The website for private investment company Oppenheimer & Co. says the company traces its roots back to the 1870s and a gentleman named Harris C. Fahnestock. Mr. Fahnestock was apparently an investment advisor to President Abraham Lincoln. The website carefully documents the company’s founding in 1950 through the present. Not surprising, though, it makes no mention of the two recent SEC investigations into its operations. Nor does it mention that one of its young equity fund managers was recently charged with defrauding investors.
In the last fifteen months, the SEC has battled Oppenheimer in three separate cases. Let’s take a look at them.
SEC Charges OppenheimerFunds
First, in June 2012, Oppenheimer paid approximately $35 million to settle SEC charges against two of its investment management companies, OppenheimerFunds, Inc. and OppenheimerFunds Distributor, Inc. The SEC claimed that Oppenheimer Funds had made misleading statements about two of its mutual funds. Oppenheimer operated two mutual funds that used certain derivative instruments, known as “total return swaps.” The swaps involved commercial mortgage-backed securities. When the financial crisis occurred in 2008, Oppenheimer allegedly made misleading statements about the funds’ losses and their chances for recovery given that the underlying investments were mortgage-backed securities.
Lucky for Oppenheimer, its settlement last year came before the SEC started requiring defendants to admit liability for settlement. So, despite paying a penalty of $24 million, disgorgement of nearly $10 million and prejudgment interest of nearly $1.5 million, Oppenheimer did not have to admit it did anything wrong at all.
SEC Charges Oppenheimer Asset Management, Inc.
The battle between the SEC and Oppenheimer does not end there, however. In March 2013, the SEC charged Oppenheimer Asset Management, Inc. and Oppenheimer Alternative Investment Management, LLC. The two Oppenheimer entities paid $2.8 million to settle SEC charges that it had misled investors with respect to the Oppenheimer Global Resources Private Equity Fund (“OGR”). The facts underlying these charges are the same as against Brian Williamson, the fund’s manager, described in more detail below.
SEC Charges Brian Williamson
The third, and most recently, the SEC charged OGR’s portfolio fund manager, Brian Williamson. The SEC’s Order Instituting Proceedings alleges that between September 2009 and June 2010, Mr. Williamson made
material false and misleading statements and omissions to investors and prospective investors concerning the valuation of [OGR], a fund of private equity funds he managed.
The SEC order is based on two supposed types of misleading statements.
1. Misleading Internal Rate of Return Figures
The SEC alleges that Mr. Williamson sent prospective OGR investors a “pitch book” about the fund’s performance. That pitch book included data about OGR’s internal rate of return (“IRR”). According to the SEC, the pitch book included an IRR that did not take into account OGR’s fees and expenses. Had it included those fees and expenses, OGR’s IRR would have been much lower than reported.
For example, the reported IRR in materials sent to prospective investors in September 2009, included an IRR of 12.4%. Had all of the fees and expenses been taken into account, the actual IRR, according to the SEC, was 3.8% (or even -6.3% if fees paid to other Oppenheimer entities were included).
The pitch book did not disclose the fact that the IRR did not take these fees and expenses into account. Notably, the SEC does not allege that the pitch book expressly stated that the IRR did include those fees and expenses; it was apparently silent on this issue. Now, this may be a misleading omission, I know. But OGR marketed to sophisticated—very sophisticated—investors. So, I could see an argument that the statements were not false on their face, and, had a potential investor inquired further, Oppenheimer would have provided the investor with an IRR that took the fees and expenses into account.
2. Misleading Reported Rate of Return Figures
The second type of misleading statements alleged by the SEC against Mr. Williamson involved OGR’s valuation in both the pitch books and quarterly reports sent to existing investors. According to the SEC, the pitch book and quarterly reports disclosed that the reported values of OGR investments were “based on the underlying managers’ estimated values.” The SEC claims that Mr. Williamson created his own valuations for the investments and did not, in fact, use the estimated values from the underlying investments’ managers.
The key example in the Order is that of Cartesian Capital, as Cartesian was OGR’s single largest investment. Cartesian reported that its “fair value” was $6 million, which valued Cartesian’s shares as equivalent to their “cost.” In October 2009, Mr. Williamson allegedly increased the value of Cartesian in the marketing materials to approximately $9 million. The SEC says that “the $9 million valuation was Williamson’s own—not Cartesian Capital’s.” Williamson’s value was apparently based on the “par” value of the shares owned by Cartesian.
Maybe I’ve been a lawyer too long but the disclosure says that the reported value is “based on” what the underlying fund managers reported. The OGR disclosure did not say that the reported value is exactly what the underlying fund managers reported. Again, these are sophisticated investors. If they wanted to know how exactly OGR reached its valuation, then they could have asked.
In the End
My conclusions here would likely be different had the target of Mr. Williamson’s supposedly misleading statements been everyday investors with little sophistication or understanding of these types of disclosures. But, the target audience for these statements was very sophisticated and very able to ask questions if a disclosure was not clear. This doesn’t strike me as a slam-dunk win for the SEC, unless there are a bunch of internal emails document Mr. Williamson’s fraudulent intent.
This case may in fact end with a settlement, like so many SEC cases, but Mr. Williamson is well represented by counsel. Should he choose not to settle, he may actually have a fighting chance.