure
documents or Form ADV Part II.” Id. at 7. In the adviser agreement, TRG agreed that it was
“aware that Triad . . . has certain supervisory obligations with respect to [TRG’s] participation
in” Triad’s “advisory services.” Id. at 1, 7. The adviser agreement also provided that Triad
would “oversee[], monitor[] and enforce[]” “Regulatory Requirements and Compliance
Standards.” Id. at 8.
1.8
TRG’s use of compliance advisers
Since forming TRG, Mr. Robare has never filed a Form ADV without consulting with
“an independent professional securities consultant.” Tr. 370. Mr. Robare testified that he relied
on compliance professionals in crafting his disclosures. Tr. 406-07, 412.
13
Mr. Robare testified that the upshot of the language above was that Triad delegated
responsibility to him to supervise compliance with respect to conduct in his office of people
acting as registered representatives, not as investment advisers. Tr. 495. Based on the language,
I agree.
17
1.8.1
Outside Compliance Consultants
TRG attempted to meet its responsibility for determining what it needed to disclose in its
Form ADV by hiring outside consultants. Tr. 368. When TRG first started, it used National
Regulatory Services, to which it had been referred by Allmerica. Tr. 369. National Regulatory
Services assisted TRG with its first Form ADV and with the disclosures necessary when TRG
first registered with the Commission. Tr. 369. In 2004, Mr. Robare decided to switch to a
compliance consultant that understood TRG’s situation as a small, hybrid investment adviser.
Tr. 369. TRG used a firm called Capital Markets, referred to it by Triad, from 2005 to 2007 and
then moved to Renaissance in 2007. Tr. 369, 507. TRG switched to Renaissance because Mr.
Jones and Mr. Robare “knew some people from Triad that had gone to work for Renaissance.”
Tr. 682. Mr. Jones and Mr. Robare “met them . . . at a conference” and “felt confident about
them and their reputation.” Tr. 682. Mr. Jones testified that the reputation of their compliance
consultant mattered because compliance was not TRG’s “area of specialization.” Tr. 682-83.
Renaissance remains TRG’s compliance consultant. Tr. 550.
Mr. Robare testified that he discussed the Program Agreement with National Regulatory
Services and Capital Markets. Tr. 507-09. He conceded however that he could not remember
giving Capital Markets a copy of the Program Agreement or asking Capital Markets about how
to disclose TRG’s participation in the Program. Tr. 509. He also could not remember “giving
[Renaissance] a physical copy of the [Program] [A]greement.” Tr. 510. Mr. Robare nonetheless
asserted that he did discuss the matter with Renaissance. Tr. 510. He then speculated that his
discussion led to changes in 2008 in TRG’s Form ADV. Tr. 510. Mr. Robare quickly retracted
this comment when he realized that TRG had not changed its Form ADV in 2008. Tr. 510.
Because of the lapse of time, he also could not specifically recall his discussions with
Renaissance. Tr. 511.
According to TRG’s agreement with Renaissance, TRG was “solely responsible for the
adequacy and accuracy of any information or documentation provided to” Renaissance and that
Renaissance had “no responsibility to verify the accuracy of any information [TRG] provided” it.
Div. Ex. 16 at 6.
Bartholomew McDonald is an executive vice president with Renaissance. Tr. 540. He
was employed by the Commission from January 2004 through December 2006 as an examiner.
Tr. 541. Mr. McDonald testified that Renaissance is a regulatory consulting firm whose clients
are investment advisers, broker-dealers, investment companies, and banks. Tr. 542. Among the
services Renaissance provides are mock examinations, reviewing or creating internal policies
and procedures, and “ongoing compliance support,” including helping firms with their Forms
ADV. Tr. 542-43. Renaissance has provided regulatory compliance services to TRG, under
different proposals, from 2007 until the present. Tr. 550.
Mr. McDonald testified that as part of his job, he is required to be familiar with Form
ADV. Tr. 543-44. In November 2007, Mr. McDonald sent Mr. Jones a letter proposing that
TRG hire Renaissance to “provide ongoing compliance services.” Tr. 545; see Resp. Ex. 43 at
1-3. On Renaissance’s behalf, Mr. McDonald offered to “provide up to 24 annual hours of
compliance support to [TRG’s chief compliance officer] in administering [the Robare Group’s]
18
compliance program.” Resp. Ex. 43 at 1. He thus proposed to assist TRG’s chief compliance
officer in “meet[ing] [TRG’s] annual review requirements under [Rule] 206(4)-7,” to include
“disclosures/Advisory Arrangements,” among other matters. Id. He also proposed to address
Form ADV and stated that Renaissance would “review and update the Form ADV on an annual
basis.” Id. at 2. During the hearing, Mr. McDonald affirmed that he provided this latter service
to TRG. Tr. 548. In 2008, Renaissance drafted TRG’s compliance manual. Tr. 564.
Renaissance’s 2009 proposal contained similar language relating to its provision of
compliance support and to Form ADV. See Resp. Ex. 44 at 1. In 2012, Renaissance proposed
“Tier II” support, which would include “the assignment of a dedicated Compliance
Administrator,” who would provide “monthly support services” regarding, inter alia, Form
ADV, and an annual Form ADV update. Resp. Ex. 45 at 2; see also Resp. Ex. 46 (2013
proposal).
Mr. McDonald explained that after a client firm signs with Renaissance, he discusses the
client’s business with the client in hopes of achieving a better understanding of how the business
was run. Tr. 548-49. He would ask “how they’re compensated, where their revenues are coming
from.” Tr. 549. Mr. McDonald opined that it was “very important” for a client to describe all of
its “sources of income.” Tr. 549. To Mr. McDonald, it is important to understand a client’s
sources of income because he was trained while at the Commission “to follow the money.” Tr.
549. Following the money helps him understand the business and to see whether there are
disclosure issues to be addressed. Tr. 549-50.
Although Mr. McDonald did not specifically recall his initial discussions with TRG, he
said that discussing its compensation would have been “standard operating procedure.” Tr. 550.
Although Mr. McDonald never received a copy of the 2004 Program Agreement, Tr. 554, 578,
he affirmed that while he did not specifically remember discussing the Program, he typically
would have discussed something of that nature with a client, Tr. 555. He was also aware of the
2012 Program Agreement. Tr. 554, 556. Mr. McDonald explained that assuming a thorough
discussion, it would not have been strictly necessary to see the 2004 Program agreement. Tr.
580-81; see Tr. 586-87.
As a factual matter, I find that Renaissance was aware of the Program. Mr. Robare
testified that he discussed it with Renaissance. Tr. 510. Mr. McDonald testified that he
investigated the sources of the Robare Group’s income and “follow[ed] the money.” Tr. 549.
Inasmuch as Program payments were listed as a separate line item on the commission statements
the Robare Group received from Triad, it would have been difficult for Mr. McDonald to miss
the payments. As no party claimed Mr. McDonald was incompetent, I infer that even if Mr.
Robare did not mention the Program to him, Mr. McDonald would have discovered the payments
the Robare Group received in the course of “follow[ing] the money.”
This finding is supported by Mr. McDonald’s testimony that Mr. Robare and Mr. Jones
were “very good” to work with regarding the Form ADV. Tr. 557. He said “[t]hey were very
involved and proactive and interested in trying to get it right.” Tr. 557. On those occasions Mr.
McDonald needed additional information, Mr. Robare and Mr. Jones provided the requested
information “right away” and were “very forthcoming.” Tr. 558; see Tr. 587 (agreeing they were
19
“full, frank[,] and timely in providing information”). He added that they were “never hesitant” to
respond or “vague” in their responses. Tr. 559.
During cross-examination, Mr. McDonald affirmed that Renaissance’s role was to
support TRG’s compliance program, not to provide the program or to act as an outside chief
compliance officer. Tr. 563. He also said that without amending the Form ADV, Mr. Robare
could not delegate the responsibility for being the chief compliance officer. Tr. 565-66. Mr.
McDonald denied that Renaissance “approved” TRG’s disclosures. Tr. 568. Rather, he said
Renaissance provided “guidance and advice.” Tr. 568.
The Robare Group, however, thought Renaissance did approve the language it used. As
is discussed below, see § 1.12, in December 2011, Mr. Jones attempted to address Fidelity’s
demand that TRG amend its Form ADV disclosure about the Program. See Div. Ex. 44. Mr.
Jones told Timothy Fahey, his point of contact at Fidelity, that whatever language TRG used
would first have “to be approved by [TRG’s] ADV consultant and [its] broker-dealer, Triad
Advisors.” Id. at 1 (emphasis added). Mr. Jones sent proposed language to Lisa Paygane at
Renaissance, who edited the proposed language. Div. Ex. 46 at 4. That Ms. Paygane did not
respond by expressing surprise about TRG’s participation in the Program or by asking for a copy
of the Program Agreement circumstantially supports my determination that Renaissance was
aware of it.
In the end, it is sufficient that when TRG’s principals paid Renaissance for support “in
administering [TRG’s] compliance program,” assistance in preparing TRG’s disclosures, and
review and updating of its Form ADV, Resp. Ex. 43 at 1-2, those principals reasonably thought
they were getting what they paid for, see Tr. 412. No doubt, Mr. Robare and Mr. Jones paid
Renaissance in hopes of avoiding the very proceeding of which they are now the subject.
1.8.2
Triad
Charles Strauss has worked for Triad since 2006 and has been its chief compliance
officer since 2010. Tr. 596. Before Triad, Mr. Strauss worked at Capital Markets Compliance.
Tr. 597. Before that, he was an examiner with what is now the Financial Industry Regulatory
Authority. Tr. 597.
Mr. Strauss supervises a compliance staff of nine subordinates. Tr. 604. He testified that
he and his staff use the authority given to Triad in its agreements with Mr. Robare and Mr. Jones
to monitor TRG’s securities activities. Tr. 603-04; see Resp. Ex. 19 at 6. He and his staff can
and do request TRG’s investment advisory “book and records.” Tr. 604-05. Mr. Strauss has
“never had any issue obtaining” documents from Mr. Robare or Mr. Jones. Tr. 605. Like Mr.
McDonald, he testified that “they’ve been prompt in their response[s] and full in their
response[s].” Tr. 605.
Mr. Strauss confirmed that Triad subjected TRG to annual audits. Tr. 606, 608-09. An
audit “consist[s] of looking [at] everything from [TRG’s] blotters to [its] [Form] ADV to
customer accounts to . . . advertising.” Tr. 606. It involves “anything that’s securities related
[and] anything that’s related to outside business activities.” Tr. 606. The audit would also
20
involve review of bank statements and client accounts, even if the client were not a client of
Triad. Tr. 607.
Triad’s audit involves review of the current Form ADV because Triad identifies the
firm’s activities and arrangements with its custodian and wants to ensure that the disclosures in
Parts 1 and 2 and Schedule F are accurate. Tr. 607-08; see Tr. 687 (Mr. Jones affirming that
Triad received a copy of Form ADV as part of the audit). If Triad discovers a deficiency in a
firm’s disclosures, it raises the issue with the firm and then, if the problem is one of general
applicability, makes other firms aware of the issue. Tr. 608-09. Triad then follows up with the
firm to ensure that the deficiency has been addressed. Tr. 609-10. The foregoing steps were
taken with TRG. Tr. 610, 630; see Resp. Ex. 22 (2004 post-audit interview notes); Resp. Ex. 23
(2004 audit final interview form noting deficiencies).
Deficiencies in TRG’s Form ADV would have been noted on an audit final interview
form. Tr. 612; see Resp. Ex. 23 at 2. Mr. Strauss reviewed the Robare Group’s audit final
interview forms and did not notice any deficiencies noted by Triad about TRG’s Form ADV. Tr.
612. He was likewise unaware of Triad having advised TRG of a problem with its Form ADV.
Tr. 612-13, 616. Mr. Jones confirmed that Triad had never alerted TRG to a deficiency in its
Form ADV. Tr. 687-88. Mr. Strauss confirmed that because it was a party to the Program
Agreement, Triad was aware of the Program agreement. Tr. 615.
Mr. Strauss also confirmed that Triad “review[ed] and approve[d]” TRG’s Form ADV.
Tr. 630. Additionally, Mr. Strauss did not disagree that Triad “oversaw all aspects of [TRG’s]
compliance, including a review of the adequacy of [TRG’s] disclosures.” Tr. 631. Mr. Strauss
affirmed that as of each time it reviewed TRG’s Form ADV, Triad represented to TRG that
TRG’s disclosures were adequate and in compliance with then-current requirements.14 Tr.
637-40. He phrased things in this manner because he believed the Commission’s position as to
what constitutes adequate disclosure is a “moving target.” Tr. 637-39.
1.9
TRG’s investment advice in relation to the Program agreement
At some point TRG asked Morningstar how many non-transaction fee mutual funds were
on Fidelity’s trading platform. Tr. 350. TRG learned that there were over 6600 such funds. Tr.
350. Of these, 450 were Fidelity funds. Id. Fidelity funds—those that did not pay fees under
the Program—thus comprised less than 7% of those available on Fidelity’s platform. Id. In
other words, about 93% of the non-transaction fee funds on Fidelity’s platform were potentially
funds that could pay fees under the Program, though not all of those 93% actually paid fees. Tr.
354.
On questioning from counsel, Mr. Robare explained that over time, rather than 7%, his
clients had averaged about 20% of their funds invested in Fidelity non-transaction fee funds. Tr.
351-52. Both he and Mr. Jones denied that payments under the Program influenced investment
decisions. Tr. 343, 415, 671.
14
Mr. Jones agreed that TRG believed Triad “could provide [TRG with] independent
advice about how or whether to disclose” the Program. Tr. 771-72.
21
The Division’s evidence supported this assertion. According to one Division exhibit that
covered July 2010 through November 2013, TRG’s clients’ investments never hit the 93%
threshold. See Div. Ex. 78. Instead, the percentage of assets TRG’s clients had in funds that
paid fees under the Program varied between a low of 69% in August 2012 and 91% in July 2010.
Id.; see Tr. 346-47. Mr. Robare attributed this variation to his assertion that fund choices were
not based on whether the funds paid fees. Tr. 348.
During the economic downturn in 2007 and 2008, the Robare Group increased its clients’
investments in Fidelity funds, i.e., those funds for which the Robare Group would not receive
fees from Fidelity. Tr. 337, 341. Specifically, TRG put his clients in Fidelity index funds
because Mr. Robare wanted to keep his clients exposed to the market in anticipation of a
rebound. Tr. 338, 341. And he choose Fidelity index funds, as opposed to any number of others,
because he felt that they were less expensive for his clients.15 Tr. 339.
At some point, TRG asked Fidelity to give it information about which funds paid fees,
i.e., those non-Fidelity funds that were “eligible.” Tr. 342. On cross-examination, Mr. Robare
explained that he asked for “the underlying breakdown” of the 12b-1 “line items” from the
commission statement Triad sent TRG. Tr. 481. In response, TRG received a “virtually
unintelligible” spreadsheet. Tr. 342. The spreadsheet was comprised of about 100 pages and
thousands of rows of data that reflected the most recent payments under the Program. Tr. 816. It
only showed current holdings and not all eligible funds. Tr. 816-18. The information was thus
retrospective reflecting only past payments, not funds that could potentially pay fees.
Without contradiction, Mr. Robare testified that he decided it was “too difficult to
determine” what funds were paying fees. Tr. 343. Because it was too confusing, he did not
determine which funds paid fees. Tr. 481-82. Mr. Jones agreed. See Tr. 752 (“it’s not worth our
time”). Mr. Robare, therefore, did not know which funds actually paid fees. Tr. 537. He
testified that in any event he did not care which funds paid fees. Tr. 343. Mr. Jones similarly
said that information was unimportant because TRG “made independent investment decisions
[based] on objective criteria” and was not concerned with whether a fund was an “eligible” fund.
Tr. 752. TRG never received a list from Fidelity of eligible funds and never asked for one. Tr.
482. At some later point, TRG asked Fidelity what it meant to be an “eligible” non-transaction
fee fund for purposes of the Program. Tr. 482. As Mr. Robare and Mr. Jones were credible and
the Division presented neither evidence that Fidelity was more effusive on this point than Mr.
Robare and Mr. Jones claimed, nor copies of Fidelity’s spreadsheet, I accept the testimony about
how difficult it would have been to determine what funds were “eligible.”
The fact that Mr. Robare and Mr. Jones did not know what funds paid Program fees is
supported the fact that in late October 2012, Kathy White from TRG e-mailed Mr. Fahey to ask
“what funds and types of funds” paid fees under the Program. Resp. Ex. 88 at 8; Tr. 180.
According to Mr. Fahey, Mr. Jones or Mr. Robare had asked a number of times about the funds
that paid fees. Tr. 180-81. Based on that fact, Mr. Fahey surmised that TRG’s principals did not
know what funds paid fees. Tr. 180-81.
15
Mr. Robare said the Robare Group determined during the downturn that the “extra
expense [of] active management” was not worth the added cost. Tr. 337-38.
22
Mr. Robare understood that the source of Program payments was 12b-1 distribution fees
paid by non-Fidelity funds to Fidelity. Tr. 350; see Resp. Ex. 123. But Fidelity, at least in 2015,
did not think they were 12b-1 fees. Tr. 190. Mr. Robare testified that he read the prospectus for
every fund he recommended to his clients. Tr. 308, 352-53. According to Mr. Robare, the
funds’ prospectuses disclosed fees as either “12b-1 . . . distribution fees,” or “shareholder
servicing fees-distribution expenses paid to the distributor.” Tr. 353. He opined that these
characterizations amounted to the same thing. Tr. 353. Mr. Robare also said that investment
advisers are not permitted to receive 12b-1 fees but that registered representatives are. Tr. 418.
After this proceeding was initiated, TRG sent a copy of the OIP to its clients. Tr. 413;
see Resp. Ex. 120. Mr. Jones said the TRG did this in order to “fully inform [its] clients.” Tr.
711. According to Mr. Robare, TRG quickly received “a number of [supportive] e-mails” from
clients. Tr. 413. Mr. Jones testified that no clients left TRG as a result of the OIP and that
clients responded in an “[o]verwhelmingly positive” manner. Tr. 712; see Resp. Ex. 108.
As noted, Mr. Jones and Mr. Robare concede that payments under the Program represent
a potential conflict of interest. Tr. 719-20, 728; Stip. ¶ 30. Mr. Jones conceded that as a
fiduciary, he is required to disclose actual or potential conflicts of interest. Tr. 720, 727-28. Mr.
Robare acknowledged that he was ultimately responsible for the adequacy of TRG’s disclosures.
Tr. 371.
1.10
Fidelity’s perspective
Melissa Morganti Zizza has worked at Fidelity for twenty-five years. Tr. 26. Since
2010, she has been a senior vice president in a division of Fidelity called Institutional Wealth
Services. Tr. 25; see Tr. 37. Ms. Morganti Zizza has worked in that division for nine years. Tr.
26. Institutional Wealth Services serves as the custodian of client assets for registered
investment advisers. Tr. 25. Its clients, therefore, are the registered investment advisers. Tr. 26.
Ms. Morganti Zizza testified that the ultimate investors actually have an account with
Fidelity and are required to sign an agreement with it. Tr. 28. The investors and the adviser are
each given access to the investor’s Fidelity account and the investors, although clients of the
advisers, can view their account on Fidelity’s on-line platform. Tr. 28. She confirmed that
Fidelity’s platform offers access to both Fidelity and non-Fidelity mutual funds. Tr. 29.
As part of her responsibility, Ms. Morganti Zizza manages the Program. See Tr. 33, 37.
Ms. Morganti Zizza testified that in some cases, Fidelity receives payments from the other
mutual fund companies when investors invest in those companies’ non-transaction fee funds
through Fidelity. Tr. 31. In those cases, Fidelity is generally paid “basis points on the assets
associated with those funds for servicing of the [funds’] customers.” Tr. 31. Ms. Morganti Zizza
opined that, although Fidelity does receive 12b-1 fees, the compensation it pays to advisers in
relation to non-transaction fee funds are not 12b-1 fees. Tr. 31-32, 63-64, 70; see Tr. 91 (“We do
not pay [12b-1 fees] to investment advisers”); see also Tr. 190. Instead, she said such fees are
“shareholder service fees.” Tr. 32, 70. Ms. Morganti Zizza, however, had not reviewed the
prospectuses of the funds for which Fidelity paid compensation and thus did not know how those
23
funds characterized the payments remitted to Fidelity. Tr. 71-73. She also did not know how
Triad characterized the funds it transferred under the program to TRG. Tr. 73.
Ms. Morganti Zizza testified that through the Program, Fidelity compensates certain
investment advisers for providing shareholder administrative services “that [Fidelity is] normally
on the hook for” providing.16 Tr. 33; see Tr. 34-35. “[I]n return,” for providing those services,
Fidelity “share[s]” some of the “revenue” it receives from other mutual fund companies. Tr. 33;
see Tr. 36-37 (“It’s sharing of our revenue that we receive for shareholder services to the
investment advisor for those services.”), 56-57. Fees under the program are calculated as basis
points based on total assets. Tr. 35. The greater the assets, the greater the basis points. Tr. 36;
see Div. Ex. 9 at 1; Tr. 48-49.
Ms. Morganti Zizza said that Fidelity does not currently consider fees paid under the
Program to be commissions or a type of selling compensation. Tr. 36. On cross-examination,
Ms. Morganti Zizza conceded that the administrative services for which investment advisers are
compensated under the Program are the same services that advisers provide for investments
outside the program. Tr. 69. In other words, despite providing exactly the same services,
advisers received no compensation for investments outside the program. Ms. Morganti Zizza
nonetheless denied that payments under the program were “sales[-]related.” Tr. 69-70.
Although the basic Program has stayed the same during Ms. Morganti Zizza’s tenure as
senior vice president, the contract has changed. Tr. 38. The current contract changed the phrase
“eligible NTF mutual funds” to “Non-Fidelity NTF mutual funds.” Tr. 75. The word “eligible”
was undefined. Tr. 75-76. Ms. Morganti Zizza inferred that the word eligible referred to
non-Fidelity, non-transaction fee funds. Tr. 95-96.
Ms. Morganti Zizza said that the three-party agreement, in which fees were passed
through Triad, was “unique,” at least since 2010. Tr. 53, 80-81. She later amended her
testimony and said that she had been told of other three-party agreements. Tr. 97-98. She did
not know why Triad was inserted in the agreement. Tr. 53, 81. Based on her experience, it was
“unusual for an advisor to work with the broker-dealer.” Tr. 80.
Division Exhibit 33 is the current agreement with TRG. Tr. 55. It replaced Division
Exhibit 9. Tr. 55. The current contract omits Triad as an intermediary. Tr. 56. As part of that
contract, TRG warranted to Fidelity that it had:
16
Ms. Morganti Zizza said:
the registered investment advisers are opening new accounts.
They’re dealing with a lot of that paperwork on behalf of Fidelity.
They’re maintaining those accounts associated with Fidelity
accounts. Money movement requests for customers that they may
need to move in and out of funds, et cetera. So it’s a lot of the
administrative operational activities associated with that.
Tr. 68.
24
made and will continue to make all appropriate disclosures to
Clients (and obtained any necessary Client consents) with regard to
any conflicts of interest that may arise from the arrangements
contemplated by this Agreement and Adviser’s relationship with
Fidelity, including without limitation . . . any incentive arising in
connection with Adviser’s receipt (or prospective receipt) of fees
on Non-Fidelity no-transaction fee (“NTF”) mutual funds to favor
those types of investments over others.
Div. Ex. 33 at 3. From Fidelity’s perspective, it did not matter whether TRG fulfilled its
disclosure responsibility through its Form ADV or through another method. Tr. 77.
Ms. Morganti Zizza testified that the language regarding the Program contained in
Fidelity’s December 2005 brokerage agreement was included to disclose potential conflicts for
Fidelity created by the Program. Tr. 44-45; see supra § 1.4. She agreed that Fidelity’s
brokerage agreement “also disclose[d] the conflicts that [the Program] create[d] for” the Robare
Group. Tr. 85; see Tr. 86-87.
1.11
Fidelity tells the Robare Group to change its Form ADV
As noted in section 1.6, supra, in 2011, Fidelity asked the Robare Group to change its
Form ADV. That year, Fidelity reviewed the Forms ADV for all forty firms that participated in
the Program to determine whether the firms were disclosing the Program.17 Tr. 64, 89-90. One
of Ms. Morganti Zizza’s subordinates, Dennis Hawley, reviewed TRG’s Form ADV and
concluded that it did not disclose the program. Tr. 64; see Tr. 66 (stating that in Mr. Hawley’s
“opinion, it was not there”). According to Ms. Morganti Zizza, Fidelity directed its “relationship
managers” to contact those investment advisers whose Forms ADV inadequately disclosed the
program. Tr. 65. The relationship managers told the investment advisers to update their Forms
ADV “in a quick manner” on pain of payments potentially being suspended. Id.
Timothy Fahey has since 2011 been employed by Fidelity as a vice president of
relationship management in Institutional Wealth Services. Tr. 103-04, 106. In that role, he
primarily serves as a liaison between Fidelity and principals of investment adviser firms that
work with Fidelity. Tr. 105-06, 108. TRG is one of Mr. Fahey’s clients. Tr. 107.
In 2011, Mr. Hawley instructed relationship managers to contact investment adviser
clients if he deemed that the advisers’ disclosure of the program was insufficient. Tr. 110-11.
Mr. Fahey described Mr. Hawley as “the director of risk,” or Legal Risk Compliance, within
Institutional Wealth Services. Tr. 111. Mr. Fahey testified that Legal Risk Compliance
17
This review was prompted by the Commission’s investigation of a separate investment
adviser’s compensation arrangement, apparently also with Fidelity, see Tr. 898, that was not
disclosed, Tr. 89-90; see Focus Point Solutions, Advisers Act Release No. 3458, 2012 WL
3863221 (Sept. 6, 2012).
25
“cursor[ily] review[ed]” TRG’s Form ADV, found it deficient, and instructed Mr. Fahey to
contact TRG about it. Tr. 113, 159.
To that end, Mr. Fahey phoned Mr. Jones on December 1, 2011, to discuss TRG’s
disclosure in its Form ADV. See Div. Ex. 41 at 1; Tr. 115-16. The next day, Mr. Fahey emailed Mr. Jones sample disclosure language provided by Legal Risk Compliance. Tr. 116; see
Div. Ex. 41. Mr. Jones explained that the language Mr. Fahey sent was clearly boilerplate and
that it used broker-dealer language that could cause confusion. Tr. 692. It also did not address
Triad’s part in the Program Agreement. Tr. 692. Mr. Jones opined that simply posting the
suggested language in its entirety would not have resulted in an accurate disclosure. Tr. 693.
One week later, on December 9, 2011, Mr. Fahey e-mailed Mr. Jones to say that
Fidelity’s “legal team ha[d] escalated th[e] issue and” directed that changes to TRG’s Form ADV
occur by December 16, 2011. Div. Ex. 43. Mr. Fahey quoted language forwarded to him from
the legal team indicating that TRG needed to make the requested changes by December 16,
2011, in order “to ensure that” payments under the program “continue without interruption.” Id.;
Tr. 121. Mr. Fahey and Mr. Jones spoke by telephone about this matter around this time. Tr.
122. On cross-examination, Mr. Fahey clarified that he, not Mr. Jones, raised the issue of
interruption of payments under the Program. Tr. 162. Mr. Jones testified that the accelerated
timeframe was a concern because TRG was “just in front of a new disclosure period” and had
little time to act on Fidelity’s request. Tr. 696. Despite this, Mr. Fahey opined that Mr. Jones
was cooperative, “very appreciative[,] and took [the matter] seriously.” Tr. 122, 159, 161.
On Sunday, December 11, 2011, Mr. Jones responded with proposed language.18 Div.
Ex. 44 at 1. He also asked “how strictly Fidelity” would be “requiring specific language” and
noted that whatever language TRG used, the language would first have to be approved by TRG’s
“ADV consultant and its broker-dealer, Triad Advisors.” Id.
Mr. Fahey forwarded Mr. Jones’s proposed language to Mr. Hawley and asked, “[w]ill
this work?” Div. Ex. 45 at 1. Mr. Hawley responded on December 12, saying “I don’t approve
or disapprove any language, but if that was on their ADV I would think that would be great.”19
18
Mr. Jones proposed to say:
The Robare Group, Ltd. may receive additional compensation in
the form of custodial support services from Fidelity based on
revenue from the sale of funds through Fidelity. Fidelity has
agreed to pay The Robare Group, Ltd. a fee on specified assets,
namely no transaction fee mutual fund assets in custody with
Fidelity.
This additional compensation does not represent
additional fees from client accounts to The Robare Group, Ltd.
Div. Ex. 44 at 1.
19
Despite his non-approval approval, it appears that Mr. Hawley is not an attorney. Tr.
196-97.
26
Id. Mr. Fahey then forwarded Mr. Hawley’s e-mail to Mr. Jones and said that although Fidelity
could neither approve nor disapprove any specific language, Mr. Jones “seem[ed] to have the
language nailed.” Id. Mr. Jones understood Mr. Fahey’s e-mail to mean that TRG “had met or
exceeded [Fidelity’s] request.” Tr. 700.
On December 13, Mr. Jones e-mailed Lisa Paygane, who worked for Renaissance. See
Div. Ex. 46 at 4-5. Mr. Jones forwarded the language in footnote 18, supra, explained that
Fidelity had asked that TRG include “something like” the language, and asked Ms. Paygane to
“advise regarding [the] language . . . and [the] steps [TRG] need[ed] to take to update” the Form
ADV. Id. at 5.
On December 15, Mr. Jones e-mailed Mr. Fahey to say that he had sent the disclosure
language “to our back office team who does our ADV.” Div. Ex. 47 at 2. He also advised that
TRG would not be able to implement the changes until after the December 16 deadline and asked
how best to inform Mr. Fahey that the change had been implemented “so this can be reinstated.”
Id. Mr. Fahey responded that:
They are strongly enforcing the deadline, so there will be a
temporary disruption in payment until this becomes available. I
am still checking to see if the revenue will be accrued and paid or
if it is lost altogether (temporarily). Either way, once you notify
me that the update has been made, my understanding is that
[payments under the Program] will be reinstated.
Id. at 1.
Ms. Paygane sent suggested language to Mr. Jones on Monday, December 19. Div. Ex.
46 at 3. After some back and forth, Mr. Jones told Ms. Paygane on December 20 that her
language “[l]ook[ed] good to us,” and said he wanted to update the Form ADV “as soon as
possible.” Id. at 1.
At some point in the next two days, Mr. Jones advised Mr. Fahey that TRG had updated
its Form ADV. See Div. Ex. 47 at 1. According to Mr. Fahey, although TRG did not meet the
December 16 deadline, Fidelity took into account the efforts TRG made and did not interrupt
payments under the Program. Tr. 137.
1.12
Fidelity changes the Program Agreement
At some point in 2012, Fidelity decided to change the Program contract. Tr. 138-39; see
Resp. Ex. 87. It thus drafted a new version of the contract, which Mr. Fahey sent in October to
TRG for its review. Tr. 139-40, 172; see Resp. Ex. 87. The new contract did not interpose Triad
between Fidelity and TRG. Tr. 140-41, 173; see Div. Ex. 33.
On reviewing the new contract, Mr. Jones and Mr. Robare noticed the omission of Triad.
Tr. 172-73, 196, 702. Mr. Jones and Mr. Robare were concerned about this omission because
Triad was TRG’s partner and TRG did not wish to “cut them out of the [Program] revenue.” Tr.
27
702-03, 818. Mr. Jones and Mr. Robare thus asked Mr. Fahey about the absence of Triad from
the contract. Tr. 141, 196. Mr. Fahey could not immediately tell TRG why Fidelity omitted
Triad from the contract. Tr. 703.
Mr. Jones and Mr. Robare discussed the issue with Triad, which “said it was okay.” Tr.
703, 818. Triad did not suggest that the new agreement violated any law. Tr. 819. Renaissance
also said that it would assist in crafting new language for TRG’s disclosures. Tr. 704.
On investigating the matter, Mr. Fahey learned that Legal Risk Compliance had
determined that interposing Triad was not necessary. Tr. 141-42. The Robare Group and
Fidelity did not engage in a dialogue or negotiation over the new contract. Tr. 172.
In April 2013, Mr. Jones e-mailed Mr. Fahey because TRG had not received payments
under the Program for March or April. Resp. Ex. 92 at 9; Tr. 143-44. Mr. Fahey investigated
and learned that Fidelity was “still crediting [TRG’s] account.” Resp. Ex. 92 at 7.
Mr. Fahey informed Mr. Jones in late April that payments under the Program would be
suspended until TRG signed the new agreement. Tr. 148; Resp. Ex. 92 at 5. Mr. Jones asked
whether Fidelity could make an exception due the fact that the Commission was investigating
TRG about TRG’s disclosures related to the Program. Resp. Ex. 92 at 4. Mr. Fahey responded
that Fidelity could not make an exception but understood TRG’s position. Id. at 3.
In early May, Mr. Jones asked Mr. Fahey to explain the source of payments under the
Program and “the net result to [TRG’s] clients if [TRG did not] continue” in the Program. Resp.
Ex. 92 at 2; Tr. 150-51, 183. After investigating, see Tr. 151, Mr. Fahey responded that:
Fidelity receives a very small portion management fee from the
mutual fund companies for distribution through Fidelity’s
platform, primarily for operational and distribution expense.
Under [the Program], we share a portion of that fee (for certain
funds) with certain advisers to cover a portion of related fund
distribution expenses.
Resp. Ex. 92 at 1-2; Tr. 151. Mr. Robare testified that he understood Mr. Fahey’s use of the
word “share” to indicate that the payments TRG received under the Program came from the
“pool of money” Fidelity received from mutual fund companies. Tr. 520. During the hearing,
Mr. Fahey testified that he was “clearly” mistaken when he told Mr. Jones that the fees covered
“fund distribution expenses.” Tr. 152. Instead, they covered shareholder services. Tr. 151-52.
Mr. Fahey did not know whether he told Mr. Jones about his mistaken advice. Tr. 184.
TRG signed a new agreement with Fidelity in May 2013. Tr. 434. Fidelity then began
paying TRG directly under the Program. Tr. 506. Up until that point, Mr. Robare thought
Program payments were commissions. Tr. 434-36. The omission of Triad from the new
agreement gave him pause regarding how to characterize the payments. Tr. 434-35. He believed
the payments were sourced from 12b-1 fees but could not definitively say whether they were
commissions. Tr. 434-35. Mr. Robare believed the underlying source had not changed. Tr.
28
435-36. Of course, he could not say how Fidelity accounted internally for payments from mutual
fund companies. Tr. 439.
Although he previously thought payments under the Program were commissions, Tr.
757-58, Fidelity’s omission of Triad from the second Program agreement made Mr. Jones
uncertain, see Tr. 760. On questioning, he said that he did not know how to characterize the
payments. Tr. 761; see Tr. 762-63.
1.13
The Commission examines the Robare Group
From 2004 to 2012, Karyn Mysliwiec worked in the Commission’s regional office in Fort
Worth. Tr. 199. From 2004 to 2007, she was an examiner focused primarily on investment
advisers and investment companies. Tr. 200. In 2007, she was promoted to a branch chief
position. Tr. 199.
TRG was examined in 2008 by Ms. Mysliwiec’s subordinate, Valeria Buschfort. Tr. 211.
In preparation for that exam, Ms. Buschfort sent TRG a letter informing it of the exam. Tr. 223;
Resp. Ex. 93. Among other things, Ms. Buschfort instructed TRG to provide copies of Part II of
its Form ADV. Resp. Ex. 93 at 5; see Tr. 233-34. Evidence presented showed that Ms.
Buschfort retrieved or received a copy of TRG’s Form ADV, including schedule F. Resp. Exs.
94, 96 at 1; Tr. 235-45, 408-09. An examinee is not told about the various types of exams to
which an examinee might be subject. Tr. 245-46. But the request form does detail the
examination types. Tr. 249; Resp. Ex. 93 at 13-16. Ms. Mysliwiec did not know whether TRG
was informed of the limited scope of the exam. Tr. 257-58. Mr. Robare testified that he did not
know the difference between types of exams. Tr. 411. He explained that he had nothing “to
compare it to.” Id.
According to Ms. Buschfort’s report of the exam she performed on TRG in 2008, she
spent one day at TRG for the exam. Tr. 213; Div. Ex. 80 at 2. Ms. Mysliwiec characterized the
exam as “short” and said it appeared to have been “a risk assessment verification exam.” Tr.
215. It was not “thorough.” Tr. 216.
Ms. Mysliwiec testified that an examiner typically would review a firm’s Form ADV as
part of an exam. Tr. 218. According to Mr. Robare, neither Ms. Buschfort nor any other
Commission employee raised a concern with Mr. Robare during the exam about the adequacy of
TRG’s disclosures in its Form ADV. Tr. 409-10.
Following the exam, the Commission issued TRG a no further action letter. Resp. Ex.
95; Tr. 226. The letter informed TRG that the Commission had “concluded the examination[]
and no written response . . . is necessary.” Resp. Ex. 95 at 1; see Tr. 246-47. The letter
cautioned, however, that the fact the Commission was taking no further action “should not be
construed as any indication that [TRG’s] activities are in full compliance with the federal
securities laws or other applicable rules and regulations.” Resp. Ex. 95 at 1. The letter did not
mention a deficiency in the Form ADV. Tr. 247; see Resp. Ex. 95. Receipt of a letter indicating
that the Commission intended to take no further action is the best possible result for an adviser
following an exam. See Tr. 257-58.
29
Despite the admonition that he should not rely on the letter, Mr. Robare concluded that
“in general . . . things were well.” Tr. 410. He assumed that he would have been told if the
Commission found fault with his Form ADV disclosures. Id.
1.14
Industry perspective
Miriam Lefkowitz testified regarding the adequacy of TRG’s disclosures. See Tr.
826-928. She also provided an expert report. See Lefkowitz Report. Ms. Lefkowitz is a
graduate of Columbia Law School. Lefkowitz Report at 3. She currently serves as a
“compliance and regulatory adviser to small and regional SEC-registered retail-focused
investment advisers and broker dealers.” Id. at 2. Since 2002, she has been responsible for
drafting Forms ADV for such firms or for advising firms about such drafting. Id. Ms. Lefkowitz
previously worked in the Commission’s enforcement division. Id.
Ms. Lefkowitz opined that investment advisers “struggle[] to determine what is sufficient
disclosure.” Lefkowitz Report at 4. She believes that the reason for this struggle is a lack of
clear and consistent guidance. Id. Specifically, Ms. Lefkowitz feels there is an irreconcilable
conflict between guidance to both fully disclose and to be concise. Id. at 6. In her experience,
“this dilemma” has led investment advisers to seek the assistance of compliance professionals.
Id. And, while some firms favor more “lengthy, complicated disclosures,” others provide shorter
disclosures that they believe are “more likely [to be] read and understood.” Id. On the whole,
Ms. Lefkowitz believes that no investment adviser or consultant can confidently say whether a
given disclosure is sufficient. Id. Ms. Lefkowitz’s testimony is consistent with Mr. Strauss’s
testimony that the Commission’s position as to what constitutes adequate disclosure is a “moving
target.” Tr. 637-39.
The Division called no witnesses to rebut Ms. Lefkowitz’s or Mr. Strauss’s testimony.
Absent such testimony, I am compelled to conclude, for purposes of this matter, that investment
advisers operate in an uncertain regulatory environment in respect to disclosing potential
conflicts of interest.
With reference to Commission guidance, Ms. Lefkowitz explained that 12b-1 fees fall
into two categories. Tr. 923-24. The first category concerns “reimburse[ments] . . . for
marketing and selling.” Tr. 923. That sort of “transaction-based compensation” may only be
paid to broker-dealers. Tr. 923-24. The second category concerns “shareholder service fees”
that are paid in order to reimburse firms for “respond[ing] to investor inquiries and provid[ing]
investors with information about their investments.” Resp. Ex. 123. This second category of
payments may be paid by a fund even if it does not have a 12b-1 plan. Id.; see Tr. 924-25.
Recipients of payments of this latter type do not need to be broker-dealers. Tr. 925.
Ms. Lefkowitz testified that the Commission has expressly recognized that small and
medium-sized firms will rely on compliance professionals. Tr. 928.
30
Issues
A.
1. Whether payments under the Program created a material conflict interest.
2. If so, whether the Respondents adequately disclosed the conflict of
interest.
3. If the Respondents failed to adequately disclose any conflict of
interest, whether the Division proved that the Respondents acted with scienter.
B.
Whether Mr. Jones aided and abetted and caused violations of the Advisers Act.
C.
Whether Respondents violated Section 207 of the Advisers Act.
Discussion and conclusions of law
2.1
Legal Principles
The Division alleged that Mr. Robare and the Robare Group willfully violated
subsections (1) and (2) of Section 206 of the Advisers Act. OIP ¶ 14. It also alleged that Mr.
Jones willfully aided and abetted and caused the same violations. Id. ¶ 15. Finally, the Division
alleged that all three Respondents violated Section 207 of the Advisers Act. Id. ¶ 16.
Subsections (1) and (2) of Section 206 make it:
unlawful for any investment adviser, by use of the mails or any
means or instrumentality of interstate commerce, directly or
indirectly-(1) to employ any device, scheme, or artifice to defraud any client
or prospective client; [or]
(2) to engage in any transaction, practice, or course of business
which operates as a fraud or deceit upon any client or prospective
client.
15 U.S.C. § 80b-6(1), (2).
“The ‘fundamental purpose of [the Advisers Act is] to substitute a philosophy of full
disclosure for the philosophy of caveat emptor and thus . . . achieve a high standard of business
ethics in the securities industry.’” Montford & Co., 2014 SEC LEXIS 1529, at *51-52 (quoting
SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 186 (1963)). Section 206, therefore,
“establishes ‘federal fiduciary standards’ to govern the conduct of investment advisers.”
Transamerica Mortg. Advisors, Inc. v. Lewis, 444 U.S. 11, 17 (1979) (quoting Santa Fe Indus. v.
Green, 430 U.S. 462, 471 n.11 (1977)). As a result, investment advisers must fully disclose all
material facts and “employ reasonable care to avoid misleading [their] clients.” Montford & Co.,
31
2014 SEC LEXIS 1529, at *50. To meet this obligation, an adviser must “disclose information
that would expose any” actual or potential conflicts of interest. Id. at *51.
In order to establish liability under subsection (1) of Section 206, the Division must show
that a respondent acted with scienter. Montford & Co., 2014 SEC LEXIS 1529, at *55; see SEC
v. Steadman, 967 F.2d 636, 641 & n.3 (D.C. Cir. 1992). A showing of negligence, however, is
sufficient to establish a violation of subsection (2). Montford & Co., 2014 SEC LEXIS 1529, at
*55-56. Scienter may be shown by evidence of recklessness. Id. at *56 n.108. In this context,
recklessness is “an extreme departure from the standards of ordinary care . . . present[ing] a
danger of misleading [clients] that is either known to the [actor] or is so obvious that the actor
must have been aware of it.’” Id. (quoting David Henry Disraeli, Advisers Act Release No.
2686, 2007 SEC LEXIS 3015, at *16 (Dec. 21, 2007)).
Negligence is the failure to exercise reasonable care. IFG Network Sec., Exchange Act
Release No. 54127, 2006 SEC LEXIS 1600, at *37 (July 11, 2006). Respondents were negligent
if “they failed to use the degree of care and skill that a reasonable person of ordinary prudence
and intelligence would be expected to exercise in the situation.” SEC v. True N. Fin. Corp., 909
F. Supp. 2d 1073, 1122 (D. Minn. 2012). “[C]ompliance with industry standards is” a
non-dispositive factor to consider in determining whether a Respondent was negligent. Piper
Capital Mgmt., Inc., Securities Act Release No. 8276, 2003 SEC LEXIS 2047, at *26 (Aug. 26,
2003).
Advisers Act Section 207 makes it:
unlawful for any person willfully to make any untrue statement of
a material fact in any registration application or report filed with
the Commission under section 203, or 204, or willfully to omit to
state in any such application or report any material fact which is
required to be stated therein.
15 U.S.C. § 80b-7. By rule, an investment adviser is required to amend and file with the
Commission its Form ADV at least annually. 17 C.F.R. § 275.204-1(a). Any amendment to
Form ADV is a “report” within the meaning of Section 207. 17 C.F.R. § 275.204-1(e). As a
result of the statute and the rules, the Robare Group was required to annually file a Form ADV.
As the plain language of Section 207 provides, filing a Form ADV in which an adviser “willfully
. . . make[s] any untrue statement of a material fact . . . or willfully . . . omit[s] . . . any material
fact,” is a violation of Section 207.
To demonstrate liability for aiding, abetting, and causing, the Division must show
(1) the existence of a securities law violation by the primary (as
opposed to the aiding and abetting) party; (2) knowledge of this
violation on the part of the aider and abettor; and (3) “substantial
assistance” by the aider and abettor in the achievement of the
primary violation.
32
SEC v. Apuzzo, 689 F.3d 204, 211 (2d Cir. 2012). A person who aids and abets a violation is
necessarily a cause of the violation. Eric J. Brown, Exchange Act Release No. 66469, 2012 SEC
LEXIS 636, at *33 (Feb. 27, 2012). Of note, “[a] company’s scienter may be imputed from that
of the individuals who control it.” Clark T. Blizzard, Advisers Act Release No. 2253, 2004 WL
1416184, at *5 (June 23, 2004).
2.2.
The nature of the payments under the Program Agreement
There is no dispute that investment advisers must disclose actual or potential material
conflicts to investment clients. See Montford & Co., 2014 SEC LEXIS 1529, at *51-52. The
questions presented in this case are whether payments under the Program gave rise to an actual
or potential material conflict of interest and, if so, whether the Robare Group adequately
disclosed the conflict to its clients. The specific circumstances of this case make answering these
questions more difficult than might otherwise be the case.
As an initial matter, the Division tacitly concedes that from 2005 onwards, the disclosure
in Fidelity’s brokerage agreement adequately disclosed the Program to the Robare Group’s
clients. See Div. Brief at 24-26. I discuss this more fully in section 2.4, below. Mr. Robare
testified that he presented and reviewed the Fidelity agreement to each customer when the
customer opened a new account. Tr. 357-60. Those clients who first came to the Robare Group
in 2005 or later, were thus on notice of the Robare Group’s participation in the Program.20
For purposes of this case, the problem is that about half of the Robare Group’s clients
have been clients since before 2005. They received a previous version of the Fidelity brokerage
agreement that did not reference the Program. See Resp. Ex. 75. Because these pre-2005 clients
did not receive the newer Fidelity brokerage agreements, they were not informed of the Program
through their brokerage agreements. Whether they were entitled to disclosure otherwise, and if
so, whether they received adequate disclosures are issues addressed below.21
In order to answer these questions, one must first consider the nature of the payments.
More precisely, one must consider what the Robare Group in good faith believed the payments
were. The Division repeatedly denies the payments were commissions. Instead, it asserts in a
caption in its brief that the payments were “an asset-based fee.” See Div. Br. at 5. The term
20
The Division did not call any of the Robare Group’s clients in an attempt to refute Mr.
Robare’s testimony that he reviewed the Fidelity brokerage agreement with his clients. See Tr.
357.
21
In their post-hearing brief, Respondents argue that the general statute of limitations at 28
U.S.C. § 2462 bars the Division from relying on allegations that accrued more than five years
before it filed the OIP on September 10, 2014. Resp. Br. at 45-46. Section 2462, however, only
applies to actions brought for a “civil fine, penalty, or forfeiture.” 28 U.S.C. § 2462. Actions
seeking disgorgement and cease-and-desist orders are not subject to Section 2462. Riordan v.
SEC, 627 F.3d 1230, 1234-35 (D.C. Cir. 2010) (cease-and-desist orders not subject to Section
2462); Johnson v. SEC, 87 F.3d 484, 491 (D.C. Cir. 1996) (disgorgement not a penalty for
purposes of Section 2462).
33
“asset-based fee” is elsewhere undefined. It appears the Division’s belief that the payments were
not commissions is based on the fact that Ms. Morganti Zizza said the payments were not
commissions, Div. Br. at 9, and that Fidelity now pays the Robare Group directly, which it could
not do if the payments were commissions. The Division thus places great weight on what
Fidelity thinks the payments represent.22
Respondents argue that the payments have always been 12b-1 fees or that at least, the
Robare Group reasonably believed they were 12b-1 fees. I agree. For starters, until 2013, all
relevant parties including Fidelity treated Program payments as 12b-1 fees. As late as April
2013, Mr. Fahey described the payments to Mr. Jones as fees that covered “fund distribution
expenses.” See Resp. Ex. 92 at 1-2. Fidelity also characterized them as 12b-1 fees to Triad and
Triad did the same to the Robare Group. Tr. 619; Resp. Ex. 29. Triad reported the fees as 12b-1
fees on Robare Group’s commission statement. Resp. Ex. 29 at 3; Resp. Ex. 30 at 3; Resp. Ex.
31 at 2. It is thus not surprising that the Robare Group thought the payments were 12b-1 fees, or
commissions.23
Moreover, the Commission’s own guidance to investors, on which Respondents rely,
supports the parties’ treatment of the payments as 12b-1 fees. The Commission’s guidance says
that 12b-1 fees fall into two categories. One of the two categories concerns “shareholder service
fees.” See Mutual Fund Fees and Expenses, http://www.sec.gov/answers/mffees.htm#distributio
n (last accessed May 28, 2015); Resp. Ex. 123. A fund may pay shareholder service fees without
adopting a 12b-1 plan. Id. As Ms. Lefkowitz confirmed, this type of 12b-1 fee can be paid to
investment advisers such as the Robare Group.24 Tr. 925. The Division does not directly dispute
22
The Division says that if the payments were commissions or 12b-1 fees, the current
Program Agreement is illegal and thus unenforceable. Div. Br. at 12. Presumably, this assertion
is based on 17 C.F.R. § 270.12b-1(h)(1)(ii), which prohibits payment of a 12b-1 fee as a
commission for effecting a transaction through a broker. According to the Division, because no
one thinks the current agreement is unenforceable, the payments must not be commissions or
12b-1 fees. I do not intend, however, to decide this matter based on whether Fidelity, Triad, or
the Robare Group thinks the Program Agreement is unenforceable.
23
Mr. Robare and Mr. Strauss both said 12b-1 fees were types of commissions. Tr. 376,
381, 614. The Division does not dispute this. Nor could it. See Definition of Terms in and
Specific Exemptions for Banks, Savings Associations, and Savings Banks Under Sections
3(a)(4) and 3(a)(5) of the Securities Exchange Act of 1934, 66 Fed. Reg. 27,760, 27,775 (May
18, 2001) (“We view Rule 12b-1 fees as commissions, and in fact, these fees are often described
as trail commissions.”).
24
The other category concerns “distribution fees,” which “include fees paid for marketing
and selling fund shares, such as compensating brokers and others who sell fund shares, and
paying for advertising, the printing and mailing of prospectuses to new investors, and the
printing and mailing of sales literature.”
See http://www.sec.gov/answers/mffees.htm
#distribution; Resp. Ex. 123. This type of 12b-1 fees can only be paid “if the fund has adopted a
. . . 12b-1 plan.” Id.
34
this testimony. The Robare Group thus reasonably believed that Program payments were 12b-1
fees, which it thought amounted to commissions.
The Division argues in its Statement of Facts that the fact that Triad was omitted from the
second Program Agreement shows that payments under the Program could not have been
commissions or 12b-1 fees because such payments cannot be paid directly by Fidelity to an
adviser such as the Robare Group. Div. Br. at 12-13. It says there are only two options: either
the Program agreement is illegal or the payments never were commissions and thus were not
disclosed. Id. at 12-13.
But the Division’s argument places far too much weight on Fidelity’s unilateral decision
to change the Program Agreement, as if Fidelity’s determination of the nature of the fees is
controlling. It is apparent that what happened was that (1) in 2004, Fidelity and Triad thought
the payments were 12b-1 fees, which Triad and TRG both considered to be commissions, and
thus had to be routed through Triad; and (2) Fidelity and Triad later both decided the payments
were actually shareholder servicing fees that can be paid directly to the Robare Group. In other
words, nothing untoward occurred. As the record shows, Fidelity presented the Robare Group
with a take-it-or-leave contract that interposed Triad between Fidelity and the Robare Group.
The Robare Group determined the payments originated as 12b-1 fees, because Mr. Robare read
mutual fund prospectuses and Triad designated the payments as 12b-1 fees. Triad, which
supervised the Robare Group’s compliance, told the Robare Group this arrangement was
acceptable.
In 2012, Fidelity told the Robare Group that there was no need to interpose Triad. And
when Robare Group asked Triad—again, the firm that supervised the Robare Group on
compliance issues—Triad blessed its own omission from the second contract. Tr. 703-04.
Notably, the Robare Group also sent the new agreement to Renaissance. Tr. 703-04. Having
operated for nine years under a regime in which Program payments were designated as 12b-1
fees, which the Robare Group and Triad considered to be commissions, it is not surprising that
Mr. Robare and Mr. Jones were left scratching their heads when asked how to characterize
payments under the second Program Agreement. See Tr. 429-36, 757-63.
This of course begs the question of why Fidelity first decided to interpose Triad and later
decided Triad no longer needed to be involved. That question was not answered during the
proceedings. In determining whether the Robare Group violated the Advisers Act, however, I do
not place any weight on Fidelity’s decisions.
2.3
Program payments are material
As noted, the parties agree that payments under the Program gave rise to a potential
conflict of interest. They disagree whether the conflict was material. According to the Division,
all conflicts of interest are material and must be disclosed. Respondents say that they need not
disclose conflicts that amount to less than ten percent of their business income.25 Resp. Br. at 24.
25
Respondents glean this figure from guidance concerning disclosure by advisers of outside
business activity. Resp. Br. at 23-24. The guidance creates a presumption that outside business
35
The Division has the better of this argument. First, “full disclosure” by investment
advisers is the goal behind the Advisers Act. Montford & Co., 2014 SEC LEXIS 1529, at
*51-52 (emphasis added). Second, investment advisers are fiduciaries of their clients. See
Transamerica Mortg. Advisors, 444 U.S. at 17. Third, “because of the fiduciary relationship
between an adviser and its client, the percentage or absolute amount of commissions involved” is
not determinative of whether a conflict should be disclosed. Kingsley, Jennison, McNulty &
Morse, Inc., Advisers Act Release No. 1396, 1993 SEC LEXIS 3551, at *14 (Dec. 23, 1993).
The rub in this case, of course, is that neither Mr. Robare nor Mr. Jones actually knew
which funds would pay fees under the Program. This situation is perhaps unique. While this
fact is certainly mitigating in terms of the question of harm, it does not change the fact that it is
investment adviser clients who are entitled to know of potential conflicts of interest. Finding that
this unique circumstance changes the analysis would provide a perverse disincentive for advisers
to fully investigate potential conflicts. I therefore find that payments under the Program are
material.
2.4
Assuming certain of the Robare Group’s disclosures were inadequate, the Division failed
to show that the Robare Group or Mr. Robare acted with scienter
2.4.1
Time period of inadequate disclosures
The current Form ADV instructs advisers that “[a]s . . . fiduciary[ies], [they] must seek to
avoid conflicts of interest with [their] clients, and, at a minimum, make full disclosure of all
material conflicts of interest between you and your clients that could affect the advisory
relationship.” See Div. Ex. 90 at 81. It also provides that an adviser may satisfy this disclosure
obligation in its firm’s brochure “or by some other means.” Id. at 82.
As noted above, the Division tacitly concedes that Fidelity’s brokerage agreement from
2005 onwards adequately disclosed the potential conflict created by the Program. In language
presented in a separate box in Fidelity’s 2005 Brokerage agreement, Fidelity said, in relevant
part, that:
activity that “represent[s] less than 10 percent of the [adviser’s] time and income” is “not
substantial” and need not be reported in item 4 of Form ADV. See Amendments to Form ADV,
2010 SEC LEXIS 2679.
A conflict that arises from outside business activity concerns the adviser’s willingness
and ability to devote his energies to his primary business of providing investment advice.
Inasmuch as an adviser with more than one client can never devote 100% of his time and energy
to one client’s needs, some sort of distraction-type conflict is something a client might expect
will always occur. Imposing a 10% threshold for an outside, distraction-type conflict of this
nature is thus understandable. A distraction-type conflict, however, is different in kind from the
sort of conflict at issue in this case, that might cause an adviser to recommend an investment not
because it would benefit the client but because it would benefit the adviser.
36
We may also make direct payments to your advisor. . . . We
. . . may pay your advisor for performing certain back-office,
administrative, custodial support and clerical services for [Fidelity]
in connection with client accounts for which [Fidelity] act[s] as
custodian. These payments may create an incentive for your
advisor to favor certain types of investments over others.
These and other services we furnish will provide benefits to your
advisor and may be made available to your advisor, at no fee or a
discounted fee, and the terms may vary among advisors depending
upon the business they and their clients conduct with us and the
other factors. Fidelity’s provision of these services and other
benefits to your advisor may be based on clients of your advisor
placing a certain amount of assets in accounts with us within a
certain period of time. Your advisor may be influenced by this in
recommending or requiring that its clients establish accounts with
us. These products and services may not necessarily benefit your
account.
Resp. Ex. 76 at 1. According to Ms. Morganti Zizza, this language was included in the
brokerage agreement to disclose potential conflicts for Fidelity created by the Program. Tr.
44-45. She agreed that Fidelity’s Brokerage agreement “ also disclose[d] the conflicts that [the
Program] create[d] for” the Robare Group. Tr. 85; see Tr. 86-87.
In response to Mr. Robare’s testimony that he presented Fidelity’s brokerage agreement
to clients and reviewed it with them and his testimony that this language disclosed the potential
conflict to Robare Group clients, see Tr. 357-60, the Division argues that (1) the disclosure was
not given to the approximately 150 clients who had accounts before 2005; (2) Fidelity cannot
discharge the Robare Group’s responsibility; and (3) the Robare Group could have included the
Fidelity language in its own Form ADV. Div. Br. at 25-26. Notably, however, the Division does
not dispute that Fidelity’s brokerage agreement adequately disclosed the conflict created by the
Program. Given that instructions for the Form ADV itself provide that advisers may disclose
conflicts “by some other means,” Div. Ex. 90 at 82, the Division’s omission is telling.26 Absent
a contrary argument, I find that the Fidelity brokerage agreement from 2005 onwards adequately
disclosed the potential conflict created by the Program.
As to the group of approximately 150 families who never saw the newer Fidelity
brokerage agreement, the heart of the Division’s argument is that Program payments were not
26
The Division’s points are all correct. Approximately 150 clients did not receive the
Fidelity disclosure, the Robare Group’s disclosure responsibilities are its to discharge, and the
Robare Group could have added more language to its Forms ADV. But this does not amount to
an argument that giving the Fidelity brokerage agreement to clients and discussing it with them
was insufficient to disclose the potential conflict the Program created.
37
commissions. Inasmuch as they were not commissions, the Division says Robare Group failed to
disclose them. Div. Br. at 12, 31-33.
To tighten the focus even more, the Robare Group’s disclosure starting in December
2011 was plainly adequate. By December 2011, the Robare Group disclosed in its Form ADV
that:
Additionally, we may receive additional compensation in the form
of custodial support services from Fidelity based on revenue from
the sale of funds through Fidelity. Fidelity has agreed to pay us a
fee on specified assets, namely no transaction fee mutual fund
assets in custody with Fidelity. This additional compensation does
not represent additional fees from your accounts to us.
Div. Ex. 25 at 27. This language concisely encapsulates the Program. Although the Division
suggests the use of the word “may” is misleading, I disagree. The Program Agreement informed
the Robare Group that the underlying mutual funds could change or suspend payments at any
time. Tr. 83; see Tr. 186; Resp. Ex. 1 at 2. It also provided that Fidelity, Robare Group, or Triad
could cancel their participation in the Program, after an initial twenty-four month window, at any
time on thirty days’ notice. Resp. Ex. 1 at 2. Use of the word “may” thus accounts for the
possible cessation of payments. Cf. Tr. 355.
The Division also says the relevant December 2011 disclosure begins with the false
statement that the Robare Group did “not receive any economic benefit from a non-client for
providing investment advice or other advisory services.” Div. Br. at 21. This statement has to
be read in context, however. See Div. Ex. 25 at 27. It is followed by language detailing
economic benefits the Robare Group receives. It is therefore apparent that the statement is meant
convey that no one other than clients pays the Robare Group to give advice.
The Division’s case thus concerns the Robare Group’s disclosures until December 2011
to its first approximately 150 clients.
2.4.2
The Division fails to establish scienter
Cutting to the chase, even assuming the Division is correct that the Robare Group failed
adequately to disclose the Program until December 2011, the Division cannot prevail on its claim
under Section 206(1) because it cannot show scienter. Scienter refers to “a mental state
embracing intent to deceive, manipulate, or defraud.” Matrixx Initiatives, Inc. v. Siracusano, 131
S. Ct. 1309, 1323 (2011) (quoting Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308,
319 (2007)).
Here, the Division’s evidence of scienter consists of nothing more than assertions that
Mr. Robare was knowledgeable about the Program and possessed ultimate authority over TRG’s
Form ADV filings. Div. Br. at 33-34. These facts are not enough to meet the Division’s burden
to show scienter. Instead, the evidence developed at the hearing demonstrates that the Robare
38
Group and its principals did not act, at any time, with scienter or any intent to deceive,
manipulate, or defraud.
First, in listening to Mr. Robare and Mr. Jones testify and observing their demeanor
under cross-examination, it is difficult to imagine them trying to defraud anyone, let alone their
investment clients. They came across as honest and committed to meeting their disclosure
requirements. Indeed, their belt-and-suspenders approach to compliance, through which they
relied on multiple firms, including Triad and Renaissance, to ensure the Robare Group was
compliant with its disclosure obligations belies any argument that Mr. Robare or Mr. Jones acted
with intent to deceive, manipulate, or defraud anyone.27
Second, Mr. Robare and Mr. Jones credibly testified that they did not know which funds
paid fees under the Program. They also denied ever making an investment based on the
information they lacked. The fact the percentage of client assets in non-paying funds always
exceeded the percentage of available non-paying funds supports this testimony. And Mr.
Robare’s and Mr. Jones’s testimony inferentially supports the determination that they did not act
with the requisite ill intent.28
Third, even assuming that the Division had carried its threshold burden, which it has not,
I find that Respondents relied in good faith on the advice of its compliance firms, including Triad
and Renaissance. Respondents’ reliance on the advice of compliance counsel “demonstrat[es]
good faith and represents possible evidence of an absence of any intent to defraud.” United
States v. Peterson, 101 F.3d 375, 381 (5th Cir. 1996); see also Howard v. SEC, 376 F.3d 1136,
1147 (D.C. Cir. 2004) (reliance on the advice of counsel is “evidence of good faith . . . relevant
. . . in evaluating a defendant’s scienter”).
The Division contends that in order to negate evidence of scienter by showing they relied
on compliance professionals, the Robare Group must show that its principals “made a complete
disclosure to” the [compliance] professional, “sought advice as to the legality of” the Robare
27
In the Statement of Facts section of its brief, the Division makes much of the fact that,
when Mr. Fahey told Mr. Jones that the Robare Group needed to change its Form ADV, Mr.
Jones did not respond by saying that TRG was already disclosing its participation in the
Program. Div. Br. at 9. Implicitly, the Division suggests that this shows that Mr. Jones knew
TRG had not adequately disclosed its participation in the Program. But Mr. Jones believed
Fidelity was asking for additional disclosure and said he was happy to comply with whatever
request Fidelity made. Tr. 701. And as a relatively smaller market participant, and one of 2,700
advisers using Fidelity’s platform, it is plain that Mr. Jones judged it easier to get along by going
along, rather than fight about an issue.
28
In late October 2012, Kathy White from the Robare Group e-mailed Mr. Fahey to ask
“what funds and types of funds” paid fees under the Program. Resp. Ex. 88; Tr. 180. According
to Mr. Fahey, Mr. Jones or Mr. Robare had asked a number of times about the funds that paid
fees. Tr. 180-81. Based on that fact, Mr. Fahey surmised that the Robare Group’s principals did
not know what funds paid fees. Tr. 180-81.
39
Group’s conduct, “received advice that [its] conduct was legal, and then relied on that advice in
good faith.” Div. Br. at 35 (citing SEC v. Savoy Indus., 665 F.2d 1310, 1314 n.28 (D.C. Cir.
1981)). But the Division has not shown that Respondents operated with scienter in the first
place, so there is nothing for Respondents to negate.
In any event, Respondents have established that they relied in good faith on compliance
professionals. The Robare Group employed Renaissance to assist it with its disclosures. I have
already determined that Renaissance was aware of the Program. See supra, § 1.8.1. Indeed,
while it is true that the specific discussion could not be recalled seven to eight years after the
fact, Mr. Robare testified that he told Renaissance about the Program, Tr. 510, and Mr.
McDonald affirmed that it would have been a topic of discussion, Tr. 555. Mr. McDonald also
opined based on this experience, that Mr. Robare and Mr. Jones were “very forthcoming,”
“involved[,] . . . proactive[,] and interested in trying to get it right.” Tr. 557-58.
Triad also reviewed the Robare Group’s disclosures and was also aware of the Program.
See supra, § 1.8.2. In fact, Mr. Robare operated under the supervision of Triad’s compliance
department. Resp. Ex. 17 at 6. And, Triad “review[ed] and approve[d]” TRG’s Form ADV. Tr.
630. Additionally, Mr. Strauss agreed that Triad “oversaw all aspects of [TRG’s] compliance,
including a review of the adequacy of [TRG’s] disclosures.” Tr. 631. Triad told the Robare
Group that its disclosures were adequate and in compliance with then-current requirements.29
Tr. 637-40.
And the advice the Robare Group received is readily apparent on the face of the Forms
ADV it issued.
As to whether the Robare Group relied in good faith on the advice it received, its bears
noting that the Robare Group is ultimately responsible for its disclosures. If a compliance
professional advised the Robare Group to do something its principals knew to be unreasonable,
neither the Robare Group nor its principals could escape liability by pointing a finger at the
compliance professional. So long as the advice given is facially valid, however, and based on
the Robare Group’s full and honest disclosure, the Robare Group could rely on that advice in
good faith. Cf. Robert W. Armstrong, III, Exchange Act Release No. 51920, 2005 SEC LEXIS
1497, at *37 (June 24, 2005) (“When a respondent knows financial statements are false and
29
In a footnote, the Division says the Robare Group could not have validly relied on Triad’s
advice. It posits that although Triad was a party to the Program Agreement, there was no
evidence that its auditors were aware of the Program Agreement. Div. Brief at 36 n.36. But the
issue here is Mr. Robare’s state of mind. And the Division offers no reason for Mr. Robare to
have doubted that Triad, as a party to the very agreement at issue, was unaware of it. Surely, the
fact that Triad’s commission statement to the Robare Group contained a line item disclosing
Program payments, would have been sufficient to alert Triad’s auditor, even if that auditor was
unaware of the Program or its payments. Indeed, Mr. Strauss said, among other things, that an
audit would “involve looking at things such as maybe corporate bank statements as . . . minute as
that might sound.” Tr. 607. There can be little doubt that Triad would review sources of
income.
40
misleading, he cannot ‘rely’ in good faith on an auditor’s willingness to issue an unqualified
audit opinion with respect to those statements.”).
Here, during the relevant time frame, Triad and Fidelity both identified the payments as
12b-1 fees. Mr. Robare, seconded by Mr. Strauss, said 12b-1 fees amounted to commissions.
The payments were designated as such on the Robare Group’s commission statement. Viewed in
this context, the Robare Group could validly rely on advice that they disclosed the payments as
“selling compensation” or commissions received from Triad, which is the entity from which they
were received. The Robare Group, therefore, could and did validly rely on the advice of Triad
and Renaissance.
The Division’s arguments that Respondents have not shown all the elements of a reliance
on counsel defense are unconvincing, and, considering the Division’s inability to meet its burden
in establishing Respondents’ scienter, ultimately irrelevant. For example, although Mr. Strauss
and Mr. Jones testified that Triad annually audited the Robare Group, annually reviewed its
Form ADV, and annually blessed its disclosures, the Division says these facts are irrelevant
because the Robare Group presented no evidence that it “was specifically looking to [its
compliance consultants] for advice on whether the particular disclosure” at issue was “accurate.”
Div. Br. at 36. But Mr. Strauss testified that Triad “review[ed] and approve[d]” the Robare
Group’s Form ADV, Tr. 630, and said that as of each time it reviewed the Robare Group’s Form
ADV, Triad represented to the Robare Group that its disclosures were adequate and in
compliance with then-current requirements, Tr. 637-40. On these facts, neither Mr. Jones nor
Mr. Robare were required to reject Triad’s assessment and ask whether it really meant what it
said as to each specific aspect of the Robare Group’s Form ADV.
Changing tacks, the Division argues for the first time in its reply brief that Respondents
could not rely on Triad in good faith because Triad was not disinterested and independent. In
this regard, in their prehearing brief, Respondents argued that their lack of scienter is partly
evidenced by their reliance on Triad. Resp. Prehearing Br. at 17. Their counsel referenced
Respondents’ reliance on Triad during his opening argument. Tr. 22. Mr. Jones testified that the
Robare Group believed Triad “could provide [the Robare Group with] independent advice about
how or whether to disclose” the Program. Tr. 771-72. The Division was thus on notice that
Respondents’ reliance on Triad was at issue. Because the Division failed to raise this argument
earlier, when Respondents might have had an opportunity to respond to it, I find that the Division
has waived any argument that Triad was not independent or that its alleged lack of independence
means that Respondents could not have relied on Triad in good faith. See Knighten v. Comm’r,
702 F.2d 59, 60 n.1 (5th Cir. 1983) (“It is impermissible to mention an issue for the first time in a
reply brief, because the appellee then has no opportunity to respond.”); cf. Anthony Fields,
Securities Act Release No. 9727, 2015 SEC LEXIS 662, at *79 & n.115 (Feb. 20, 2015) (holding
that arguments supporting reversal are waived if first raised in a reply brief).
2.4.3
The Division fails to establish that Respondents were reckless
The Division says that “[a]t the very least, the Respondents’ conduct was severely
reckless” because they “fail[ed] to fully and accurately disclose . . . the” Program Agreement,
payments under the Program, and the potential conflict the payments created. Div. Br. at 36. In
41
this regard, “‘[s]cienter includes recklessness,’” which is “‘an extreme departure from the
standards of ordinary care . . . to the extent that the danger was either known to the [respondent]
or so obvious that the [respondent] must have been aware of it.’” Anthony Fields, 2015 SEC
LEXIS 662, at *44 (citations omitted); see Abrams v. Baker Hughes Inc., 292 F.3d 424, 430 (5th
Cir. 2002). Although this definition “might not be the conceptual equivalent of intent as a matter
of general philosophy,” as a practical legal matter, it amounts to the same thing. Sundstrand
Corp. v. Sun Chem. Corp., 553 F.2d 1033, 1045 (7th Cir. 1977). This is the case because this
definition “measures conduct against an external standard which, under the circumstances of a
given case, results in the conclusion that the reckless man should bear the risk of his omission.”
Id.
In a typical case, what constitutes ordinary care will be apparent without the presentation
of evidence on the matter. Hiding one’s head in the sand and ignoring red flags could amount to
recklessness even without evidence of the relevant standard of care. See Novak v. Kasaks, 216
F.3d 300, 308 (2d Cir. 2000). Similarly, an assertion made “with utter disregard for whether
there was a basis for the assertion[]” can amount to recklessness. Rolf v. Blyth, Eastman Dillon
& Co., 570 F.2d 38, 47-48 (2d Cir. 1978).
The relevant standard of ordinary care is not self-evident in this case, however. And the
only evidence presented that arguably relates to the relevant standard of care came from Ms.
Lefkowitz and Mr. Strauss. They testified without contradiction that, with respect to Form ADV
disclosures, advisers operate in a difficult environment that presents challenges for even
experienced compliance professionals. Lefkowitz Report at 4; Tr. 637-39. The Commission has
recognized with approval the use of compliance experts to assist firms in meeting their disclosure
obligations. See Compliance Programs of Investment Companies and Investment Advisers, 68
Fed. Reg. 74,714, 74,724-25 & nn.105, 107, 74728 n.130 (Dec. 24, 2003). Ms. Lefkowitz
testified that the Commission has expressly recognized that small and medium-sized firms will
rely on compliance professionals. Tr. 928. And, according to Mr. Fahey, it “is very common”
for an “adviser to employ a third party independent securities compliance consultant.” Tr. 165.
Absent evidence from the Division on this matter, I find that the relevant standard of care entails
employing a compliance professional and following his or her advice. Cf. Piper Capital Mgmt.,
Inc., 2003 SEC LEXIS 2047, at *26-27 (“[C]ompliance with industry standards is” a
non-dispositive factor to consider in determining whether a Respondent was negligent). The
Robare Group relied on several compliance professionals and followed the advice it received.
To say that it departed in an extreme fashion from the standards of ordinary care is to unhinge
the word extreme from its ordinary definition. See SEC v. Shanahan, 646 F.3d 536, 544 (8th Cir.
2011) (“Depending on others to ensure the accuracy of disclosures . . . even if inexcusably
negligent—is not severely reckless conduct”). The Division thus failed to show that Mr. Robare
or the Robare Group acted with scienter. As a result, the Division has not demonstrated liability
under Section 206(1).
2.5
The Division failed to show a negligent violation of Section 206(2)
The Division says the Robare Group and Mr. Robare are liable for negligent violations of
Section 206(2). In this context, negligence is the failure to exercise reasonable care, Gregory M.
Dearlove, Exchange Act Release No. 57244, 2008 SEC LEXIS 223, at *114 (Jan. 31, 2008),
42
“meaning that [Respondents] failed to use the degree of care and skill that a reasonable person of
ordinary prudence and intelligence would be expected to exercise in the situation,” True N. Fin.
Corp., 909 F. Supp. 2d at 1122. As this test suggests, in order to show negligence, the Division
must present some evidence of the applicable standard of reasonable care. See Shanahan, 646
F.3d at 546; see also SEC v. Ginder, 752 F.3d 569, 576 (2d Cir. 2014).
As noted, supra § 2.4.3, in many cases, it is readily apparent that a person failed to act
with reasonable care given the situation; no additional evidence is needed beyond that which
reveals what occurred. In this case, however, where the Robare Group relied on multiple firms
to guide its compliance efforts, some evidence as to the applicable standard of care is necessary.
In this regard, I am guided by the decision in Shanahan. See 646 F.3d 536. The issue in
Shanahan concerned the propriety of a company’s disclosures of certain back-dated options. Id.
at 539-40, 544. Shanahan “had no personal expertise in” such matters, “he relied on the
[company’s] finance and accounting departments, outside and general counsel, and the
company’s independent auditors” to “appropriate[ly] and accurate[ly] disclos[e]” the back-dated
options. Id. at 544. None of these professionals alerted Shanahan to any problem. Id. at 546.
At trial, the Commission presented “no evidence, through expert or lay testimony, documentary
evidence or otherwise with respect to the degree of care that an ordinarily careful person would
use under the same or similar circumstances.” Id. at 545. The Eighth Circuit held that absent
evidence not presented that Shanahan “violated an applicable standard of reasonable care,” the
Commission could not prevail. Id. at 546.
The same result prevails here. Neither Mr. Robare nor Mr. Jones have expertise with
respect to properly disclosing the information required by Form ADV. See Tr. 682-83. And, the
Division did not dispute that compliance experts have difficulty with this issue. See Lefkowitz
Report at 4; Tr. 637-39. Mr. Robare and Mr. Jones thus relied on experts, as did Shanahan. As
with Shanahan, no one told the Robare Group there was a problem. In this circumstance, as in
Shanahan, the Division’s failure to present evidence that Respondents “violated an applicable
standard of reasonable care [is] fatal to its case.” Shanahan, 646 F.3d at 546; see also Ginder,
752 F.3d at 576 (relying on Shanahan).
2.6
Mr. Jones did not aid and abet and cause violations of subsections (1) and (2) of Section
206.
In order to find that Mr. Jones aided and abetted and caused violations of subsections (1)
and (2) of Section 206, the Division was required to show, inter alia, a primary violation. Clark
T. Blizzard, 2004 WL 1416184, at *5 n.10. I have determined that no primary violation
occurred. As such, Mr. Jones is not liable for aiding, abetting, and causing violations of
subsections (1) and (2) of Section 206.
2.7.
No Respondent willfully violated Section 207
In order to show a violation of Section 207, the Division must show that Respondents
“willfully . . . ma[d]e any untrue statement of a material fact in any” Form ADV “filed with the
Commission . . . or willfully . . . omit[ted] to state in any such” Form ADV “any material fact
43
which is required to be stated therein.” 15 U.S.C. § 80b-7; 17 C.F.R. § 275.204-1(a), (e). The
meaning of the term “willfully” depends on the context in which it is used. Safeco Ins. Co. of
Am. v. Burr, 551 U.S. 47, 57 (2007). In the securities context, willfulness means that the
respondent intentionally committed the act or omission that constituted the violation. Wonsover
v. SEC, 205 F.3d 408, 414 (D.C. Cir. 2000); see SEC v. K.W. Brown & Co., 555 F. Supp. 2d
1275, 1309 (S.D. Fla. 2007) (applying this definition of willfulness to Section 207); SEC. v.
Moran, 922 F. Supp. 867, 900 (S.D.N.Y. 1996) (same). Given Respondents’ diligence and the
Division’s failure to show that they failed to act with reasonable care, it cannot be said that they
willfully made an untrue statement of material fact or willfully omitted material facts in any
Form ADV. The Section 207 charge therefore cannot be sustained.30
Order
Based on the findings and conclusions set forth above, I ORDER that this administrative
proceeding is DISMISSED.
This Initial Decision shall become effective in accordance with and subject to the
provisions of Rule 360 of the Commission’s Rules of Practice, 17 C.F.R. § 201.360. Pursuant to
that Rule, a party may file a petition for review of this Initial Decision within twenty-one days
after service of the Initial Decision. A party may also file a motion to correct a manifest error of
fact within ten days of the Initial Decision, pursuant to Rule 111 of the Commission's Rules of
Practice, 17 C.F.R. § 201.111. If a motion to correct a manifest error of fact is filed by a party,
then a party shall have twenty-one days to file a petition for review from the date of the
undersigned’s order resolving such motion to correct manifest error of fact. The Initial Decision
will not become final until the Commission enters an order of finality. The Commission will
enter an order of finality unless a party files a petition for review or motion to correct manifest
error of fact or the Commission determines on its own initiative to review the Initial Decision as
to a party. If any of these events occur, the Initial Decision shall not become final as to that
party.
_________________________________
James E. Grimes
Administrative Law Judge
30
Even if I were to find that Respondents violated Section 207, I would conclude that no
sanctions were appropriate. The public interest factors set forth in Steadman v. SEC, 603 F.2d
1126, 1140 (5th Cir. 1979), aff’d on other grounds, 450 U.S. 91 (1981), weigh in Respondents’
favor and do not support the sanctions sought by the Division. Respondents did not act with
scienter and their conduct was not egregious. Indeed they relied on compliance professionals in
attempting to craft appropriate disclosures. Finally, the Division presented no evidence of any
losses to Respondents’ clients.
44
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
INVESTMENT ADVISERS ACT OF 1940
Rel. No. 4566 / November 7, 2016
Admin. Proc. File No. 3-16047
In the Matter of
THE ROBARE GROUP, LTD., MARK L.
ROBARE, and JACK L. JONES, JR.
OPINION OF THE COMMISSION
INVESTMENT ADVISER PROCEEDING
CEASE-AND-DESIST PROCEEDING
Grounds for Remedial Action
Failure to Disclose Material Conflict of Interest
Misrepresentations on Forms ADV
Registered investment adviser and its principal, owner, and chief compliance officer
failed to disclose material conflict of interest to the adviser’s clients, and a principal,
owner, and associated person of the adviser caused these violations. Respondents also
made material misrepresentations or omissions on Forms ADV. Held, it is in the public
interest to impose a cease-and-desist order on respondents and order civil money
penalties.
APPEARANCES:
Alan M. Wolper and Heidi VonderHeide, of Ulmer & Berne LLP, for Respondents.
Janie L. Frank, for the Division of Enforcement.
Appeal filed: June 26, 2015
Last brief received: October 26, 2015
2
The Division of Enforcement appeals the initial decision of an administrative law judge
dismissing this proceeding against the Robare Group, Ltd. (“TRG” or “the Firm”), a registered
investment adviser, and two of its principals, Mark Robare and Jack Jones (collectively,
Respondents). The Division alleged that Respondents failed to adequately disclose to their
clients conflicts of interest inherent in an arrangement whereby the Firm received compensation
from Fidelity Investments (“Fidelity”), the custodian of its clients’ accounts, for maintaining
client assets in certain investments. Although TRG was required to disclose this arrangement, its
Form ADV—the registration and disclosure form investment advisers file with the
Commission—failed for many years to mention the arrangement and, even after identifying the
arrangement, failed to disclose the relevant conflicts of interest. The law judge dismissed the
proceeding principally on the ground that the Division failed to prove that Respondents acted
with scienter or negligence. Although we agree with the law judge that the record does not
support a finding of scienter, we find that Respondents were negligent by failing to fully and
fairly disclose conflicts of interest to their clients.
Based upon our independent review of the record, we find that TRG and Robare violated
Section 206(2) of the Investment Advisers Act of 1940 and that Jones caused the violations of
Section 206(2). We also find that Respondents violated Section 207 of the Advisers Act by
filing Forms ADV with material misrepresentations or omissions. Given these violations, we
find that it is in the public interest to impose a cease-and-desist order on Respondents and to
order each of them to pay a $50,000 civil money penalty.
I.
Facts
Robare is the president and CEO of Robare Asset Management, TRG’s general partner.
He is a limited partner and 83% owner of TRG and its chief compliance officer. Jones, Robare’s
son-in-law, is a TRG limited partner and part owner and a financial adviser and planner for the
Firm. TRG became an independent investment adviser in 20031 and decided to “align” itself
with Fidelity as the custodian for its clients’ accounts and with Triad Advisers (“Triad”) as its
broker-dealer. Robare and Jones are both registered representatives of Triad.
A.
TRG entered into a revenue sharing arrangement with Fidelity in 2004.
TRG offers its clients a number of model portfolios depending on the client’s investment
goals. These portfolios consist almost entirely of non-transaction fee mutual funds offered on
Fidelity’s on-line platform. In early 2004, TRG entered into a “revenue sharing arrangement”
with Fidelity (the “Arrangement”), pursuant to which Fidelity paid TRG “shareholder servicing
fees” when its clients, using the on-line platform, invested in certain “eligible” non-Fidelity, nontransaction fee funds. Fidelity would pay between two and twelve basis points, in an increasing
formula, based on the value of eligible assets under management. The fees were paid to the Firm
through Triad, which itself received 10 percent of the payments. As explicitly stated in its
1
As of the hearing before the law judge, TRG had approximately $150 million in assets
under management and managed approximately 350 separate accounts for about 300 households,
which is about twice the number of clients the Firm had in the early 2000s.
3
agreement with Fidelity, TRG acknowledged that it was “responsible for reviewing and
determining whether additional disclosure is necessary in [its] Form ADV.”
In October 2012, Fidelity presented to TRG a new version of the revenue sharing
agreement. The new agreement provided that Fidelity would pay the fees directly to TRG.
Although Jones testified that TRG was hesitant to sign the new agreement because the Firm did
not want to “cut [Triad] out of the revenue,” the Firm signed on May 23, 2013.2 The new
agreement specified that TRG would provide “back-office, administrative, custodial support and
clerical services” for Fidelity in exchange for the fees. As with the earlier agreement, TRG
agreed that it had “made and will continue to make all appropriate disclosures to Clients . . . with
regard to any conflicts of interest that may arise from” the Arrangement.
Between September 2005 and September 2013, TRG was paid approximately $400,000
under the Arrangement, which was approximately 2.5% of the Firm’s gross revenue.
B.
TRG’s Forms ADV did not adequately disclose the Arrangement until at least April
2014.
TRG did not modify the disclosure it provided clients in its Form ADV3 until August
2005, more than a year after executing the agreement with Fidelity, despite the form’s express
requirement in Part II, Item 13, that the adviser “describe the arrangements” whereby the firm or
related persons were given “cash . . . or . . . some economic benefit . . . from a non-client in
connection with giving advice to clients.” Instead, the Firm’s March 2005 Form ADV left
unaltered its previous disclosure that its representatives “may sell securities . . . for sales
commissions.” When TRG finally expanded its response to Item 13 in August 2005, it
nevertheless failed to describe the Arrangement accurately or completely. TRG stated that
“[c]ertain investment adviser representatives of the Robare Group, when acting as registered
representatives of a broker-dealer, may receive selling compensation from such broker-dealer as
a result of the facilitation of certain securities transactions on Client's behalf through such
2
Respondents were also apparently hesitant because, by this time, the Commission was
investigating TRG about its disclosures related to the Arrangement. Jones asked Fidelity if they
needed to sign the agreement given the pending investigation, but Fidelity informed Jones in
early May 2013 that payments under the program would be suspended until TRG signed the new
agreement and that Fidelity could not make an exception based on the pending Commission
investigation. TRG signed the new agreement shortly thereafter.
3
Form ADV is the form investment advisers use to register with the Commission. See 17
C.F.R. §§ 275.203-1(a), 279.1. “Part 2 of Form ADV contains disclosure requirements for [a]
firm’s ‘“brochure,” which advisers must provide to prospective clients initially and to existing
clients annually.’” Montford & Co., Advisers Act Release No. 3829, 2014 WL 1744130, at * 2
(May 2, 2014) (quoting Amendments to Form ADV, Advisers Act Release No. 3060, 2010 WL
2957506, at *3 n.5 (Aug. 12, 2010)), aff’d, 793 F.3d 76 (D.C. Cir. 2015). Registered investment
advisers are required to provide clients with “a brochure and one or more brochure supplements
. . . that contains all information required by Part 2 of Form ADV.” 17 C.F.R. § 275.204-3(a).
4
broker-dealer,” and that these “arrangements may create a conflict of interest.” But TRG did not
disclose the existence of the Arrangement or provide any details about the conflict it presented.
TRG’s disclosure for this item remained the same until the Commission changed Form
ADV in 2010. As part of the change, what was previously Item 13 became Item 14. Item 14
directed advisers to disclose if anyone “who is not a client provides an economic benefit to you
for providing investment advice or other advisory services to your clients.” The form directed
advisers to “generally describe the arrangement, explain the conflicts of interest, and describe
how you address the conflicts of interest.” TRG’s first Form ADV after the change, dated March
2011, was similar to its earlier disclosure except that it identified Triad as its broker-dealer. It
also added that selling compensation its investment adviser representatives received “[i]n
connection with the placement of client funds into investment companies . . . may take the form
of front-end sales charges, redemption fees and 12(b)-1 fees or a combination thereof.” Like the
earlier disclosure, the March 2011 disclosure did not reveal the existence of the Arrangement or
provide any details about the nature of the Arrangement or the conflict it presented.
In late 2011, Fidelity asked TRG to amend its Form ADV because it “did not find” the
disclosure of the Arrangement in the Firm’s Form ADV. Fidelity indicated that it would
discontinue payments if the change was not made, and TRG updated its Form ADV around
December 20, 2011. TRG added the following paragraph to its Form ADV:
Additionally, we may receive additional compensation in the form of custodial
support services from Fidelity based on revenue from the sale of funds through
Fidelity. Fidelity has agreed to pay us a fee o n specified assets, namely no
transaction fee mutual fund assets in custody with Fidelity. This additional
compensation does not represent additional fees from your account with us.
Thereafter and prior to the commencement of the hearing, TRG made a few additional
modifications to its disclosure in Item 14. For example, in June 2013 it added that the
Arrangement “may give rise to conflicts of interest, or perceived conflicts of interest, with the
Firm’s decision to utilize Fidelity as our Custodian.” It noted that “Robare’s commitment to its
clients and the policies and procedures it has adopted are designed to limit any interference with
Robare’s independent decision making when choosing the most appropriate custodian for our
clients.”
The Firm also added in April 2014 that “Fidelity Funds are excluded from this
[A]rrangement,” that the Arrangement “may give rise to conflicts of interest” because “Robare
would benefit more by recommending, or investing in, [non-transaction fee] funds for clients,”
and that “this benefit may influence Robare’s choice of Fidelity over custodian[s] that don’t
furnish similar benefits and [non-transaction fee] funds over funds not covered by this
[A]rrangement.”
5
C.
Respondents testified at the hearing that the Arrangement did not influence their
investment decisions, that their disclosures about the Arrangement were made after
seeking advice from outside consultants, and that they believed the Arrangement
was adequately disclosed.
At the hearing, Respondents conceded that the Arrangement created a potential conflict
of interest. But both Robare and Jones denied that Fidelity’s payments influenced their
investment decisions. The record does not indicate that clients were disproportionately invested
in eligible funds. Robare and Jones added that they did not know which particular funds were
“eligible” to receive fees under the Arrangement. Although they knew that Fidelity funds were
ineligible, they were uncertain about which non-Fidelity, non-transaction fee funds were part of
the program.4 The law judge found this testimony credible.
Respondents further testified that outside compliance consultants advised the Firm about
the disclosures throughout the relevant period. According to Jones, a firm called Capital Markets
Compliance (“CMC”) advised them in connection with the first Form ADV that TRG filed after
the Arrangement took effect. Jones, however, did not describe the substance of that advice or
provide other details regarding this consultation. And although Robare testified that he discussed
“all our agreements” with CMC, he could not recall providing the 2004 agreement with Fidelity
to CMC. Indeed, Robare was unable to recall the specifics of any of his conversations with
CMC about the Firm’s disclosure obligations resulting from the Arrangement.
Robare testified that the Firm also retained Renaissance Regulatory Services
(“Renaissance”) in 2007 and consulted them about the disclosures. But Robare again did not
provide any specifics about the advice the Firm received, and neither Robare nor Jones recalled
giving Renaissance a copy of the 2004 Fidelity agreement. There is also no evidence of any
written communication between TRG and Renaissance about the Arrangement prior to late 2011.
Bart McDonald, an executive vice president at Renaissance who worked with TRG, testified that
he typically “would have discussed compensation arrangements” like the one with Fidelity with
clients but that he had no specific recollection of doing so with TRG. McDonald also testified
that he did not recall ever seeing the 2004 Fidelity agreement before the Division showed it to
him in May 2014 and that the agreement was not in Renaissance’s files.
Respondents also believed Triad was responsible for supervising their disclosure
obligations. Triad’s chief compliance officer testified that Triad “review[ed] and approve[ed]”
TRG’s Forms ADV; Triad also audited TRG annually, and none of the audits raised any issue
regarding the Firm’s disclosure of the Arrangement. But in a January 2013 letter to the
4
At one point, TRG asked Fidelity which funds paid fees, after which Fidelity provided
what Robare testified was a “virtually unintelligible” spreadsheet. Based on this, Robare
concluded that it was “too difficult to determine” what funds were paying fees and did not pursue
the matter. Jones testified similarly that “it’s not worth our time” to determine which funds paid
fees. Although a Fidelity senior vice president testified that all non-Fidelity, non-transaction fee
funds on the Fidelity platform paid fees, Robare and Jones testified that they did not appreciate
this.
6
Commission, Triad represented that it was “unaware if the service fees [paid under the
Arrangement] were disclosed to the clients of the Robare Group.”
Respondents claimed they believed the fees they received under the Arrangement were
12b-1 fees5 and commissions, and therefore were adequately disclosed by TRG’s reference in its
Forms ADV to “sales commissions” and “selling compensation.” But Melissa Morganti Zizza, a
Fidelity senior vice president, testified that the fees paid by Fidelity to TRG were not 12b-1 fees,
“commissions,” or “selling compensation.” And although the 2013 agreement did not include
Triad and included new details about the services TRG performed for the fees, Zizza testified
that the program “stayed the same” from Fidelity’s perspective. Fidelity was paying TRG for the
same shareholder services it had always performed, but it was “being very explicit in this
contract” about the bases for the payments. 6
Robare also testified that he provided new clients a Fidelity custodial agreement that they
had to execute at the time they opened their accounts. The Fidelity custodial agreement stated
that Fidelity “may pay your advisor for performing certain back-office, administrative, custodial
support, and clerical services for [Fidelity] in connection with client accounts for which
[Fidelity] act[s] as custodian” and noted that “[t]hese payments may create an incentive for your
advisor to favor certain types of investments over others.” Robare did not testify and does not
now claim that he specifically told clients, either during the account opening process or
thereafter, about the Arrangement. It is also undisputed that these disclosures were not added to
the Fidelity custodial agreement until December 2005, after many of the Firm’s clients had
opened accounts. There is also no evidence that these existing account holders were ever
provided with the December 2005 Fidelity custodial agreement.
II.
Analysis
Advisers Act Section 206(1) makes it unlawful for any investment adviser “to employ
any device, scheme, or artifice to defraud any client or prospective client.”7 Section 206(2)
makes it unlawful “to engage in any transaction, practice, or course of business which operates
5
Authorized by Rule 12b-1 under the Investment Company Act of 1940, 12b-1 fees are
fees “paid by a mutual fund out of fund assets to cover distribution expenses and sometimes
shareholder service expenses.” See https://www.sec.gov/answers/12b-1fees.htm. See generally
Bearing of Distribution Expenses by Mutual Funds, Investment Company Act Release No.
11414, 1980 WL 386856 (Oct. 28, 1980), 45 Fed. Reg. 73898 (Nov. 7, 1980).
6
In any case, Robare and Jones testified that after TRG’s 2013 agreement with Fidelity—
which removed Triad—they became uncertain about the nature of the compensation. Robare
said that he still believed the payments were sourced from 12b-1 fees but admitted that he could
not definitively say after 2013 whether they were commissions. Jones also said that following
the 2013 agreement, he did not know now how to characterize the payments.
7
15 U.S.C. § 80b-6(1).
7
as a fraud or deceit upon any client or prospective client.”8 A violation of Section 206(1)
requires a finding of scienter; negligence is sufficient for a violation of Section 206(2).9
A “fundamental purpose of [the Advisers Act is] to substitute a philosophy of full
disclosure for the philosophy of caveat emptor and thus to achieve a high standard of business
ethics in the securities industry.”10 Accordingly, Section 206 imposes “federal fiduciary
standards” on investment advisers,11 which means they have “an affirmative duty of ‘utmost
good faith, and full and fair disclosure of all material facts.’”12 Because Section 206 was
designed “to eliminate, or at least expose, all conflicts of interest which might incline an
investment adviser—consciously or unconsciously—to render advice which was not
disinterested,”13 the “[f]ailure by an investment adviser to disclose potential conflicts of interest
to its clients constitutes fraud within the meaning of Sections 206(1) and (2).”14
Upon our de novo review of the record, we find that TRG and Robare, as investment
advisers with fiduciary obligations to their clients, failed adequately to disclose material conflicts
of interest. We further find that in so doing they acted negligently (but without scienter) and thus
violated Section 206(2) of the Advisers Act (but not Section 206(1)). We also find that Jones
caused the violations of Section 206(2) and is therefore liable under Section 203(k).15
A.
TRG and Robare violated Advisers Act Section 206 by failing to adequately disclose
material conflicts of interest to their clients.
1.
The Arrangement involved material conflicts of interest.
We conclude that the Arrangement was material and needed to be disclosed to TRG’s
clients. “[E]conomic conflicts of interest, such as undisclosed compensation, are material facts
8
15 U.S.C. § 80b-6(2).
9
David Henry Disraeli, Advisers Act Rel. No. 2686, 2007 WL 4481515, at *8 (Dec. 21,
2007) (citations omitted), petition denied, 334 F. App'x 334 (D.C. Cir. 2009).
10
SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 186 (1963).
11
Transamerica Mortg. Advisors, Inc. v. Lewis, 444 U.S. 11, 17 (1979) (internal quotation
marks and citation omitted).
12
Capital Gains, 375 U.S. at 194; see also Montford & Co., Inc., Advisers Act Release No.
3829, 2014 WL 1744130, at *13 (May 2, 2014) (“Section 206 prohibits ‘failures to disclose
material information, not just affirmative frauds.’” (quoting SEC v. Wash. Inv. Network, 475 F.3d
392, 395 (D.C. Cir. 2007))), petition denied, 793 F.3d 76 (2015).
13
Capital Gains, 375 U.S. at 191-92.
14
Fundamental Portfolio Advisors, Inc., Exchange Act Release No. 48177, 2003 WL
21658248, at *15 (July 15, 2003).
15
15 U.S.C. § 80b-3(k).
8
that must be disclosed” by investment advisers.16 “[P]otential conflicts of interest,” which are
“indisputabl[y] . . . ‘material’ facts with respect to clients,” must also be disclosed.17 Here,
reasonable investors would have considered the payments TRG received from Fidelity under the
Arrangement important information in evaluating the investment decisions being made on their
behalf. Respondents concede that these payments presented, at a minimum, a potential conflict
of interest because they could have “a tendency to slant” TRG’s advice to increase revenue.18
2.
TRG and Robare failed to adequately disclose the Arrangement to their
clients.
TRG and Robare did not adequately disclose the Arrangement to their clients. An
investment adviser must “disclose any potential conflicts of interest accurately and
completely.”19 This includes disclosing “any financial interest the adviser may have in the
transaction[s]” the adviser undertakes for its clients. 20 We find that TRG’s Form ADV
disclosure was plainly inadequate before December 2011 because it did not disclose the
Arrangement at all. And although TRG identified the Arrangement beginning with its December
2011 Form ADV, its Form ADV disclosure continued to be inadequate until at least April 2014.
16
IMS/CPAs & Assocs., Exchange Act Release No. 45019, 2001 WL 1359521, at *8 (Nov.
5, 2001) (recognizing that a “fact is material if there is a substantial likelihood that a reasonable
investor would consider it important in making an investment decision”), aff’d sub nom.,
Vernazza v. SEC, 327 F.3d 851 (9th Cir. 2003); accord Capital Gains Research Bureau, Inc.,
375 U.S. at 200-201.
17
Vernazza v. SEC, 327 F.3d 851, 859 (9th Cir. 2003).
18
Respondents do not challenge the law judge’s determination that the Arrangement was
material. Although they contended before the law judge that the payments were immaterial
because they represented a small percentage of their business income, we have held that
“because of the fiduciary relationship between an adviser and its client, the percentage or
absolute amount of commissions involved is not” determinative of materiality. Kingsley,
Jennison, McNulty & Morse, Inc., Advisers Act Rel. No. 1396, 1993 WL 538935, at *4 (Dec. 23,
1993). We adhere to that view here; indeed, Respondents’ expert admitted that “the fact of the
arrangement itself is, in most instances, going to be material and should be disclosed.”
19
Vernazza, 327 F.3d at 860; see also Capital Gains, 375 U.S. at 201 (noting that an
investment adviser must “fully and fairly reveal[] his personal interests in [his] recommendations
to his clients”); Laird v. Integrated Res., Inc., 897 F.2d 826, 835 (5th Cir. 1990) (“[A]n
investment adviser is a fiduciary and therefore has an affirmative duty of utmost good faith to
avoid misleading clients. This duty includes disclosure of all material facts and all possible
conflicts of interest.”); Montford & Co., Inc., Advisers Act Rel. No. 3829, 2014 WL 1744130, at
*13 (May 2, 2014) (“[A]dvisers owe their clients a duty to . . . disclose information that would
expose any conflicts of interest, including even . . . a potential conflict.” (internal quotation
marks omitted)).
20
Feeley & Willcox Asset Mgmt. Corp., Exchange Act Release No. 48162, 2003 WL
22680907, at *11 (July 10, 2003).
9
i.
TRG’s pre-December 2011 Forms ADV failed to disclose the
Arrangement.
TRG’s pre-December 2011 Form ADV disclosure was inadequate because it failed to
disclose the Arrangement. For over a year after TRG entered into the Arrangement, the relevant
language in the Firm’s Form ADV consisted of one sentence indicating that its registered adviser
representatives “may sell securities . . . for sales commissions.” And between August 2005 and
March 2011, TRG added only that its investment adviser representatives “may receive selling
compensation” from a broker-dealer when they are “acting as registered representatives of [that]
broker-dealer.” This boilerplate disclosure about possible “sales commissions” and “selling
compensation” did not constitute the “full and fair” disclosure that the law requires.21 TRG did
not disclose that it had entered into an Arrangement under which it received payments from
Fidelity for maintaining client investments in certain funds Fidelity offered. TRG’s clients thus
did not know about TRG’s financial incentive to purchase certain mutual funds over others—and
to maintain client assets in those funds—or to prefer investments offered on the Fidelity platform
over those that were not.
Respondents contend that the compensation TRG received from Fidelity was 12b-1 fees,
which necessarily makes them “commissions,” and that therefore their disclosure about receiving
“selling compensation” was adequate. As discussed above, the disclosure that TRG may receive
commissions or compensation from a broker-dealer in no way alerted its clients to the potential
conflicts of interest presented by the undisclosed Arrangement. Moreover, the compensation that
TRG received from Fidelity under the Arrangement was neither a “sales commission” from
“sell[ing] securities” to its clients nor “selling compensation” from Triad “as a result of the
facilitation of certain securities transactions.” Under the 2004 agreement with Fidelity, TRG
would be paid “shareholder servicing fees” based on the amount of client “assets” invested in
“eligible [non-transaction fee] mutual funds.” The compensation therefore was based on eligible
client assets under management and was not paid per transaction. Indeed, TRG was not paid for
selling certain mutual funds to its clients under the agreement but for maintaining its client’s
assets in certain mutual funds. The disclosure about possible compensation based on sales in the
Forms ADV (“sales commissions” and “selling compensation”) could not alert clients to the
actual source of the conflict in this situation.
Additionally, the payments Fidelity made to TRG were not based on TRG’s investment
adviser representatives “acting as registered representatives” of Triad and were not generated by
transactions “facilitat[ed] . . . through” Triad. Robare agreed that TRG’s compensation under the
Arrangement was “based on decisions [he] made related to the clients’ advised assets” and did
not relate to work he did for Triad. Jones likewise confirmed that TRG received compensation
from Fidelity “when [he] placed [his] advisory clients’ money into particular mutual funds in
connection with [his] advisory business” rather than while acting as a registered representative of
21
See Capital Gains, 375 U.S. at 194; cf. Daniel R. Lehl, Securities Act Release No. 8102,
2002 WL 1315552, at * 11(May 17, 2002) (finding that “the disclosure that persons associated
with CFS and WSW ‘may’ receive compensation . . . is misleading and inadequate when they in
fact received or contracted to receive compensation”).
10
Triad. Finally, Jones confirmed that Triad was not “facilitating the actual securities
transaction[s] of placing [TRG’] clients’ funds into eligible mutual funds with Fidelity.”
Respondents nonetheless insist that, particularly after the March 2011 Form ADV added
that TRG’s investment adviser representatives may receive selling compensation in the form of
12b-1 fees, that the payments were 12b-1fees and therefore adequately disclosed. Regardless of
whether the source of the payments were 12b-1 fees, TRG’s disclosure that it may receive selling
compensation in the form of 12b-1 fees in no way revealed that TRG actually had an
arrangement with Fidelity, that it received fees pursuant to the arrangement, and that the
arrangement presented at least a potential conflict of interest.
Indeed, we find it telling that after looking at TRG’s March 2011 Form ADV Fidelity
“did not find” the disclosure of the Arrangement and requested that TRG disclose it. Although
Respondents suggest that Fidelity’s request was about improving TRG’s existing disclosure of
the Arrangement rather than adding disclosure of the Arrangement that was wholly absent, the
record belies this understanding. The Fidelity account representative testified that Fidelity
believed the disclosure of the Arrangement “was not there,” and Robare himself conceded that
Fidelity told TRG that it “had made no disclosure about the fee agreement.” Ultimately, we
agree with the Division that with respect to the pre-December 2011 Forms ADV “no reasonable
client reading” them “could have discerned the existence—let alone the details—of the
Arrangement.”22 Accordingly, we find that the pre-December 2011 Form ADV disclosure was
inadequate to fulfill TRG’s obligations as an investment adviser.
ii.
Although TRG identified the Arrangement in its December 2011
Form ADV, its disclosure continued to be inadequate.
After Fidelity’s request to update its disclosure, TRG added a new paragraph in its
December 2011 Form ADV mentioning the Arrangement for the first time. The new paragraph
identified Fidelity as the source of compensation and provided an abbreviated description of the
basis for the payments—payments based on “no transaction fee mutual fund assets in custody
with Fidelity.” Nonetheless, TRG’s disclosure continued to be inadequate.
First, this disclosure failed to explain that TRG received compensation based on its
selection of certain non-transaction fee mutual funds over others. Because it failed to mention
that not all “no transaction fee mutual fund assets in custody with Fidelity” resulted in fees, the
disclosure failed to reveal that TRG had an economic incentive to put client assets into eligible
22
See, e.g., Marc N. Geman, Exchange Act Release No. 43963, 2001 WL 124847, at *8
(Feb. 14, 2001) (rejecting respondent’s contention that the Firm’s disclosure of “its principal
status on its customer trade confirmations” was adequate because the Firm “had an obligation to
appraise its customers not only of its principal status but of the implications of that status, i.e.,
that it was trading as principal because it believed it could obtain better prices than the NBBO”
at which it executed customer orders), aff’d, 334 F.3d 1183 (10th Cir. 2003).
11
non-Fidelity, non-transaction fee funds over other funds available on the Fidelity platform.
Without this information, TRG’s clients could not properly assess the relevant conflicts. 23
Second, TRG asserted for the first time in the December 2011 Form ADV that “We do
not receive an economic benefit from a non-client for providing investment advice or other
advisory services to our clients.” That was false—the Fidelity compensation was an “economic
benefit from a non-client” for “other advisory services to [TRG’s] clients.”24
iii.
TRG’s non-Form ADV disclosure was also inadequate.
Respondents contend that TRG adequately disclosed the Arrangement to its clients by
means other than its Forms ADV. They highlight the Fidelity custodial agreement and TRG’s
General Information and Disclosure Brochure, which TRG gave clients when they opened their
accounts. We disagree that providing these documents fulfilled Respondents’ fiduciary duties.
First, a large proportion of TRG’s clients never received the December 2005 version of
the Fidelity custodial agreement that Respondents highlight. Robare acknowledged that the
individuals who became clients before December 2005 would not have received it. TRG’s client
retention rate is 97%, and TRG now has about twice the number of clients it had when it became
an independent investment adviser; therefore, approximately 150 of its current clients would not
have received the disclosure in the Fidelity custodial agreement.
Second, the December 2005 version of the Fidelity custodial agreement did not provide
adequate disclosure even for those clients that received the agreement.25 The Fidelity custodial
agreement stated that Fidelity “may pay your advisor for performing certain back-office,
administrative, custodial support, and clerical services for [Fidelity] in connection with client
accounts for which [Fidelity] act[s] as custodian,” and that “[t]hese payments may create an
incentive for your advisor to favor certain types of investments over others.” But there was no
23
Respondents note that they filed an updated Form ADV in April 2013 that further revised
the disclosure and assert that “each revision” was “intended to . . . disclose” the conflict of
interest. But only in its April 2014 Form ADV did TRG disclose that the arrangement excluded
Fidelity funds and that the payments “may influence Robare’s choice . . . of [non-transaction fee]
funds over funds not covered by this agreement.” The April 2014 Form ADV also continued to
maintain that TRG did “not receive an economic benefit from a non-client for providing . . .
other advisory services to our clients.”
24
Although the Item 14 disclosure went on to state that TRG received compensation from
Fidelity “in the form of custodial support services” (and TRG supplied more details of the
arrangement and the attendant conflicts in subsequent Forms ADV), the statement that TRG did
“not receive an economic benefit from a non-client for providing . . . other advisory services to
our clients” was at the very least confusing and misleading to TRG’s clients and potential clients.
25
Respondents also cite Robare’s testimony that he “reviewed” the Fidelity custodial
agreement with new clients and would generally discuss with them how TRG got paid. Nothing
in his testimony establishes that he adequately disclosed to clients—or even mentioned—the
Arrangement.
12
way for a TRG client to know from the Fidelity custodial agreement itself that TRG had, in fact,
entered into an agreement with Fidelity to receive these payments.26
Likewise, TRG’s General Information and Disclosure Brochure did not disclose the
Arrangement to clients. The brochure mentions “other money managers pay[ing TRG] a portion
of the fees generated by . . . referred clients.” This vague reference to referral fees did not
provide full and fair disclosure of the Arrangement.
3.
TRG and Robare acted negligently but not with scienter.
i.
TRG and Robare failed to exercise reasonable care.
We do not find that TRG and Robare acted with scienter when they failed to adequately
disclose the Arrangement. Scienter is “a mental state embracing intent to deceive, manipulate, or
defraud.”27 Here, the law judge made a demeanor-based credibility determination that Robare’s
and Jones’s testimony belied the notion that they were “trying to defraud anyone, let alone their
investment clients.” We give significant weight to this credibility determination,28 and the
evidence in the record does not establish that Respondents’ investment decisions on behalf of
their clients were influenced by the fees they received from Fidelity. Accordingly, we do not
find that Respondents acted intentionally or recklessly.
Nevertheless, we find that TRG and Robare acted negligently. Negligence is “the failure
to exercise reasonable care or competence.”29 TRG’s and Robare’s conduct demonstrated a clear
failure to reasonably fulfill the disclosure obligations of investment advisers. Although aware of
their duty to disclose and that the Arrangement presented at least potential conflicts of interest,
TRG and Robare for many years provided inadequate disclosure.30 They should have known the
disclosure was inadequate because, as discussed above, it plainly failed to provide their clients
with the information they needed to assess the relevant conflicts of interest and did not even, at a
minimum, satisfy the specific disclosure requirements of Form ADV.31 Because TRG and
26
Respondents contend that the Division conceded “that the language used in the Fidelity
[custodial agreement] was adequate.” But we find no such concession in the record.
27
Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n.12 (1976).
28
See Robert M. Fuller, Exchange Act Release No. 48406, 2003 WL 22016309, at *7 (Aug.
25, 2003), petition denied, 95 F. App’x 361 (D.C. Cir. 2004).
29
Byron G. Borgardt, Securities Act Release No. 8274, 2003 WL 22016313, at *10 (Aug.
25, 2003)
30
See id. (“In failing to see that appropriate disclosures were made, Respondents were
negligent.”).
31
See SEC v. Steadman, 967 F.2d 636, 643 (D.C. Cir. 1992) (applying a “should have
known” standard for a negligent omission of disclosure under Section 206(2)).
13
Robare failed “to use the ‘degree of care that a reasonably careful person would use under like
circumstances’” and “‘should have’ acted differently,” they were negligent. 32
ii.
Respondents’ alleged reliance on others does not negate a negligence
finding.
Respondents contend that they did not act negligently because they relied upon Triad as
well as “experienced and competent compliance consultants to help ensure that they complied
completely with their disclosure requirements.” The law judge found that Respondents “relied in
good faith on the advice of compliance firms, including Triad.” We disagree.
Neither Respondents nor the law judge cite any case recognizing a defense of reliance on
compliance consultants.33 And even were such a defense available on grounds analogous to a
reliance on counsel defense, we find that Respondents cannot establish it. To establish a defense
of reliance on counsel, a defendant must demonstrate “that he made complete disclosure to
counsel, sought advice as to the legality of his conduct, received advice that his conduct was
legal, and relied on that advice in good faith.” 34 No evidence exists that TRG specifically sought
or received advice from Triad about how to disclose the Arrangement to its clients. Indeed,
Triad’s Chief Compliance Officer—who reviewed TRG’s Forms ADV—represented to the
Commission in 2013 that Triad was “unaware if the service fees [paid under the Arrangement]
were disclosed to the clients of the Robare Group.”
As to its compliance consultants, the record also does not contain convincing evidence
that TRG specifically sought or received advice from its consultants about how to disclose the
Arrangement and relied on that advice in good faith. 35 Robare’s vague references to discussions
with consultants do not establish that TRG received and followed advice about the disclosure of
the Arrangement. And although TRG received advice about the disclosure of the Arrangement
from Renaissance in connection with the December 2011 Form ADV and thereafter, an
executive vice president at Renaissance testified that Renaissance did not receive a copy of the
2004 Fidelity agreement until he was interviewed by the Commission in 2014. He further
testified that he would typically discuss compensation sources with clients but did not recall
discussing the Arrangement with TRG and that Renaissance did not approve TRG’s disclosures.
TRG and Robare also cite no advice Renaissance gave that explains the continued failure in
32
See SEC v. Nutmeg Grp., LLC, 162 F. Supp. 3d, 754, 775 (N.D. Ill. Feb. 18, 2016) (citing
Steadman, 967 F.2d at 643).
33
Cf. Edgar R. Page, Advisers Act Release No. 4400, 2016 WL 3030845, at *6 (May 27,
2016) (assuming arguendo “that engagement of compliance professionals—as compared to
counsel— might under some circumstances mitigate the egregiousness of a wrongdoer’s
misconduct,” but concluding that the alleged reliance was, in fact, not mitigating).
34
35
Markowski v. SEC, 34 F.3d 99, 105 (2d Cir. 1994).
See United States v. Masat, 948 F.2d 923, 930 (5th Cir. 1992) (rejecting a reliance on
professionals defense because the defendant did not “clearly articulate how he relied on these
professionals”).
14
TRG’s Item 14 disclosure to “explain the conflicts of interest, and describe how [TRG]
address[ed] the conflicts of interest” as Form ADV directed.
In any case, TRG and Robare could not reasonably rely on any advice that the disclosures
were adequate because they knew their obligations as investment advisers, that they were
required to disclose potential conflicts of interest, and that the Arrangement presented such a
conflict but was not disclosed.36 Because of the obvious inadequacy of TRG’s disclosure, we
find that any reliance by TRG on advice that its disclosure was adequate was not reasonable and
thus does not negate our finding of negligence.37
Because TRG and Robare negligently failed to disclose a material conflict of interest,
their conduct “operate[d] as a fraud or deceit upon [their] client[s]” and violated Section 206(2).
B.
Jones caused the violations of Section 206(2) and is liable under Section 203(k).
Advisers Act Section 203(k) authorizes the Commission to institute proceedings against
“any other person that . . . was . . . a cause of the violation, due to an act or omission the person
knew or should have known would contribute to such violation.”38 “[N]egligence is sufficient to
establish ‘causing’ liability . . . at least in cases in which a person is alleged to ‘cause’ a primary
violation that does not require scienter.”39 Jones knew about the Arrangement, was significantly
involved in the Firm’s disclosure responsibilities, and signed each of the relevant Forms ADV.
Jones acted negligently because he knew TRG was required to disclose conflicts of interest.
Because Jones acted negligently in signing the forms without disclosing the conflicts of interest
the Arrangement presented, he was a cause of TRG’s and Robare’s violations of Section 206(2).
36
See SEC v. Goldfield Deep Mines, 758 F.2d 459, 467 (9th Cir. 1986) (“If a company
officer knows that the financial statements are false or misleading and yet proceeds to file them,
the willingness of an accountant to give an unqualified opinion with respect to them does not
negate the existence of the requisite intent or establish good faith reliance.”).
37
We also reject Respondents’ suggestion that a 2008 examination by the Commission’s
Fort Worth Regional Office, which resulted in a “no further action letter,” is a basis for finding
that they acted reasonably. The no further action letter expressly stated that “the fact that we are
not making any specific comments should not be construed as any indication that the [Robare
Group’s] activities are in full compliance with the federal securities law or other applicable rules
and regulations.”
38
15 U.S.C. § 80b-3(k). There is no dispute that both TRG and Robare meet the definition
of an “investment adviser” under the Advisers Act and can be primarily liable for a violation of
Section 206(2). See 15 U.S.C. § 80b-2(a)(11) (defining an “investment adviser” as including
“any person who, for compensation, engages in the business of advising others . . . as to the
value of securities or as to the advisability of investing in, purchasing, or selling securities”).
39
KPMG Peat Marwick LLP, Exchange Act Release No. 43862, 2001 WL 47245, at *19
(Jan. 19, 2001), petition denied, 289 F.3d 109 (D.C. Cir. 2002). Given our finding that Jones
caused these violations, we need not decide whether Jones also aided and abetted the violations.
15
C.
Respondents violated Advisers Act Section 207 by willfully omitting material facts
from TRG’s Forms ADV.
Advisers Act Section 207 prohibits any person from “‘willfully making false statements
of material fact, or material omissions, in . . . a Form ADV.’”40 A material omission is failing to
supply “any material fact which is required to be stated” in the Form ADV. 41 Scienter is not
required to find a violation of this provision.42 Because Form ADV embodies “a basic and vital
part in our administration of the [Advisers] Act,” “it is essential in the public interest that the
information required by [Form ADV] be supplied completely and accurately.”43
As detailed above, between 2005 and 2013 Respondents failed to provide the material
facts regarding the Arrangement and its attendant conflicts of interest as directed by the relevant
Forms ADV.44 Both Robare and Jones were responsible for the content of TRG’s Forms ADV
during this time—they both reviewed each of the Forms ADV before filing, Robare had ultimate
authority over their content, and Jones signed each of them. We thus find that Respondents
violated Section 207 by willfully omitting material facts from TRG’s Forms ADV.
III.
A.
Sanctions
Cease-and-desist order
Advisers Act Section 203(k) authorizes us to issue a cease-and-desist order against any
person who “is violating, has violated, or is about to violate” the Advisers Act or against “any
other person that is, was, or would be a cause of the violation.”45 In determining whether a
cease-and-desist order is appropriate, we consider the egregiousness of the respondent’s actions,
the isolated or recurrent nature of the infraction, the degree of scienter involved, the sincerity of
the respondent’s assurances against future violations, the respondent’s recognition of the
wrongful nature of his or her conduct, and the likelihood that the respondent’s occupation will
present opportunities for future violations.46 In addition, we consider “whether the violation is
recent, the degree of harm to investors or the marketplace resulting from the violation, and the
40
Montford, 2014 WL 1744130, at *16 (citing Vernazza v. SEC, 327 F.3d 851, 858 (9th
Cir. 2003)); see generally 15 U.S.C. § 80b-7. Willfulness means that the person intended to
commit an act that constitutes a violation, not that he also be aware that he is violating any
statutes or regulations. See, e.g., Ralph Calabro, Exchange Act Release No. 75076, 2015 WL
3439152, at *40 (May 29, 2015) (citing Wonsover v. SEC, 205 F.3d 408, 414 (D.C. Cir. 2000)).
41
15 U.S.C. § 80b-7.
42
Montford, 2014 WL 1744130, at *16.
43
Id. (citation omitted).
44
See supra at 3-4.
45
15 U.S.C. § 80b-3(k).
46
Donald L. Koch, Exchange Act Release No. 72179, 2014 WL 1998524, at *20-21 (May
16, 2014) (citations omitted), aff'd in relevant part, 793 F.3d 147 (D.C. Cir. 2015).
16
remedial function to be served by the cease-and-desist order in the context of any other sanctions
being sought in the same proceedings.”47 We also consider whether there is a reasonable
likelihood of future violations, although the required showing of a risk of future violations in the
context of a cease-and-desist order is significantly less than that required for an injunction, and
“in the ordinary case, a finding of a past violation is sufficient to demonstrate a risk of future
ones.”48 Our inquiry is flexible, and no single factor is dispositive. 49
Based on our consideration of the relevant factors, we conclude that a cease-and-desist
order is appropriate. Respondents failed in their fundamental fiduciary duty to provide full and
fair disclosure of all material facts. This failure occurred over several years. Although we do
not find that Respondents acted with scienter, they acted unreasonably in their role as fiduciaries
and should have known that their disclosures were inadequate. The Division has not
demonstrated any concrete economic harm to TRG’s clients, but those clients were unknowingly
deprived of conflict- free advice from their investment adviser. Given Respondents’ continuing
responsibilities in the investment advisory industry (and as registered representatives of a brokerdealer), we find there is a sufficient risk of future violations to order Respondents to cease and
desist from committing or causing any violations or future violations of Advisers Act Sections
206(2) and 207.50
B.
Civil money penalties
Advisers Act Section 203(i) authorizes us to impose civil money penalties in cease-anddesist proceedings on any person who has violated any provision of the Advisers Act or who
“was a cause of the violation.”51 In considering whether a civil penalty is in the public interest,
we consider (1) whether the act or omission involved fraud; (2) whether the act or omission
resulted in harm to others; (3) the extent to which any person was unjustly enriched, taking into
account restitution made to injured persons; (4) whether the individual has committed previous
violations; (5) the need to deter such person and others from committing violations; and (6) such
other matters as justice may require.52 Second-tier penalties are appropriate if the violation
“involved fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory
requirement.”53
47
KPMG Peat Marwick LLP, 2001 WL 47245, at *26.
48
Id.
49
Id.
50
Although it did not seek a bar before the law judge, the Division raised the possibility of
a bar for the first time in a footnote to its brief before the Commission. Based on the current
record and briefing, we decline to impose a bar.
51
15 U.S.C. § 80b-3(i)(1)(B).
52
Id. § 80b-3(i)(3).
53
Id. § 80b-3(i)(2).
17
In light of the relevant factors, we will impose a $50,000 second-tier penalty on each
Respondent (TRG, Robare, and Jones) based on their failure to provide any disclosure of the
Arrangement before December 2011.54 Although we do not find that they acted with scienter,
Respondents’ conduct involved fraud and constituted a fundamental breach of their fiduciary
duties to their clients. Respondents’ conduct also harmed their clients by depriving them of
conflict- free advice. Given the serious nature of the violations of the Advisers Act, a second-tier
civil penalty is appropriate to deter future misconduct by Respondents and others. The
maximum second-tier penalty for each act or omission is $50,000 for a natural person or
$250,000 for an entity.55 Accordingly, we impose one maximum $50,000 second-tier penalty on
each of Robare and Jones and one $50,000 second-tier penalty on TRG.56
An appropriate order will issue.57
By the Commission (Chair WHITE and Commissioner STEIN; Commissioner
PIWOWAR, concurring in part and dissenting in part).
Brent J. Fields
Secretary
54
In determining the appropriate civil money penalty, we have considered only the conduct
which took place within five years of the Order Instituting Proceedings on September 3, 2014.
55
15 U.S.C. § 80b-3(i)(2).
56
We decline to order disgorgement. The Division has not put forward evidence to support
disgorgement other than with respect to the Fidelity fees. But the Division did not establish that
there was a causal connection between the Respondents’ failure to disclose the Arrangement and
the fees they received from Fidelity. Specifically, there is no evidence in the record that, absent
Respondents’ failure to disclose the conflicts of interest, they would not have received the
Fidelity fees either because their clients would have decided to withdraw their money or would
have insisted upon investments that did not pay the fees.
57
We have considered all of the parties’ contentions. We have rejected or sustained them
to the extent that they are inconsistent or in accord with the views expressed in this opinion.
Commissioner PIWOWAR, concurring in part and dissenting in part:
Commissioner Piwowar concurs with the opinion, other than the imposition of civil penalties on
Respondents as set forth in Section III.B.
Section III.B of the opinion lists six factors the Commission considered in deciding both whether
to impose a civil penalty on each Respondent and the amount of any such penalty. Of the six factors, only
one weighs in favor of imposing civil penalties: the act or omission involved fraud. The other five factors
weigh against a civil penalty: there was no harm to others, none of the Respondents was unjustly enriched,
none of the Respondents has committed previous violations, there are no other matters as justice may
require that would lead one to conclude that civil penalties are appropriate in this matter, and there has
been no showing that we need to deter such persons, based on the findings of the administrative law judge
and the record before us.
Therefore, I do not believe that a civil penalty should be imposed on any of the Respondents.
UNITED STATES OF AMERICA
before the
SECURITIES AND EXCHANGE COMMISSION
INVESTMENT ADVISERS ACT OF 1940
Rel. No. 4566 / November 7, 2016
Admin. Proc. File No. 3-16047
In the Matter of
THE ROBARE GROUP, LTD., MARK L.
ROBARE, and JACK L. JONES, JR.
ORDER IMPOSING REMEDIAL SANCTIONS
On the basis of the Commission’s opinion issued this day, it is
ORDERED that the Robare Group, Ltd. (“TRG”), Mark L. Robare, and Jack L. Jones, Jr., cease
and desist from committing or causing any violations or future violations of the Sections 206(2) and 207
of the Investment Advisers Act of 1940; and it is further
ORDERED that TRG, Robare, and Jones each pay a civil money penalty of $50,000.
Payment of the civil penalties shall be: (i) made by United States postal money order, certified
check, bank cashier’s check, or bank money order; (ii) made payable to the Securities and Exchange
Commission; (iii) mailed to Enterprises Services Center, Accounts Receivable Branch, HQ Bldg., Room
181, 6500 South MacArthur Blvd., Oklahoma City, OK 73169; and (iv) submitted under cover letter that
identifies the respondent and the file number of this proceeding.
By the Commission.
Brent J. Fields
Secretary
Regulatory Notice
17-18
Social Media and Digital
Communications
April 2017
Guidance on Social Networking Websites and
Business Communications
00
Notice Type
Guidance
Suggested Routing
Advertising
Compliance
00 Legal
00 Marketing
00 Operations
00 Registered Representatives
00 Senior Management
00
Summary
This Notice provides guidance regarding the application of FINRA rules
governing communications with the public to digital communications,
in light of emerging technologies and communications innovations.
Questions concerning this Notice may be directed to:
00
Joseph E. Price, Senior Vice President, Advertising Regulation/Corporate
Financing, at (240) 386-4623, [email protected];
00
Thomas A. Pappas, Vice President, Advertising Regulation,
at (240) 386-4553, [email protected]; or
00
Amy C. Sochard, Senior Director, Advertising Regulation,
at (240) 386-4508, [email protected].
Background
Previously, FINRA issued Regulatory Notice 10-06 and Regulatory Notice
11-39 to provide guidance on the application of FINRA rules governing
communications with the public to social media sites and the use of personal
devices for business communications. The Notices also remind firms of the
recordkeeping, suitability, supervision and content requirements for such
communications. Effective February 4, 2013, FINRA adopted amendments
to Rule 2210 that codify guidance provided in the Notices with respect
to the supervision of interactive social media posts by member firms.1 In
December 2014, FINRA published the Retrospective Rule Review Report:
Communications with the Public, which recommended that FINRA consider
more guidance. This Notice provides further guidance. It is not intended to
alter the principles or the guidance provided in prior Regulatory Notices.
00
Key Topics
Business Communications
Communications with the Public
00 Digital Communications
00 Native Advertising
00 Recordkeeping
00 Social Media
00 Supervision
00
00
Referenced Rules and Notices
FINRA Rule 2210
FINRA Rule 4511
00 Regulatory Notice 08-27
00 Regulatory Notice 10-06
00 Regulatory Notice 11-39
00 Regulatory Notice 15-50
00 SEA Rules 17a-3 and 17a-4
00
00
1
17-18
April 2017
An October 2015 study from the Pew Research Center indicates that 65 percent of adults
use social networking sites as compared to 7 percent in 2005.2 Social media and other
websites frequently enable the use of “native advertising,” which has been defined as
advertising content that matches the form and function of the platform on which it
appears.3 Media articles have predicted that within the next five years revenue earned
from native advertising in online publications such as periodicals and social media sites will
outstrip other forms of online display advertising.4
An April 2015 Pew Research Center report stated that based on a telephone survey of
2,002 adults conducted in December 2014, 64 percent of American adults own a smart
phone of some kind.5 The same report indicated that based on a sampling survey of 1,635
respondents, 97 percent of smartphone owners used text messaging at least once during
the 10-day study period in November 2014 making it the most widely used basic feature
or application. In April 2016, Facebook Messenger reported 900 million monthly active
users, and WeChat reported in March 2016 that it had added nearly 200 million monthly
active users in the previous year. Consistent with these trends, firms have increasingly
raised new questions regarding the application of FINRA rules to social media and digital
communications.
Past Guidance
Recordkeeping
Regulatory Notices 10-06 and 11-39 remind firms of their obligation to retain records of
digital communications that relate to their “business as such” as required by Rule 17a-4(b)
(4) under the Securities Exchange Act of 1934 (SEA).6 Regulatory Notice 11-39 notes that
determining whether a communication must be retained depends on its content and not
upon the type of device or technology used to transmit the communication. The Notice
also reminds firms that they must train and educate their associated persons regarding
the differences between business and non-business communications and the measures
required to ensure any business communication made by associated persons is retained,
retrievable and supervised.
Third-Party Posts
Regulatory Notice 10-06 states that, as a general matter, posts by customers or other
third parties on social media sites established by a firm or its personnel do not constitute
communications with the public by the firm or its associated persons under Rule 2210;
therefore, the pre-use principal approval, content and filing requirements of the rule do not
apply to these posts. The same principle is generally true of posts by customers or other
third parties on any website established by a firm or its associated persons, regardless of
whether the site is part of a social network.
2
Regulatory Notice
April 2017
There are exceptions. Regulatory Notice 10-06 states that third-party posts on a firm or
associated person’s business website may constitute communications with the public by
the firm or an associated person under Rule 2210 if the firm or an associated person has
(1) paid for or been involved in the preparation of the content (which FINRA would deem to
be “entanglement”) or (2) explicitly or implicitly endorsed or approved the content (which
FINRA would deem to be “adoption”).7
Hyperlinks to Third-party Sites
Regulatory Notice 11-39 states that a firm may not establish a link to any third-party
site that the firm knows or has reason to know contains false or misleading content and
may not include a link on its website if there are any red flags that indicate the linked
site contains false or misleading content. The Notice also advises firms that they are
responsible under the communications rules for content on a linked third-party site if
the firm has adopted or has become entangled with its content. For example, a firm may
have “adopted” third-party content if the firm indicates that it endorses the content on
the third-party site or may be “entangled” with a third-party site if, for example, it
participates in the development of the content on the third-party site.
Questions & Answers
The following questions and answers provide guidance only with respect to FINRA rules
and do not interpret the rules of the SEC or any other federal or state agency.
Text Messaging
Q1: Investors have sought to interact with registered representatives through text
messaging applications (“apps”) and chat services. Is a firm required to retain records
of communications related to its business that are made through text messaging
apps and chat services?
A:
Yes. As with social media, every firm that intends to communicate, or permit its
associated persons to communicate, with regard to its business through a text
messaging app or chat service must first ensure that it can retain records of those
communications as required by SEA Rules 17a-3 and 17a-4 and FINRA Rule 4511.
SEC and FINRA rules require that, for record retention purposes, the content of the
communication determines what must be retained.8
Regulatory Notice
3
17-18
17-18
April 2017
Personal Communications
Q2: If an associated person of a firm in a personal communication shares or links to
content that the firm makes available in its communications that does not concern
the firm’s products or services, would the associated person’s communication be
subject to Rule 2210? For example, if the associated person posts information
about the firm’s sponsorship of a charitable event, a human interest article, an
employment opportunity, or employer information covered by state and federal
fair employment laws, would the communication be subject to Rule 2210?
A: No. Whether a communication by an associated person is subject to Rule 2210
depends on whether the content relates to the products or services of the firm.
Hyperlinks and Sharing
Q3: If a firm shares or links to specific content posted by an independent third-party
such as an article or video, has the firm adopted the content?
A:
By sharing or linking to specific content, the firm has adopted the content and would
be responsible for ensuring that, when read in context with the statements in the
originating post, the content complies with the same standards as communications
created by, or on behalf of, the firm.
Q4: Based on the previous question and answer, if the shared or linked content itself
contains links to other content, has the firm adopted the content available at
these additional links?
A:
Solely by sharing or linking to content that contains links, a firm would not be
responsible for the content available at such links. Additional facts and circumstances
will determine whether the firm has adopted or become entangled with such
content. In general, if a firm shares or links to content that in turn links to other
content over which the firm has no influence or control, the firm would not have
adopted the other content. In contrast, if a firm shares or links to content that in turn
links to other content over which the firm has influence or control, the firm would
then have adopted that other content.
In addition, where the firm shares or links to content that itself serves primarily as a
vehicle for links, or where content available through such links forms the entire basis
of the article, the firm would have adopted the other content accessed through such
links (e.g., a firm reposts a microblog post that promotes content through a link, or a
firm links to a webpage made up largely of a link or links to other content).
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April 2017
Q5: If a firm includes on its website a link to a section of an independent third-party
website, has it adopted the content of the third-party website?
A: Whether a firm has adopted the content of an independent third-party website or
any section of the website through the use of a link is fact dependent. Two factors
are critical to the analysis: (1) whether the link is “ongoing” and (2) whether the
firm has influence or control over the content of the third-party site.
The firm has not adopted the content if the link is “ongoing,” meaning:
00
the link is continuously available to investors who visit the firm’s site;
00
investors have access to the linked site whether or not it contains favorable
material about the firm; and
00
the linked site could be updated or changed by the independent third-party
and investors would nonetheless be able to use the link.
However, if the firm has any influence or control over the content of the thirdparty site, then the firm would be entangled with its content. Further, language
introducing the ongoing link must conform to the content standards of the
communications rules, including the prohibition of misleading or inaccurate
statements or claims. Finally, as stated in Regulatory Notice 11-39, a firm may not
establish a link to any third-party site that the firm knows or has reason to know
contains false or misleading content.
Native Advertising
Q6: Native advertising has been defined as content that bears a similarity to the news,
feature articles, product reviews, entertainment and other material that surrounds
it online. For example, native advertising may be a video or article posted by an
advertiser on an independent third party publisher’s site that is presented alongside,
and in a manner similar to, content posted by the publisher. Is native advertising
inherently misleading under FINRA’s communications rules?
A:
Firms may use native advertising that complies with the applicable provisions of
FINRA Rule 2210, including the requirements that firms’ communications be fair,
balanced and not misleading. In particular, native advertising must prominently
disclose the firm’s name, reflect accurately any relationship between the firm and
any other entity or individual who is also named, and reflect whether mentioned
products or services are offered by the firm as required by Rule 2210(d)(3).9
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April 2017
Q7: May firms arrange for comments or posts by an individual (an “influencer”) that
promote the firm’s brand, products or services?
A:
Where a firm has arranged for a comment or post to be made, FINRA would regard
the firm as entangled with the resulting communication. For example, Regulatory
Notice 08-27 states, “If a firm or representative has paid for the publication,
production or distribution of any communication that appears to be a magazine,
article or interview, then the communication must be clearly identified as an
advertisement. FINRA regards this information as material to ensuring that such
communications are not misleading.” Consistent with this guidance and the
prohibition of misleading or false communications in Rule 2210, firms should clearly
identify as advertisements any communications that take the form of comments
or posts by influencers and include the broker-dealer’s name as well as any other
information required for compliance with Rule 2210.
Testimonials and Endorsements
Q8: Social networking websites may allow individuals who have connected to another
user on the network to give an opinion of, or provide comments regarding, the
user’s professional capabilities. If the user is a registered representative who
has established a business-related site on the social network that is supervised
and retained by the broker-dealer, are these opinions or comments considered
testimonials for purposes of FINRA’s communications rule?
A:
FINRA does not regard unsolicited third-party opinions or comments posted on a
social network to be communications of the broker-dealer or the representative
for purposes of Rule 2210, including the requirements related to testimonials in
paragraph (d)(6).
Rule 2210(d)(6), Testimonials, states that:
(A) If any testimonial in a communication concerns a technical aspect of investing,
the person making the testimonial must have the knowledge and experience to
form a valid opinion.
(B) Retail communications or correspondence providing any testimonial
concerning the investment advice or investment performance of a member
or its products must prominently disclose the following:
(i) The fact that the testimonial may not be representative of the experience
of other customers.
(ii) The fact that the testimonial is no guarantee of future performance or
success.
(iii) If more than $100 in value is paid for the testimonial, the fact that it
is a paid testimonial.
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April 2017
Q9: A third party may post unsolicited favorable comments about a registered
representative on the representative’s business-use social media website. The
representative may then like or share the comments. Under these circumstances,
are the third-party comments deemed to be a communication of the representative
and, therefore, subject to FINRA’s communications rules?
A:
By liking or sharing the favorable comments, the representative has adopted them
and they are subject to the communications rules, including the prohibition on
misleading or incomplete statements or claims, the testimonial requirements
noted above, and the supervision and recordkeeping rules.10
Q10: How may a registered representative or firm include the disclosures required for a
testimonial in an interactive electronic communication?
A:
The disclosures may be provided in the interactive electronic communication itself in
close proximity to the testimonial or the disclosures may be made through a clearly
marked hyperlink accompanying the testimonial using language such as “important
testimonial information,” provided of course that the testimonial is not false,
misleading, exaggerated or promissory.
Firms registered under the Investment Advisers Act of 1940 (Advisers Act) should be
aware that Section 206(4) generally prohibits any investment adviser from engaging
in any act, practice or course of business that the Commission, by rule, defines as
fraudulent, deceptive or manipulative. In particular, Advisers Act Rule 206(4)-1(a)(1)
states that “[i]t shall constitute a fraudulent, deceptive, or manipulative act, practice,
or course of business . . . for any investment adviser registered or required to be
registered under [the Advisers Act], directly or indirectly, to publish, circulate,
or distribute any advertisement which refers, directly or indirectly, to any testimonial
of any kind concerning the investment adviser or concerning any advice, analysis,
report or other service rendered by such investment adviser.”
Correction of Third-party Content
Q11: Suppose that an unaffiliated third-party publisher posts an online directory of
businesses and includes information about registered representatives of a brokerdealer. Neither the firm nor the registered representatives requested, solicited
or paid for the posting of these listings. If the firm or representative contacts the
publisher to alert it to a factual error (e.g., a misspelled name; incorrect street,
website or email address; incorrect phone numbers), would the corrected listings
be considered a communication of the firm or the representative?
A:
When the correction pertains to factual information related to the directory listing
alone, the fact that the firm or representative contacted the publisher would not
mean that the corrected listing is a communication of the firm or the representative.
Firms also may correct the error by posting a comment on the listing that includes
the correct information without being deemed to have adopted the original,
incorrect listing.
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BrokerCheck
Q12: As announced in Regulatory Notice 15-50, effective June 6, 2016, FINRA amended
Rule 2210 to require each of a firm’s websites to include a readily apparent reference
and hyperlink to BrokerCheck on (1) the initial web page that the firm intends to be
viewed by retail investors, and (2) any other web page that includes a professional
profile of one or more registered persons who conduct business with retail
investors. To assist firms in complying with this new requirement, FINRA developed
BrokerCheck-related icons and similar resources. Regulatory Notice 15-50 states that
a firm need not include a readily apparent reference and hyperlink to BrokerCheck
from communications appearing on a third-party website including social media
sites or in email or text messages. Does the requirement to include a readily
apparent reference and hyperlink to BrokerCheck apply to an app created by a firm?
A:
No. Because Rule 2210(d)(8) specifically references websites, there is no requirement
to include a reference and hyperlink to BrokerCheck in an app. However, if an app
accesses and displays a webpage on the firm’s website that is required to include the
BrokerCheck link under the rule, the firm must ensure that the link is readily apparent
when the page is displayed through the app.
Endnotes
1.
2.
Rule 2210(b)(1)(D) excepts from the prior-to-use
principal approval requirement of Rule 2210(b)
(1)(A) retail communications posted on an
online interactive electronic forum that the firm
supervises and reviews in the same manner as
correspondence as set forth in Rule 3110(b) and
3110.06 through .09. Rule 2210(c)(7)(M) excludes
from filing with FINRA’s Advertising Regulation
Department any retail communication that is
posted on an online interactive electronic forum.
FINRA provided additional guidance regarding
these exceptions in a question and answer
published in Regulatory Notice 15-17.
See Andrew Perrin, Pew Research Center, Internet
Science & Tech, Social Media Usage: 2005-2015
(October 8, 2015). 3.
In its Native Advertising: A Guide for Business,
the Federal Trade Commission (FTC) describes
native advertising as “content that bears a
similarity to the news, feature articles, product
reviews, entertainment, and other material that
surrounds it online.”
4.
See Business Insider, “Native ads will drive 74% of
all ad revenue by 2021,” (June 14, 2016) and The
Huffington Post, “2016 Native Advertising Trends
For Publishers” (June 21, 2016). 5.
See Aaron Smith, Pew Research Center, Internet,
Science & Tech, U.S. Smartphone Use in 2015
(April 1, 2015). ©2017. FINRA. All rights reserved. Regulatory Notices attempt to present information to readers in a format that is
easily understandable. However, please be aware that, in case of any misunderstanding, the rule language prevails.
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April 2017
6.
SEA Rule 17a-4(b) requires broker-dealers to preserve certain records for a period of not less than three years, the first two in an easily accessible place. Among these records,
pursuant to SEA Rule 17a-4(b)(4), are “[o]riginals of all communications received and copies of all communications sent (and any
approvals thereof) by the member, broker or
dealer (including inter-office memoranda and
communications) relating to its business as such,
including all communications which are subject
to rules of a self-regulatory organization of
which the member, broker or dealer is a member
regarding communications with the public.” See
also FINRA Rule 2210(b)(4)(A) (requiring retention
of communications with the public) and FINRA
Rule 4511 (requiring members to make and
preserve books and records).
7.
The SEC first articulated these approaches as a
basis for a company’s responsibility for thirdparty information that is hyperlinked to its
website. See Commission Guidance on the Use of Company Web Sites, SEC Rel. No. 3458288 (Aug. 1, 2008), 73 Fed. Reg. 45862, 45870
(Aug. 7, 2008); Use of Electronic Media, SEC Rel.
No. 33-7856 (April 28, 2000), 65 Fed. Reg. 25843,
25848-25849 (May 4, 2000). FINRA applies a
similar analysis to third-party posts on social
media or other websites established by the firm
or its personnel. See also IM Guidance Update No.
2014-04, Guidance on the Testimonial Rule and
Social Media (March 2014) for more information.
8.
See SEC Rel. No. 34-37182 (May 9, 1996), 61 Fed. Reg. 24644 (May 15, 1996); SEC Rel. No. 34-38245 (Feb. 5, 1997), 62 Fed. Reg. 6469 (Feb. 12, 1997); Notice to Members 03-33 (July
2003); and SEC Office of Compliance Inspections
and Examinations National Examination Risk
Alert, Investment Adviser Use of Social Media,
(January 4, 2012) .
Regulatory Notice
9.
See also, the guidance provided in the FTC’s
Enforcement Policy Statement on Deceptively
Formatted Advertisements, December 22, 2015.
10. In Regulatory Notice 11-39, FINRA stated: “The fact that the firm has a policy of routinely
blocking or deleting certain types of content in
order to ensure the content is appropriate would
not mean that the firm had adopted the content
of the posts left on the site. For example, most
firms using social media sites block or screen
offensive material. Such a policy would not
indicate that the firm has adopted the remaining third-party content.”
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Regulatory Notice
17-20
Retrospective Rule Review
May 2017
FINRA Requests Comment on the Effectiveness and
Efficiency of Its Rules on Outside Business Activities
and Private Securities Transactions
Comment Period Expires: June 29, 2017
Notice Type
00
Request for Comment
Suggested Routing
Compliance
Legal
00 Operations
00 Registered Representatives
00 Senior Management
00 Systems
00
00
Executive Summary
FINRA is conducting a retrospective review of the rules governing outside
business activities and private securities transactions to assess their
effectiveness and efficiency. This Notice outlines the general retrospective
rule review process and seeks responses to several questions related to firms’
experiences with these specific rules.
Questions regarding this Notice should be directed to:
00
Philip Shaikun, Vice President and Associate General Counsel, Office of
General Counsel, at (202) 728-8451;
00
James S. Wrona, Vice President and Associate General Counsel, Office of
General Counsel, at (202) 728-8270;
00
Meredith Cordisco, Associate General Counsel, Office of General Counsel,
at (202) 728-8018; or
00
Lori Walsh, Deputy Chief Economist, Office of the Chief Economist, at
(202) 728-8323.
Key Topics
00
00
Outside Business Activities
Private Securities Transactions
Referenced Rules & Notices
00
00
FINRA Rule 3270
FINRA Rule 3280
Action Requested
FINRA encourages all interested parties to comment. Comments must be
received by June 29, 2017.
Comments must be submitted through one of the following methods:
00
Emailing comments to [email protected]; or
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May 2017
00
Mailing comments in hard copy to:
Jennifer Piorko Mitchell
Office of the Corporate Secretary
FINRA
1735 K Street, NW
Washington, DC 20006-1506
To help FINRA process comments more efficiently, persons should use only one method to
comment.
Important Notes: All comments received in response to this Notice will be made available to
the public on the FINRA website. In general, FINRA will post comments as they are received.1
Background & Discussion
FINRA believes that it is appropriate, after a reasonable period of time, to look back at
its significant rulemaking to determine whether a FINRA rule or rule set2 is meeting its
intended investor-protection objectives by reasonably efficient means. FINRA further
believes that a retrospective review should include a review not only of the substance and
application of a rule or rule set, but also FINRA’s processes to administer the rules. FINRA
intends to select relevant rules and to conduct retrospective rule reviews on an ongoing
basis to ensure that its rules remain relevant and appropriately designed to achieve their
objectives, particularly in light of environmental, industry and market changes.
In conducting the review, FINRA staff will follow a similar process to previous retrospective
rule reviews. In general, the review process consists of an assessment and action phase.
During the assessment phase, FINRA will evaluate the efficacy and efficiency of the rule
or rule set as currently implemented, including FINRA’s internal administrative processes.
FINRA will seek input from affected parties and experts, including its advisory committees,
subject-matter experts inside and outside of the organization, and other stakeholders,
including industry members, investors, interested groups and the public. FINRA staff will
assess issues including the existence of duplicative, inconsistent or ineffective regulatory
obligations; whether market or other conditions have changed to suggest there are ways
to improve the efficiency or effectiveness of a regulatory obligation without loss of investor
protections; and potential gaps in the regulatory framework. Upon completion of this
assessment, FINRA staff will consider appropriate next steps, which may include some or
all of the following: modifications to the rule or rule set, updated or additional guidance,
administrative changes or technology improvements, or additional research or information
gathering.
The action phase will then follow. If the assessment recommends modification of rules,
FINRA will separately engage in its usual rulemaking process to propose amendments
to the rules based on the findings. This process will include input from FINRA’s advisory
committees and an opportunity for comment on specific proposed revisions in a Regulatory
Notice or rule filing with the SEC, or both.
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May 2017
Request for Comment
FINRA has identified Rules 3270 (Outside Business Activities of Registered Persons) and
3280 (Private Securities Transactions of an Associated Person) for review. The rules govern
firm employees’ business and securities activities carried out away from their firm—
activities that are outside the regular course or scope of their employment with the firm.
The ability of firm personnel to engage in such activities may benefit some investors,
depending on the circumstances, but may also pose risks, including to both investors
and the firm. The rules seek to protect the investing public from potentially problematic
or risky activities that are unknown to the firm but could be perceived by the investing
public as either part of the firm’s business or having the firm’s imprimatur. The rules seek
to protect the firm from the concomitant reputational and litigation risks. In keeping
with these purposes, the rules provide a regulatory framework for firms to be informed of
such activities, implement a system to assess them, determine whether to limit or place
conditions on the employee’s participation in them and, in the case of private securities
transactions for compensation, record and supervise the transactions.
FINRA seeks answers to the following questions with respect to these rules:
1. Have the rules effectively addressed the problem(s) they were intended to mitigate?
To what extent have the original purposes of and need for the rules been affected by
subsequent changes to the markets, the delivery of financial services, the applicable
regulatory framework, or other considerations? Are there alternative ways to achieve
the goals of the rules that should be considered?
2. What have been experiences with implementation of the rule set, including any
ambiguities in the rules or challenges to comply with them?
3. What have been the economic impacts, including costs and benefits, arising from
FINRA’s rules? Have the economic impacts been in line with expectations described
in the rulemaking? To what extent would these economic impacts differ by business
attributes, such as size of the firm or differences in business models?
4. Can FINRA make the rules, interpretations or attendant administrative processes more
efficient and effective?
In addition to comments responsive to these questions, FINRA invites comment on any
other aspects of the rules that commenters wish to address. FINRA further requests any
data or evidence in support of comments. While the purpose of this Notice is to obtain
input as to whether or not the current rules are effective and efficient, FINRA also welcomes
specific suggestions as to how the rules should be changed. As discussed above, FINRA will
separately consider during the action phase specific changes to the rules.
Regulatory Notice
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Endnotes
1.
FINRA will not edit personal identifying
information, such as names or email addresses,
from submissions. Persons should submit
only information that they wish to make
publicly available. See Notice to Members 03-73
(November 2003) (Online Availability of Comments) for more information.
2.
A rule set is a group of rules identified by FINRA
staff to contain a similar subject, characteristics
or objectives.
©2017. FINRA. All rights reserved. Regulatory Notices attempt to present information to readers in a format that is
easily understandable. However, please be aware that, in case of any misunderstanding, the rule language prevails.
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