A private equity firm agreed to pay a $1 Million civil penalty because marketing materials over-stated legacy performance. According to the SEC, the firm mis-characterized a prior investment as a direct investment rather than a third party private fund managed by a separate firm. The private fund investment significantly outperformed the legacy portfolio’s direct investments, thereby inflating the investment team’s track record. Although the firm had policies and procedures that prevented the use of misleading marketing materials, the SEC alleges that the firm failed to implement the policies by allowing the use of the inflated performance in marketing materials.
This is an example of what we call “compliance alchemy” i.e. the mere appearance of a compliance program without actual implementation. It does a firm no good to adopt stock language marketing policies and procedures if its marketing materials are actually misleading. A compliance program must implement, test and report on the policies and procedures and must demonstrate effectiveness in preventing regulatory violations.