While there is little or no doubt the adviser was in violation, there is most likely a less ominous back-story. As with most firms, the intent is not to violate any rules, regulations, or firm policies and procedures rather, the transgression is not investing in appropriate Compliance support.
The Order stated that SCG engaged in securities transactions with clients on a principal basis through its affiliated registered broker-dealer, RP Capital, LLC (“RP Capital”)-without providing prior written disclosure to, or obtaining consent from, its clients. In addition, in its Forms ADV filed in 2012 and 2013, SCG incorrectly stated that neither it nor any related person (i.e., RP Capital) engaged in principal transactions. SCG also failed to seek best execution in determining to route its clients’ fixed-income transactions to RP Capital. In addition, the SEC stated that SCG provided prospective clients advertisements that contained false and misleading claims and disclosures about the performance of SCG’s investment model.
Most importantly, the SEC Found that N. Gary Price, SCG’s Chief Executive Officer, and its Chief Compliance Officer failed to implement compliance policies and procedures that were reasonably designed to prevent violations of the Advisers Act. Price signed untrue Forms ADV without verifying that information contained the filings was correct. As a result, the SEC found that Price caused SCG’s violations.
Often times, small firms make a cost benefit analysis and determine that the position of CCO and compliance support is something that can be managed by the CEO or CFO or a Managing Partner. They may initially invest in a Compliance Manual and some rudimentary compliance technology but the decision is often made to run the day to day Compliance function in house and without leveraging appropriate Compliance subject matter expertise. This approach may work during the on-set of a new business. However, as the SCG case indicates, it is a dangerous model that cannot be sustained or scaled to grow with the business. Regulations are complex, detailed and time consuming. The busy executive is not going to be able to focus on the details of Compliance while at the same time running a firm. This does not necessarily mean that the firm lacks a Culture of Compliance. Practically, a CEO is not going to be able to review a full form ADV and implement a compliance advertising policy while at the same time building and managing a business.
Each of the SEC’s findings against SCG likely would have been avoided had SCG invested in Compliance support. It is unlikely that SCG purposely misfiled its form ADV or deviously didn’t document or receive client consent on each trade executed through its affiliate broker dealer. In fact, SCG may not have been fully attentive to the rules and regulations.
Given the complexity and the resources required to successfully implement a Compliance Program, organizations should budget or allocate adequate resources to ensure appropriate continuous Compliance implementation and guidance.
Compliance resources and infrastructure aren’t as costly as they might first appear. Many small firms do not require a full time compliance officer. Also there is a danger in hiring a full time Compliance Officer with a small budget, often leading to the retention of an individual that is either unsophisticated or lacks broad and deep compliance knowledge. Firms would be wiser to hire outside Compliance assistance on both a regular and as needed basis. Employing this approach enables firms to obtain the necessary support and skill-set from an organization that specializes in building and maintaining compliance programs. While at the same time paying a fraction of the cost of full time compliance officer. While CEOs may continue to wear the CCO hat, they have the additional layer of support, focusing 100% on delivering a compliance program with appropriate escalation mechanisms and protocols, ensuring the CEO is protected and fully aware and in control of the state of compliance in his / her respective organization.
Had SCG taken this cost/benefit approach to compliance, they likely would have saved a significant amount of money in fines and legal fees - and ultimately avoided the significant reputational risk that it has now suffered.
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