Investment Firm’s Failure to Supervise, Excessive Charges Results in FINRA Order to Pay Multi-Million Dollar Restitution and Fine

Investment firms, brokerages, and other covered businesses must adhere to certain regulatory standards. When a client alleges that he or she has been the victim of fraud or improper action by a broker, brokerage, or investment firm he or she may bring a complaint before FINRA. Covered businesses and financial professionals who face allegations of this type can face an array of consequences including an order to pay restitution and fines. In certain cases, brokers and advisors can be barred from providing financial advisement services in the future.

In Department of Enforcement v. Purshe Kaplan Sterling Investments, (Disciplinary Proceeding No. 2014042291901), an investment firm faced allegations that its client, a native American tribe, paid excessive sales charges on purchases of non-traded Real Estate Investment Trusts (REITs) and Business Development Companies. The company agreed to a consent order to settle these allegations without admitting or denying the allegations set forth in the original complaint.

 

 

FINRA Determined that Firm’s Supervisory Failures Did Not Mitigate Risk of Conflicts

FINRA found that from July 2011 through at least January 15, 2015, the client’s registered representative was also the tribe’s Treasury Investment Manager. This dual role apparently allowed the representative/manager to make the misrepresentation that neither Purshe Kaplan Sterling (PKS) nor he would receive commissions on its purchases. Based on this misrepresentation which was made possible through supervisory oversights, the representative/manager induced an investment of more than $190 million into non-traded REITs and BDCs. The manager/representative earned a commission of at least $9 million due to these transactions.

In regard to these transactions, FINRA determined that PKS did not identify more than 200 instances where the tribe was entitled to receive purchase volume discounts. As a result of this failure, the tribe did not receive $3.3 million in discounts. These funds were instead distributed as commissions.

The court found an ongoing failure to supervise beginning in 2011 when the tribe first became a client of the firm. The court found that “PKS failed to perform an adequate review of Vungarala’s dual relationship with ST to determine whether this relationship heightened the risk of fraudulent conduct by Vungarala toward the tribe.” Because this review was not performed, no subsequent inquiry into how the firm could mitigate the risk presented by conflicts was performed.

In addition, the court found that from April 1, 2009, through at least October 31, 2014,  the firm did not have adequate supervision regarding volume discounting for the sale of all non-traded REITs and BDCs. Additionally, and specifically in this matter, the firm also failed to take reasonable steps to confirm the representative/manager’s claims that the client did not wish to leverage the volume discounts it was entitled to receive.

What Penalties Will the Firm Face to Settle the Allegations?

FINRA found that the activities described above violated PKS violated NASD Rule 3010 (a) and (b) (for conduct occurring prior to December 1, 2014), FINRA Rule 3110 (a) and (b) (for conduct occurring on and after December 1, 2014) and FINRA Rule 2010. To settle the matter, PKS agreed to repay approximately $3.4 million in restitution. The firm also agreed to pay a fine of $750,000 imposed due to the supervisory failures.

Businesses should review their supervisory procedures to ensure that they adequately address conflicts and other potential issues. To discuss how Attorney William Heyman can put his more than 20 years of practical legal experience to work for your business, please call the Baltimore-based Law Office of William S. Heyman at (410) 305-9287.