A Compilation of Non-Enforcement Actions

Author(s): Peter D. Fetzer Terry D. Nelson

Legal News: Investment Management Update

  • Sub-Advisor Able to Advise Registered Investment Company Without Shareholder Approval
  • SEC Grants Relief to Brokerage Firm From “Bad-Boy” Disqualification Provisions
  • SEC Staff Members Highlight Areas of Focus
  • SEC Unveils Draft of Five-Year Strategic Plan


Sub-Advisor Able to Advise Registered Investment Company Without Shareholder Approval

In a recent SEC no-action letter (RS Global Natural Res. Fund, SEC no-action letter, available 3/6/14), the SEC stated that it would take a non-enforcement position if a SEC registered investment adviser to a fund registered under the Investment Company Act of 1940 entered into an interim sub-advisory agreement with another SEC registered investment adviser although the sub-advisory agreement had not been approved by a majority of the fund’s shareholders, as required under the Investment Company Act. The relief granted by the SEC’s no-action position, on an interim basis on obtaining the consent of the fund’s shareholders, was necessary because of a reorganization of the adviser to the fund whereby certain members of the adviser’s management team formed their own SEC registered investment adviser. In order to avoid any interruption of the advisory services to the fund, the newly registered sub-adviser would on an interim basis enter into the agreement with the adviser.

The SEC, in granting the no-action letter on an interim basis in order to not interrupt services to the fund, reminded the adviser that the sub-advisory agreement would still need to be approved by a majority of the fund’s shareholders.

SEC Grants Relief to Brokerage Firm From “Bad-Boy” Disqualification Provisions

Now that the “bad-actor” disqualification provisions are included under Rule 506 as well as Rule 505 of Regulation D and Rule 262 of Regulation A under the Securities Act of 1933, it is likely that more respondents subject to SEC enforcement action will negotiate as part of the agreement to settle enforcement actions, to have the SEC waive the disqualification provisions in exchange for, in part, agreeing to the sanctions recommended by the SEC.

In this instance, the SEC by order dated March 12, 2014, granted investment banker and broker-dealer Jefferies LLC relief from any disqualifications that might arise due to the SEC order that was entered against Jefferies for failing to adequately supervise certain of its employees (see Jefferies LLC, SEC No-Action letter, avail. 3/12/14).

If relief was not provided by the SEC under its authority under the Securities Act, the disqualification provisions would have prevented Jefferies from participating as an issuer, predecessor of the issuer, affiliate to an issuer, general partner or managing member of an issuer, solicitor or underwriter of securities in an offering relying upon the securities registration exemption under Rules 505 or 506 under Regulation D or Rule 262 (Reg. A) under the Securities Act.

It appears that the waiver was granted by the SEC because in a request letter submitted on behalf of Jefferies good cause was shown that Jefferies should not be denied participation in the offerings under the exemptions. The enforcement order issued by the SEC in which Jefferies agreed to pay a $25 million penalty and engage an outside compliance consultant, alleged Jefferies’ failure to adequately supervise employees who were lying to their customers about the prices paid by Jefferies for certain mortgage backed securities. Jefferies successfully argued that the subject of the enforcement order (i.e., failure to supervise over employees’ illegal activities) had nothing to do with activities involving the future participation by Jefferies in offerings exempt under Rules 505, 506 or Regulation A. In addition, the SEC noted that Jefferies had already taken action to prevent the type of conduct alleged in the enforcement order from reoccurring.

SEC Staff Members Highlight Areas of Focus

The Staff from the SEC’s Office of Compliance Inspections and Examinations and the Divisions of Investment Management and Enforcement recently discussed their priorities, at the recent compliance and outreach program for investment adviser and investment company senior officers. Key areas of focus for the Staff are: 

  • Valuations of illiquid securities; 
  • Portfolio reporting; 
  • Investment strategies that are contrary to those disclosed to investors; 
  • Corporate governance and fees; and 
  • Vigilance in the use of service providers, such as the fund accountant, fund administrator, and fund transfer agent.

With regard to the use of service providers, the Staff illustrated by reference to sub-advisors, noting that if an advisor brings in a sub-advisor that is not familiar with the regulatory regime of the Investment Company Act, the advisor must be very diligent in ensuring that the sub-advisor knows the rules to which it is subject.

SEC Unveils Draft of Five-Year Strategic Plan

The SEC has released for public comment the agency’s Draft Strategic Plan that outlines the Commission’s strategic goals for the next five years and includes drafts of the SEC’s mission, vision, values and performance metrics for that period. The strategic plan can be useful in reviewing what the SEC thinks of as important industry trends or as areas of focus.

It is clear that disclosure to investors and corporate governance will remain front and center for the SEC. The following is a brief summary of other key items in the plan:

  • The SEC continues to be focused on disclosure and corporate governance, and it wants to: 
    • improve the quality and usefulness of disclosure, with a focus on issuer’s financial conditions, operations, risk management and executive compensation decisions and practices; 
    • strengthen proxy infrastructure by considering issues related to the mechanics of proxy voting and shareholder-company communications, including the role of proxy advisory firms; 
    • modernize beneficial ownership reporting, including the disclosure obligations relating to the use of equity swaps and other derivative instruments; and 
    • modernize the regulatory treatment and valuation of derivatives held by registered investment companies. 
  • The SEC continues to want and encourage interaction with industry participants, noting that it plans to enhance efforts to promote compliance by engaging in more proactive communications with registrants and their personnel to leverage third-party knowledge. 
  • The SEC noted that it plans to implement a new filing system optimized for data retrieval and analysis that will eventually replace all filings submitted through the EDGAR system.

Legal News is part of our ongoing commitment to providing legal insight to our clients and colleagues. If you have any questions about or would like to discuss these topics further, please contact your Foley attorney or any of the following individuals:

Terry D. Nelson
Madison, Wisconsin

Peter D. Fetzer
Milwaukee, Wisconsin