Tag: Burrill Capital Management

Gatekeeper Failure for a Taking Management Fees in Advance

Steven Burrill was using his venture capital fund as a persona piggy bank and the fund’s auditor failed to do anything when it saw the red flags. Now the auditor partner is subject to charges by the Securities and Exchange Commission.

download

Private funds typically take management fees in advance. That is not unusual or illegal. SEC filings for registered investment advisers specifically contemplate it. Item 18 in Form ADV Part 2A requires additional disclosures that must be made if you take prepayment of more than $1200 in fees per client six months or more in advance. Most private funds take management fees quarterly in advance to “keep the lights on.”

But Burrill started taking fees earlier than allowed under the fund documents. Eventually, Burrill took more in advance fees than could be expected to earn over the life of the fund. The SEC brought charges against Burrill and he agreed to repay the fees and pay a fine.

As the SEC has done with several other cases, the SEC brought charges against a gatekeeper who failed to act.

Adrian D. Beamish was the audit partner with PricewaterhouseCoopers LLP for the Burrill engagement. According to the SEC order:

From 2009 through 2011, Burrill characterized the payments as advances on future management fees that he would earn through the provision of future management services as the fund’s manager. The payments were made many months—and even years—before the fees were to be earned. In each of these three years, Beamish failed to inquire whether Burrill had the authority to take the unusual payments, nor did he scrutinize the rationale for the payments, which Burrill needed to pay his own personal expenses and to fund his other businesses. Significantly, in conducting the yearend 2012 audit, Beamish learned that the advanced management fee payments that had been paid greatly exceeded any potential future management fee obligations the fund might owe.

The prepaid management fees were almost $5 million at the end of 2009, over $9 million in 2010 and over $13 million by the end of 2011.

“Had Beamish made appropriate inquiries as required by professional standards, his audit team would have likely discovered that the fees advanced to the General Partner had been used for the business operations of affiliated Burrill entities, such as Burrill Securities LLC, and to pay for Burrill’s own personal expenses.”

The SEC charges that Beamish failed to exercise professional care mandated by the accounting standards. According to the SEC, he failed as a gatekeeper.

Sources:

Taking Management Fees In Advance, and Then More

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.

download

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: