CCO Liability for False Statements on Form ADV

Susan Diamond was Chief Compliance Officer of Saddle River Advisors. Now, Ms. Diamond is out of pocket for a $15,000 penalty and is subject to a nine-month suspension from being associated with any investment adviser or other financial services firms. After the suspension, she will be prohibited from acting in the securities industry in certain managerial and compliance capacities.

What did she do?

Diamond, on behalf of Saddle River, prepared, signed, and filed Forms ADV that contained untrue statements.

On its face, the order imposes liability for nothing other than answering questions on Form ADV incorrectly.

In Section 7.B.(1)(B) under the heading, “Service Providers” and the subheading “Auditors.”

Are the private fund’s financial statements subject to an annual audit?    Yes
Are the financial statements prepared in accordance with U.S. GAAP?  Yes
Name of Auditing Firm    SRA Funds’ Tax Preparer
Are the private fund’s audited financial statements distributed to the private fund’s investors?   Yes

None of these responses were true. Saddle River’s financial statements were not audited, prepared in accordance with U.S. GAAP, or distributed to investors. The firm identified as SRA’s “auditing firm” had prepared only tax returns and Forms K-1 for the Saddle River Funds and was never engaged by Saddle River to perform an audit.

BOOM! Diamond’s career is over.

All CCOs now need to be worried that getting a question wrong on the Form ADV will end their careers.

This is a very bad order.

The SEC does not lay out any facts in the order that shows Diamond knew the statements were incorrect. The order merely states that Diamond was in a position to answer the questions because she had signatory power on the fund accounts and made accounting entries in the general ledger.

On its face, the SEC is imposing liability on a CCO solely related to the compliance operations of a CCO. Filing the Form ADV is a core responsibility of the CCO.

The order is a terrible statement by the SEC.

It’s not that Saddle River was free of problems. It’s accused of stealing over $5 million from investors, preying on investors with a claim that it was investing their money in pre-IPO tech companies.

However, in the order against her, the SEC failed to state that Diamond was involved in any of that wrongdoing at Saddle River.

I am not surprised to see CCO liability when the CCO is involved in the wrongdoing. I am surprised to see a CCO facing liability merely on the facts stated in the order against Diamond.


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3 Responses to CCO Liability for False Statements on Form ADV

  1. Matt Kelly January 27, 2017 at 10:08 am #

    I can definitely see the worst-case, unfair scenario here– but is it also possible that damning facts against Diamond were negotiated out of the settlement order? Some sort of way to save face, perhaps against possible civil litigation?

    As the order stands now, yes, it’s possible that this is a terrible order like you outline. I’m just curious whether there are other facts we don’t know about. I mean, not knowing whether the firm provides audited financials to investors– that seems like a glaring error to me.

    • Doug Cornelius January 27, 2017 at 11:00 am #

      I don’t know about saving face. Given the bans in the order, her career options in financial services are probably very limited.

      I would hope that the facts were negotiated out of the order and not that enforcement was too lazy to put them in the order.

      A year ago SEC panelists repeated the line that the SEC only goes after CCOs in three circumstances:

      1. The CCO participated in the fraud
      2. The CCO hinders the exam or investigation
      3. Wholesale failure of the CCO

      The SEC did not put any of those three elements in the order. There is no indication that Diamond participated in the fraud or hindered the investigation.

      That leaves to the conclusion that answering questions incorrectly on the Form ADV is a wholesale failure that leads to CCO liability.

      It’s easy to infer that Diamond knew more or was involved and that just didn’t make it into the order. But that is just a guess. The order does not even bother to state that Diamond knew that the statements were incorrect.

      “Diamond was in a position to answer questions on the Forms ADV” That is the level of proof that the SEC is stating to the CCO community about liability.

      This order is only going CCOs more concerned that the SEC is going to come after them.


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