Loyal readers of Radical Compliance know that I don’t give much credit to fears of CCO liability for compliance failures. Outside the financial services sector, the risks to a compliance officer are virtually zero, unless you’re grossly negligent or complicit in the misconduct.
Within the financial services world, compliance officers do have more worry—and then came a sanction from the SEC last week, slapping a compliance officer with a fine and industry bar. It’s just vague enough to leave us all frustrated as we try to divine what compliance liability risks really are.
The case involves Susan Diamond, chief compliance officer for Saddle River Advisers in 2014 and 2015. Saddle River was an investment advisory firm based in New Jersey, with about $85 million in assets under management by 2016. Saddle River made its money by persuading people to invest in employee-owned shares of Silicon Valley startups.
In March of 2016, the Securities and Exchange Commission accused Saddle River’s managers of running a Ponzi scheme. According to the complaint, Saddle River’s manager, John Bivona, diverted at least $5.7 million of investor money to cover personal expense of his nephew, Frank Mazzola. Some of those costs were Mazzola’s credit card bills, income taxes, a car loan, attorney fees, and the mortgage on a Jersey Shore vacation home.
Mazzola had already been barred from the investment business for prior misconduct at another firm, Felix Investments. The importance of this detail will be revealed shortly.
Diamond’s role in the meltdown? As chief compliance officer at Saddle River, she signed her name to the firm’s Form ADV—the registration document that financial advisory firms supply to the SEC and state regulators. As Bivona and his nephew ran their alleged Ponzi scheme, Diamond certified on their Form ADV submissions that:
- Yes, the firm’s financial statements were subject to annual audit;
- Yes, the financial statements were compiled according to U.S. GAAP;
- Yes, the audited financial statements were distributed to investors.
According to the SEC’s complaint against her, none of these statements were true. To top off matters, the firm Diamond named as its independent auditor actually only provided tax filing assistance. She even said the firm was registered with the PCAOB, another incorrect detail.
For those wrong answers, Diamond, 68, was hit with a $15,000 penalty and a nine-month suspension from working with any investment adviser or financial firm. And after that, she will be barred permanently from working as a compliance officer at broker-dealers and investment advisory firms. (As usual with SEC settlements, Diamond neither admitted nor denied any wrongdoing.)
In other words, Diamond’s career as a compliance officer is over.
To Hyper-Ventilate or Not?
At least a few voices in the compliance community have expressed dismay over Diamond’s case. At a high level, that worry isn’t unwarranted. If compliance officers really could see their careers end simply because they marked the wrong answer on a Form ADV filing, that’s harsh.
I’m just not sure that’s the scenario here.
There is a difference between holding compliance officers liable for failures beyond their control, and holding them accountable for failures within their control. Certifying the accuracy of a statement, without first bothering to confirm that it is accurate, seems like the latter to me.
Diamond provided wrong answers to basic questions. You can confirm an audit firm’s registration at the PCAOB with a visit to the agency’s website. You can determine whether financial statements were audited by asking for a copy of the auditor’s report.
What’s more, Diamond has a past history of problems with industry regulators. Before she worked at Saddle River Advisers, she was president and chief compliance officer of Felix Investments from 2009 to 2014. FINRA fined Diamond $10,000 in June 2014 for failure to supervise one of Felix’s representatives.
See, I told you we’d get back to Mazzola and Felix Investments.
We don’t know for a fact that Mazzola was the representative in question, but Saddle River is the successor firm to Felix. So we have a pattern here looks bad: a pattern of carelessness or inattention on Diamond’s part. That would be good reason to remove her from the compliance profession, which is what the SEC did. Barring her from the investment industry protects investors. That’s the SEC’s job.
If a compliance officer can’t determine whether a statement is false, then yes, liability seems improper. But Diamond had numerous ways to determine whether her Form ADV statements were true, without much effort. None of the documents related to her case suggest she did any of that work.
So yet again, we have an example of compliance officer liability that sets off alarm bells within the compliance community, and we also have enough facts to suggest this was a sanction the compliance officer deserved. So my skepticism about CCO liability continues.
(And a hat tip to Doug Cornelius, a compliance officer and great human being who runs his own blog at ComplianceBuilding.com. He first wrote about this case, and his blog is worth bookmarking.)