It is not uncommon for fund managers and investment advisers to take management fees payable in advance. At some point, taking fees in advance is just stealing from investors. Steven Burrill and his firm reached that point and went well beyond it.
To be clear, taking management fees in advance is not illegal. In fact, the SEC filings for registered investment advisers specifically contemplate it. For those of you who recently filed your Form ADV, Item 18 in Part 2A addresses additional disclosures that must be made if you take prepayment of more than $1200 in fees per client six months or more in advance.
Burrill Capital Management was an exempt reporting adviser with the SEC under the Investment Advisers Act. The firm fell into the venture capital firm exemption.
For fund managers, the ability to take a management fee and whether it can be taken in advance is going to be governed by the fund documents. In the case of Burrill Life Sciences Capital Fund III, LP, it appears the fund documents allowed the manager to take the management fee at the beginning of a quarter for the services to be given during that quarter.
Burrill ran into cash flow issues and took cash from the fund as an “advance on management fees” in late 2007 for the first quarter of 2008. It was violation of the fund documents. It was only four days early, but still a clear violation. It was only a small step, but it was a step over the line.
That made it easier for Burrill to take more steps over the line. Burrill continued to take management fees earlier than allowed by the fund documents when the firm encountered cash flow issues.
Since Steven Burrill owned most of the firm, a big chunk of that management fee would end up in his personal accounts. But to make the early advances even worse, Burrill at times directed the early advances to be deposited directly into his personal bank accounts.
By the first quarter of 2012, the firm had taken more in advanced management fees than could be expected to be earned over the life of the fund. But Burrill still kept taking cash from the fund.
Although this comes across as an SEC enforcement case, private action had happened much earlier.
Ann Hanham, Roger Wyse and Bryant Fong, former employees of Burrill, discovered the problem in 2013. The trio confronted Burrill. After no action was made to repay the fund, the trio went to investors in the fund. The investors removed Burrill as general partner of the fund in 2014. The investors filed a fraud suit against Burrill in 2015. The investors also filed a suit against the fund’s auditor for failing to catch the fraud.
The SEC case resulted in Burrill repaying $4.785 million he took for personal use and a $1 million penalty.
Sources:
- Biotech Venture Capitalist Stole Investor Funds for Personal Use
- SEC order
- Burrill Life Sciences Capital Fund III, L.P. vs. Steven G. Burrill
- Fund Founder, Chief Legal Officer and Controller Sanctioned by SEC by T. Gorman in SEC Actions
- Partners claim Steven Burrill looted biotech fund of $17M-plus by John Carroll in Fierce Biotech
- Venture Fund Says PwC Failed To Catch $17M Fraud by Carmen Germaine in Law360
- Steven Burrill Removed From Control Of Venture Fund For Unauthorized Payments by Nathan Vardi in Forbes