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UNITED STATES OF AMERICA
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In the Matter of Edward D. Jones & Co., L.P., Respondent. |
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ORDER INSTITUTING ADMINISTRATIVE AND CEASE-AND-DESIST PROCEEDINGS, MAKING FINDINGS, AND IMPOSING REMEDIAL SANCTIONS AND A CEASE-AND-DESIST ORDER PURSUANT TO SECTION 8A OF THE SECURITIES ACT OF 1933 AND SECTIONS 15(b) AND 21C OF THE SECURITIES EXCHANGE ACT OF 1934 |
The Securities and Exchange Commission ("Commission") deems it appropriate and in the public interest that public administrative and cease-and-desist proceedings be, and hereby are, instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Sections 15(b) and 21C of the Securities Exchange Act of 1934 ("Exchange Act") against Edward D. Jones & Co., L.P. ("Edward Jones" or "Respondent").
In anticipation of the institution of these proceedings, Respondent has submitted an Offer of Settlement (the "Offer") which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceedings brought by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the findings herein, except as to the Commission's jurisdiction over it and the subject matter of these proceedings, Respondent consents to the entry of this Order Instituting Administrative and Cease-and-Desist Proceedings, Making Findings, and Imposing Remedial Sanctions and a Cease-and-Desist Order Pursuant to Section 8A of the Securities Act of 1933 and Sections 15(b) and 21C of the Securities Exchange Act of 1934 ("Order"), as set forth below.
On the basis of this Order and Respondent's Offer, the Commission finds1 that:
1. Edward Jones is a Missouri limited partnership that has been registered with the Commission as a broker-dealer pursuant to Section 15 of the Exchange Act since 1941. It is also a member of the National Association of Securities Dealers ("NASD") and the New York Stock Exchange ("NYSE"). Edward Jones' principal offices are located in St. Louis, Missouri. It has more than 8,000 branch offices staffed primarily by one or two registered Investment Representatives ("IRs") that provide retail brokerage services throughout the United States, Canada and the United Kingdom. Edward Jones is the principal operating subsidiary of the Jones Financial Companies, L.L.L.P. ("Jones Financial"), a Missouri limited partnership whose limited partnership interests are registered under Section 12(g) of the Exchange Act. Jones Financial holds all of Edward Jones' partnership equity. Jones Financial is comprised of approximately 275 general partners, 5,021 limited partners and 146 subordinated limited partners.
2. Edward Jones is one of the largest sellers of brokerage-sold mutual funds in the United States. Half of all of Edward Jones' customers' assets are invested in mutual funds held in brokerage accounts and college savings plans established under Section 529 of the Internal Revenue Code ("529 plans"). Edward Jones' customers hold onto their investments for a lengthier period of time than customers at other broker-dealers. Edward Jones has selling agreements with approximately 240 mutual fund families which permit its IRs to sell at least 1,930 different mutual funds.
3. Prior to the late 1980s, Edward Jones had internally designated certain of the mutual fund families with which it had selling agreements as "recommended." In the late 1980s, Edward Jones approached certain of those mutual fund families ("Preferred Families") with which it had long-standing relationships and sought to obtain revenue sharing from them. Edward Jones set an internal revenue sharing target of 25% of the advisory fees earned by those mutual fund families on the mutual fund assets purchased or held by Edward Jones' customers, plus in most instances sought an equity interest in their advisers or distributors.
4. By the early 1990s, six mutual fund families had agreed to make revenue sharing payments to Edward Jones. Between 1993 and 1996, Edward Jones removed one of these fund families and added two new fund families to the list of Preferred Families, raising the total number of Preferred Families to seven.
5. Each of these fund families agreed to make revenue sharing payments to Edward Jones in varying amounts up to and in several cases meeting Edward Jones' target of 25% of the advisory fees for assets purchased or held by Edward Jones' customers. These fees were calculated in various ways and by various measures, including: a flat fee determined by the fund family based on the total fund assets held by Edward Jones' customers; 7.5 to 10 basis points of average fund assets held by Edward Jones' customers in a given year; 12.5 basis points on the gross sales of a Preferred Families' mutual funds made by Edward Jones to its customers in a given year; or 25% of the advisory fee attributable to the average assets of certain Preferred Families' mutual funds held by Edward Jones' customers in a given year. One of the Preferred Families also agreed to provide Edward Jones an equity interest of at least 5% in the distributor of its mutual funds if Edward Jones reached a certain threshold of sales of its mutual funds, this was later changed to profit participation.
6. Revenue sharing was a material factor, among others, in the selection of at least two of the Preferred Families. Revenue sharing was also a material factor, among others, with respect to the retention of fund families as Preferred Families. Edward Jones periodically sought to negotiate additional revenue sharing payments from its Preferred Families.
7. Edward Jones' revenue sharing agreements with the Preferred Families are and have been highly profitable to Edward Jones. Between 1999 and the present, the firm has collected tens of millions of dollars in revenue sharing payments from the Preferred Families each year. Most of these payments have been paid directly to Edward Jones from the assets of the advisers or distributors associated with the Preferred Families. However, for a portion of this time period, Edward Jones also accepted millions of dollars in directed brokerage commissions or "step-outs" from three of the Preferred Families for distribution of mutual fund shares. In these instances, the advisers of these Preferred Families instructed the brokerage firm executing portfolio transactions for their mutual funds to "step out" of the transactions and direct a portion of the commissions for the transactions to Edward Jones. These directed brokerage payments ceased in 2003.
8. Edward Jones' distributed 11% to 12% of its net income, which includes net revenue sharing, to its limited partners and 10% to 12% of its net income to its subordinated limited partners each year and the residual is distributed to the general partners. Thus, the majority of any revenue sharing received by Edward Jones, after operating expenses, was distributed to the firm's general partners, some of whom make decisions regarding which mutual fund families become "Preferred Families" and others of whom are Edward Jones IRs who recommend the Preferred Families to their customers. During 2003 alone, the revenue sharing received by Edward Jones was equivalent to 33% of the net income of Edward Jones' parent holding company, Jones Financial.
9. Out of the approximately 240 mutual fund families with which Edward Jones has selling agreements, only the seven Preferred Families make revenue sharing payments to Edward Jones. These payments are in addition to standard sales loads, commissions, Rule 12b-1 fees, expense reimbursements and sub-transfer-agent fees for maintaining customer account information. Edward Jones does not receive any revenue sharing payments from any non-preferred mutual fund families. Historically, 95% to 98% of Edward Jones' sales of mutual fund shares have been sales of the Preferred Families.
10. Edward Jones and its partners have a financial incentive to internally promote the sales of mutual funds from the Preferred Families over other mutual funds that its IRs can sell. Edward Jones promoted to IRs the existence of revenue sharing by the Preferred Families and encouraged IRs on a case-by-case basis to consider revenue sharing in making recommendations to their customers to purchase certain mutual funds.
11. For example, during the relevant time period, Edward Jones' Director of Mutual Fund Marketing described his "greatest contribution to the Firm's bottom line" as "the Department's ability to continue the focus on selling preferred fund families and the subsequent leverage this gives us to negotiate revenue sharing programs with vendors." He also represented to the IRs that Edward Jones directly passes the revenue sharing income along to the "IRs who did the work to get the money in the first place."
12. During the "rollouts" of the two newest Preferred Families, a general partner of the firm also made broadcast presentations to IRs throughout the country further extolling the benefits the IRs receive from the revenue sharing agreements negotiated with these Preferred Families.
13. At least one newsletter distributed by an Edward Jones regional leader conveyed this message by describing how "[r]evenue sharing can contribute large benefits to the firm in terms of profit and bonus." In a January 2000 regional newsletter, a regional leader further promoted the sales of mutual funds from Preferred Families that provide revenue sharing payments over those that do not provide revenue sharing by describing how, over a ten year period, an IR would receive an additional $256,369 in profit from the sales of such mutual funds. During regional and other meetings, another of Edward Jones' regional leaders, who was also a general partner, encouraged IRs in his region to sell the mutual funds of one Preferred Family over the funds of another Preferred Family that paid less revenue sharing.
14. Edward Jones' IRs receive credits for the amount of revenue sharing that Edward Jones receives from the IRs' proportionate sales and customer holdings of funds from the Preferred Families. These credits were not directly paid to IRs, but were applied as a separate line item to the profit and loss statements ("P&Ls") prepared for each IR's office. These P&Ls are distributed monthly to the IRs and track their profitability to the firm. An IR's profitability to the firm determines whether the IR is successful at Edward Jones and is used as a factor in determining whether the IR will be considered for status as a limited partner. In addition, three times per year, Edward Jones' IRs are eligible to receive bonuses based, in part, on their overall profitability which is impacted by their revenue sharing credits. For an IR to receive a bonus in any of Edward Jones' three annual bonus periods, both the firm and the particular IR's office must be profitable during the period. In addition, if an IR has worked for Edward Jones for more than 30 months, the IR also needs to make at least $4,000 in profits to become eligible for a bonus. Edward Jones' top-producing IRs have received as much as an additional $5,000 per bonus period as the part of their bonuses based directly on revenue sharing payments attributable to the IRs' sales and customer holdings of funds from the Preferred Families to their retail customers.
15. Edward Jones further offers "diversification contest" trips to its IRs two times each year. During these contests, the IRs can qualify for a trip by earning points based on, among other things, their sales of mutual funds. Once an IR earns a specific number of points, the IR "wins" a trip. Although the IRs generally can earn contest points for selling any mutual funds or other investment product, for a ninety-day period in the fall of 2002, Edward Jones only gave mutual fund contest points for the sale of a subset of mutual funds from the Preferred Families. One or more of the Preferred Families always participate in the sponsorship of the diversification trips and make one short training presentation for the IRs during each trip. Sponsorship of these trips and other meetings provide the Preferred Families with exclusive access to and visibility with the IRs.
16. The Preferred Families receive certain benefits not otherwise available to non-preferred families. First, Edward Jones exclusively promotes the seven Preferred Families on its public website and exclusively provides links to the Preferred Families' websites on Edward Jones' internal computer system accessible only to its IRs. Second, Edward Jones exclusively lists the Preferred Families in sales literature and newsletters provided to its customers. Third, Edward Jones provides its IRs with research on only the seven Preferred Families and maintains a "Preferred Funds List" containing the names of approximately 110 mutual funds within the Preferred Families that Edward Jones' Product Review department recommends for sale to Edward Jones' retail customers. Only funds from the seven Preferred Families are considered for inclusion on this list. The Product Review department does not review any mutual funds from fund families that are not Preferred Families for this "Preferred Funds List." Fourth, Edward Jones uses only the Preferred Families as examples in its internal training sessions for new IRs and only invites representatives from the Preferred Families to make presentations at these training sessions. Finally, Edward Jones facilitates exclusive direct access for the Preferred Families to its IRs for the dissemination of marketing materials and to answer IRs' questions regarding the funds offered by the Preferred Families.
17. The mutual fund section of Edward Jones' public website lists only the seven Preferred Families and provides links to only the Preferred Families' websites. In addition, since approximately 1997, Edward Jones has claimed on its public website that it focuses on the seven Preferred Families because: "With nearly 11,000 mutual funds available, it can be difficult to know which fund(s) to pick. That's why at Edward Jones, we focus on seven preferred mutual fund families that share our same commitment to service, long-term investment objectives, and long-term performance."
18. During the same time period, Edward Jones did not disclose on its website or in any other written document that it prepared, the revenue sharing, directed brokerage payments and other payments received from the Preferred Families for distribution of mutual fund shares as described above. Edward Jones also did not disclose the dimensions of the potential financial conflict created by these payments.
19. Edward Jones and its IRs do not orally disclose to customers the revenue sharing, directed brokerage or other payments received by Edward Jones in connection with the distribution of mutual fund shares or the potential conflict of interest such payments create.
20. Instead, Edward Jones claimed to rely on language contained in the Preferred Families' prospectuses and Statements of Additional Information ("SAIs") to disclose revenue sharing arrangements. At all relevant times, Edward Jones required its IRs to provide customers with a prospectus at the point-of-sale or with the confirmation of sale of any mutual fund; however, the firm did not require its IRs to provide and IRs did not provide customers with copies of SAIs unless a customer specifically requested a copy.
21. Many of the Preferred Families' prospectuses and SAIs fail to disclose adequate information about the source and the amount of the revenue sharing payments to Edward Jones and the dimensions of the resulting potential conflicts of interest. Although the Preferred Families' prospectuses and SAIs contained various disclosures concerning payments to broker-dealers distributing their funds, few of these disclosures adequately described Edward Jones' potential conflict of interest.
22. During the relevant time period, Edward Jones also has not had sufficient procedures in place to ensure that someone with appropriate knowledge, experience and authority reviews the prospectuses and SAIs of the mutual funds offered by the Preferred Families to determine if they adequately disclose revenue sharing and directed brokerage payments made to Edward Jones or the other incentives offered to Edward Jones by the Preferred Families.
23. Since 2000, Edward Jones has offered and sold 529 college savings plans to its customers. Offers and sales of 529 plans are municipal securities transactions. Prior to September 2004, Edward Jones stated on its public website that "the 529 plans available through Edward Jones" were three plans offered by three of its Preferred Families. Also, prior to September 2004, Edward Jones provided additional detailed information on its public website about only these three 529 plans. Edward Jones did not list or provide information on its website regarding any of the other numerous 529 plans that it could sell.
24. Edward Jones currently has selling agreements with 14 mutual fund companies to sell their 529 plans. However, Edward Jones promotes only the 529 plans of the Preferred Families that offer 529 plans, two of which pay additional revenue sharing to Edward Jones for sales of 529 plans. Edward Jones expressly encourages its IRs to sell only the 529 plans of the Preferred Families. In internal notices to its IRs announcing the availability of 529 plans from non-preferred families, Edward Jones explicitly states: "Edward Jones will continue to promote only our preferred vendors' 529 plans . . . Although we have a selling agreement with [another 529 plan], they are not one of our preferred vendors. However, if one of your clients feel [sic] the advantages of [another 529 plan] are important factors in their decision, you can sell it." In addition, Edward Jones has made it easier for its IRs to sell and service the Preferred Families' 529 plans versus non-preferred 529 plans.
25. At the same time, Edward Jones has failed to disclose on its website or in any other written documents prepared by Edward Jones, including confirmations of 529 plan sales, the material financial incentives to Edward Jones, its partners and its IRs to sell 529 plans from certain of the Preferred Families over other 529 plans that Edward Jones could sell.
26. Based on the conduct described above, Edward Jones willfully violated:
27. By virtue of its sales of 529 college savings plans, as described above, Edward Jones also contravened the dictates of Municipal Securities Rulemaking Board ("MSRB") Rule G-15, which requires a broker or dealer to send or give a written confirmation to its customer, at or before the completion of a municipal securities transaction, that discloses, among other things, either: "(A) the source and amount of any remuneration received or to be received . . . by the broker [or] dealer . . . in connection with the transaction from any person other than the customer, or (B) a statement indicating whether any such remuneration has been or will be received and that the source and amount of such other remuneration will be furnished upon written request of the customer."
28. Edward Jones undertakes the following:
In determining whether to accept the Offer, the Commission has considered this undertaking:
In view of the foregoing, the Commission deems it appropriate and in the public interest to impose the sanctions agreed to in Edward Jones' Offer.
Accordingly, pursuant to Section 8A of the Securities Act and Sections 15(b) and 21C of the Exchange Act, it is hereby ORDERED that:
A. Edward Jones is censured.
B. Edward Jones shall cease and desist from committing or causing any violations and any future violations of Section 17(a)(2) of the Securities Act, Section 15B(c)(1) of the Exchange Act and Rule 10b-10 thereunder and MSRB Rule G-15.
C. IT IS FURTHER ORDERED that:
D. Edward Jones shall comply with the undertakings enumerated in Section III.28(a) through (q).
By the Commission.
Jonathan G. Katz
Secretary
http://www.sec.gov/litigation/admin/33-8520.htm
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