Wednesday, June 1, 2005

Smith Barney Earned Money the Old Fashion Way -- They Defraud Investors For It

The old John Houseman commercials for Smith Barney were classic examples of branding, using a catchy slogan ("They make money the old fashion way. They earn it!") to establish an identity for a firm engaged essentially in commodity transactions.  The SEC filed an action against the firm and its parent, Citigroup, for engaging in self-dealing transactions in its mutual funds, as described in the SEC's Cease-and-Desist Order (here):

This is a case about an investment adviser placing its interest in making a profit ahead of the interests of the mutual funds it serves. Investment advisers have a fiduciary duty to act in the best interests of the mutual funds they advise and their shareholders. Mutual funds pay fees for various services provided to the mutual funds, including transfer agent services. Among its duties, the adviser may advise fund boards about the retention of a particular transfer agent and how much to pay for the transfer agent’s services. In this case, the Adviser, which serves as investment adviser to the Smith Barney Family of Funds (the "Funds"), recommended the Funds contract with an affiliate of the Adviser, which would perform limited transfer agent services and sub-contract with the Funds’ existing transfer agent. The existing transfer agent would perform almost all of the same services it had performed previously, but at deeply discounted rates, permitting the affiliate of the Adviser to keep most of the discount for itself and make a high profit for performing limited work. In making this recommendation, the Adviser misled the boards by omitting material facts, which led the boards to believe that the Adviser’s recommendation was made in the Funds’ best interests, which was not true. This self-interested proposal permitted the Adviser and its affiliates to profit from the transfer agent function at the expense of the Funds.

Citigroup agreed to disgorge profits of $109 million, plus prejudgment interest of $19 million, and to pay a civil penalty of $80 million. That's a hefty price for misleading investors, and certainly not meeting that other old fashion requirement of an investment advisor: acting as a fiduciary.(ph)

Civil Enforcement, Fraud, Securities | Permalink

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