Legal Advice Not Enough for Adviser to Avoid SEC Sanctions

Undisclosed conflicts of interest have been a key focus of OCIE exams of investment advisers. Those undisclosed conflicts have resulted in a series of enforcement actions against advisers. The Commission’s most recent case involving an adviser who failed to disclose a conflict but did obtain legal advise prior to commencing the transaction involved. In the Matter of Marshall G. Eichenauer, Jr., Adm. Proc. File No. 3-18200 (Sept. 22, 2017).

Marshall Eichenauer is the founder, president and sole owner of Sagent Wealth Management, LLC, also a Respondent. The firm is a registered investment adviser. Mr. Eichenauer also formed two investment funds in 2010. One was Sagent Private Investment Fund I, LLC. The other was Sagent Fund Management LLC.

Respondents provided investment advisory services to about 300 clients. When Sagent Private Investment was formed, its investors included 34 of Sagent’s advisory clients and another five investors. A total of about $1.5 million was raised. About $600,000 of the capital was held in cash and diversified investments such as mutual funds. These investments were known as the Balanced Fund which was set aside so that Sagent Private Investment could provide liquidity to investors if they sought to withdraw.

Throughout the period Sagent Private Investment paid Mr. Eichenauer or Sagent advisory management fees. Under Sagent’s operating agreement Mr. Eichenauer was entitled to receive an annual distribution of $450,000 in quarterly installments. Beginning in July 2012 Sagent also paid Mr. Eichenauer an annual salary of $100,000.

In 2011 and 2012 Sagent did not generate sufficient revenue to pay Mr. Eichenauer’s distribution payments. Beginning in March 2012 Mr. Eichenauer sold large portions of Sagent Private Investment’s publicly traded securities held in the Balance Fund. The proceeds were loaned to Sagent so that firm could pay at least a portion of Mr. Eichenauer’s distribution payments. The loans were documented in five promissory notes beginning in September 2012 and continuing through January 2015, totaling of $326,650. The Balance Fund was reduced to less than $1,000 by January 2015.

Prior to making the loans to Sagent, Mr. Eichenauer consulted counsel. Specifically, counsel was consulted about whether investor consent was required for the loans. Counsel advised it was not based on the operating agreement. Counsel was not consulted about whether the loans should be disclosed. They were not. Indeed, investors were not informed about the loans until after the first loan was made in March 2012. At that point, and thereafter for the balance of the year, investors were given quarterly updates of limited information about the loans which characterized them as fixed investments that would pay a “handsome rate of return.” Neither Mr. Eichenauer nor Sagent disclosed the conflict of interest “that the primary purpose of each loan was to pay Eichenaauer’s distributions,” according to the Order.

In May 2016 during an OCIE exam, Respondents liquidated and closed Sagent Private Investment Fund. Sagent also repaid the $315,000 loan balance of that Fund. Mr. Eichenauer paid Sagent Private Investment’s final expenses and closing audit and distributed the proceeds to its investors. Saganet Private Investment was terminated. The Order alleges violations of Advisers Act Sections 206(2), 206(3) and 206(4).

In resolving the matter, Respondents agreed to implement a series of undertakings. Those included distributing $16,110.31 to Sagent Private Investment investors, the retention of an independent compliance consultant who will compile a report on Respondents procedures and conduct an annual report and provide notice of advisory clients of this action. Respondents also consented to the entry of a cease and desist order based on the Sections cited in the Order and to a censure. They will pay, jointly and severally, disgorgement of $15,380, prejudgment interest and a penalty of $165,000.

Programs

Seminar: Annual Private Funds Symposium, September 27, 2017, New York City, here

Webcast: Securities Issues & the Supreme Court: A Look Back and Ahead, by Tom Gorman; Celesq and West Legal Ed, September 28, 2017, here