SEC Focusing on Marketing Misrepresentations

SEC v. Kapur Highlights Increased Focused of Examination

On November 10, 2011, the SEC filed in action in the US District Court for the Southern District of New York against Chetan Kapur (“Kapur”) and Lilaboc, LLC (“Lilaboc” or “t

he firm”). The SEC alleged that Kapur and Lilaboc overstated the performance, longevity, and assets of funds they managed as well as Kapur’s credentials as a manager and the due diligence procedures in place to safeguard investments.

The SEC’s complaint claims that Kapur and the firm made numerous misrepresentations in mailings, emails, postings on hedge fund websites, and marketing materials distributed to prospective investors.

The SEC asserted causes of action under Section 17(a) of the Securities Act (prohibiting fraudulent interstate transactions), Section 10(b) of the Exchange Act and related rules (prohibiting the use of manipulative and deceptive devices); Section 206(4) of the Advisers Act (prohibiting acts, practices or courses of business that are fraudulent, deceptive or manipulative), and for equitable relief.

The SEC’s complaint is available here: SEC v. Kapur.

Takeaways for Managers

The alleged misrepresentations included the following:

  • Overstating the performances of funds the firm managed, giving investors the false impression that the funds’ track records were consistently positive and minimally volatile;
  • Statements of the true inception dates of funds, routinely providing information about funds’ performances for years prior to the true creation of said funds;
  • Statements that certain individuals were involved as part of the

    firm’s management team, when in fact they were not affiliated with the firm in any way;

  • Statements that Kapur had an MBA from Wharton and had 15 years of experience in investing. In fact, Kapur only had an undergraduate degree from Wharton, and his claim of 15 years of experience in investing would have meant he began his career when he was 14 years old; and
  • Statements that the firm conducted high levels of due diligence, when in actuality the firm repeatedly failed to conduct due diligence resulting in investments in Ponzi schemes and other fraudulent offerings.

This action highlights several points for managers:

  • The SEC takes a broad approach to enforcing anti-fraud provisions of the securities laws, and managers should pay careful attention to the accuracy of the information provided in their marketing materials;
  • Do not lie in materials provided to prospective investors, including exaggerations about management qualifications, experience and funds’ performances;
  • Be sure to adhere to the procedures and policies you claim to follow; and
  • Maintain files of backup materials to document every factual statement made in your marketing materials.

Conclusion

Though Kapur encompasses a deeply troubling pattern of fraud and misrepresentation, the message from the SEC to managers is clear: managers should take care that the material they provide to prospective clients is accurate and avoid making claims that do not truly reflect the nature of their operations. We recommend that your attorney, in-house counsel or compliance consultant review all marketing materials prior to distributing them, and that you retain these materials and backup information in your files.

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Bart Mallon is a partner with Cole-Frieman Mallon & Hunt LLP, an investment management law firm. Bart can be reached directly at 415-868-5345.

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