The notice details how investment advisors, private fund managers included, have come up short in complying with the Advertising Rule.
The rule is, at its heart, fairly straightforward. Advisors may not circulate or distribute any marketing materials – quarterly reviews, deal memos, one-on-one presentations, private placement memoranda flip books and so on – that contain “any untrue statement of material fact, or that is otherwise false or misleading”. Not too much to ask, one might think.
The areas of transgression identified in the SEC’s memo, which is based on the findings of more than 1,000 examinations, range in severity from the egregious to the “Uh-oh – maybe even we are guilty of that”.
Top of the list is the publication of misleading performance results, specifically citing numbers that do not take into account advisory fees or that measure performance against a benchmark that may not be comparable. The SEC also identified incidences of managers claiming to adhere to voluntary performance standards, when they did not.
“The [SEC risk alert] will make for worrying reading for some firms”
Managers making misrepresentations of performance should be found out once an LP gets stuck in to due diligence. However, given that only 35 percent of investors say they recalculate GP performance numbers in every instance, according to a survey by eVestment, this might not be the case.
Elsewhere, the SEC zeroed in on the results of its “touting initiative”, launched in 2016 to get to grips with how firms use third-party endorsements, like awards, league tables and testimonials, in their marketing materials. The agency found firms were touting awards that had been won by submitting false information, rankings that were outdated (and therefore misrepresented the current situation) or awards and rankings for which the adviser had paid to enter.
The policies and procedures to ensure compliance with the Advertising Rule were found wanting, the SEC said. Advisors did not have the systems in place to check materials before publication, determine which data sets to use in performance calculations or confirm the accuracy of results.
The memo will make for worrying reading for some firms. What it does not tell us is how widespread the problems are; it only gives recurring themes rather than numbers of incidents. It also does not tell us whether the transgressions are more commonplace among private fund firms than other types of advisor (although some of the examples do identify private credit and private real estate managers).
So far the SEC has not issued fines, but has pushed managers to amend their documents to achieve compliance.
The risk alert is intended as a guide for managers to help them get their houses in order. A number of firms have already made strides in this regard, as we found out at Private Equity International’s Investor Relations Forum earlier this year.
It will be a worthwhile exercise; the SEC may not be so forgiving in the future.