SEC Charges Pimco Entities with Failing to Disclose Their Use of Directed Brokerage to Pay for Shelf Space at Brokerage Firms
FOR IMMEDIATE RELEASE
The Entities Pay Over $11.6 Million to Settle SEC Action
Washington, D.C., Sept. 15, 2004 -- The Securities and Exchange Commission announced today a settled enforcement action against the investment adviser, sub-adviser, and principal underwriter and distributor for the PIMCO Funds Multi-Manager Series funds (the PIMCO MMS Funds). The suit charges the entities with failing to disclose to the PIMCO MMS Funds' Board of Trustees and shareholders material facts and conflicts of interest that arose from their use of directed brokerage on the PIMCO MMS Funds' portfolio transactions to pay for "shelf space" arrangements with selected broker-dealers.
The entities, PA Fund Management LLC (PAFM), PEA Capital LLC (PEA) and PA Distributors LLC (PAD), agreed to pay over $11.6 million in disgorgement and penalties and to undertake significant disclosure and compliance reforms. PAFM is the adviser for the PIMCO MMS Funds, PEA is sub-adviser for seven of the PIMCO MMS Funds, and PAD is the principal underwriter and distributor for the PIMCO MMS Funds and other funds in the PIMCO fund complex.
Stephen M. Cutler, Director of the SEC's Division of Enforcement, stated, "An investment adviser's undisclosed use of mutual fund assets to defray the adviser's, or an affiliated distributor's, own marketing expenses is a breach of the adviser's duty. Our action today — like the action brought by the Commission against Massachusetts Financial Services Company some six months ago — demonstrates the Commission's resolve to ensure that mutual fund shareholders know how their money is being spent."
Ari Gabinet, head of the SEC's Philadelphia Office, added, "When mutual fund advisers pay for shelf space arrangements by using directed brokerage on fund portfolio transactions, they must disclose those arrangements. If they fail to do so, as the PIMCO entities failed to do in this case, we will bring charges for violations of the securities laws."
To resolve the charges against them, PAFM, PEA, and PAD agreed to pay $6,602,000 in disgorgement, corresponding to the amount of money saved by using the PIMCO MMS Funds' brokerage to discharge shelf space obligations. The disgorgement will be distributed to the affected PIMCO MMS Funds. PAFM and PAD also agreed to pay a $4 million penalty, and PEA agreed to pay a $1 million penalty. PAFM, PEA and PAD also agreed to undertakings designed to improve compliance and disclosure, including monitoring and disclosing conflicts of interest.
The Commission's Order finds that between 2000 and 2003, PAD, with the knowledge and approval of PAFM, entered into shelf space arrangements with more than 50 broker-dealers. Under those arrangements, PAD agreed to pay the broker-dealers based upon individually negotiated formulas relating to gross fund sales and/or the retention of fund assets in exchange for heightened visibility for the PIMCO MMS Funds and other PIMCO funds within the broker-dealers' distribution systems. Although most of the payments for shelf space arrangements were made in cash out of the assets of PAD, PAFM and PAD requested that PEA direct brokerage on PIMCO MMS Funds' portfolio transactions to certain broker-dealers who accepted brokerage commissions in lieu of cash at ratios between 1.2 and 1.5 to 1.
The use of fund assets to defray PAD's shelf space expenses should have been disclosed to the PIMCO MMS Funds' Board and to shareholders. This arrangement created a conflict of interest that PAFM, as a fiduciary, was obliged to disclose. PEA, also a fiduciary that was responsible for investing fund assets and directing brokerage, had an obligation to alert the Board to the fact that PAFM and PAD had asked that fund assets be used for PAD's benefit. In addition, PAD had an obligation to identify the use of directed brokerage for distribution in connection with the Board's review and approval of the PIMCO MMS Funds' Rule 12b-1 distribution plans so that such financing arrangements could be described in the plans. Moreover, PAFM, PEA and PAD failed to ensure that each fund's brokerage commissions were used to support only the distribution of that fund, and instead allowed the brokerage commissions paid by some PIMCO MMS Funds to subsidize the distribution of the shares of other funds in the PIMCO complex.
The Commission found that this conduct resulted in violations of the federal securities laws. In particular, PAFM and PEA violated, and PAD aided and abetted and caused PAFM's and PEA's violations of Section 206(2) of the Investment Advisers Act of 1940; PAFM's failure to disclose the use of directed brokerage in connection with the renewal of its advisory agreement and in the funds' prospectuses or statement of additional information, violated Sections 15(c) and 34(b) of the Investment Company Act of 1940; by permitting the unauthorized cross-subsidization of distribution, PAFM, PEA and PAD violated Section 17(d) of the Investment Company Act and Rule 17d-1 thereunder; and by failing to disclose the use of directed brokerage to pay for distribution, PAD violated Rule 12b-1(d) under the Investment Company Act and aided and abetted and caused the PIMCO MMS Funds' violations of Section 12(b) of the Investment Company Act and Rule 12b-1(b) thereunder.
PAFM, PEA and PAD have consented to the issuance of the Order, without admitting or denying the findings contained therein. They have also agreed to be censured and to cease and desist from committing or causing any violations and any future violations of the above referenced provisions.
This enforcement action has been coordinated with the Attorney General of the State of California, which is bringing its own, related action today.
Contact Persons:See Also: Administrative Proceeding Release No. 34-50384
Ari Gabinet, District Administrator
Elaine C. Greenberg, Assistant District Administrator
Philadelphia District Office