==========================================START OF PAGE 1====== UNITED STATES OF AMERICA Before The SECURITIES AND EXCHANGE COMMISSION Securities Act of 1933 Release No. 7308 / June 27, 1996 Securities Exchange Act of 1934 Release No. 37376 / June 27, 1996 Investment Advisers Act of 1940 Release No. 1568 / June 27, 1996 Administrative Proceeding File No. 3-9033 ----------------------------------- : ORDER INSTITUTING : PUBLIC ADMINISTRATIVE : PROCEEDINGS PURSUANT TO In The Matter of : SECTION 8A OF THE : SECURITIES ACT OF 1933, PORTFOLIO MANAGEMENT CONSULTANTS, : SECTIONS 15(b), 19(h) INC. and : AND 21C OF THE SECURITIES KENNETH S. PHILLIPS, : EXCHANGE ACT OF 1934 AND : SECTIONS 203(e), 203(f) Respondents. : AND 203(k) OF THE : INVESTMENT ADVISERS ACT : 0F 1940, MAKING FINDINGS, : IMPOSING REMEDIAL : SANCTIONS AND PENALTIES : AND CEASE-AND-DESIST : ORDER ------------------------------------ I. The Securities and Exchange Commission ("Commission") deems it appropriate and in the public interest that public proceedings be instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act"), Sections 15(b), 19(h) and 21C of the Securities Exchange Act of 1934 ("Exchange Act") and Sections 203(e), 203 (f) and 203(k) of the Investment Advisers Act of 1940 ("Advisers Act") against Portfolio Management Consultants, Inc. and Kenneth S. Phillips ("Respondents"). In anticipation of these proceedings, Respondents have submitted Offers of Settlement, 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 in which the Commission is a party, prior to a hearing pursuant to the ==========================================START OF PAGE 2====== Commission's Rules of Practice 17 CFR 201.1 et seq., Respondents, by their Offers of Settlement, without admitting or denying the Commission's findings except for the facts contained in Section III.A. through III.G. below, which are admitted, consent to the entry of this Order Instituting Public Administrative Proceedings, Making Findings, Imposing Remedial Sanctions and Penalties and Cease and Desist Order ("Order"). II. Accordingly, IT IS HEREBY ORDERED, that proceedings pursuant to Section 8A of the Securities Act, Sections 15(b), 19(h) and 21C of the Exchange Act and Sections 203(e), 203(f) and 203(k) of the Advisers Act be, and they hereby are, instituted. III. On the basis of this Order and the Offers of Settlement submitted by the Respondents, the Commission finds that:-[1]- A. Portfolio Management Consultants, Inc. ("PMC") is a Colorado corporation with its principal place of business in Denver, Colorado. PMC is a wholly-owned subsidiary of PMC International, Inc. ("PMCI"). PMCI's common stock is registered with the Commission pursuant to Section 12(g) of the Exchange Act and is traded over the counter. B. PMC first registered with the Commission as a broker- dealer pursuant to Section 15(b) of the Exchange Act on February 20, 1987 and remained so registered during all times relevant to this matter. PMC first registered with the Commission as an investment adviser pursuant to Section 203(c) of the Advisers Act on April 17, 1987 and remained so registered during all times relevant to this matter. C. At all times relevant to this proceeding, PMC was a member of the National Association of Securities Dealers, Inc. and was engaged primarily in the business of acting as an investment adviser and rendering "investment supervisory services." PMC has never acted as an underwriter or market maker with respect to any security. D. Marc N. Geman ("Geman") was Chairman of the Board and Chief Executive Officer of PMC from in or about 1990 to July 1995. ---------FOOTNOTES---------- -[1]- The findings herein are made pursuant to PMC's Offer of Settlement and Phillips' Offer of Settlement and are not binding on any other person or entity named as a respondent in this or any other proceeding. ==========================================START OF PAGE 3====== E. Kenneth S. Phillips ("Phillips") is a director and the President of PMC, positions he has held since in or about December 1985. F. At all times relevant to this proceeding, PMC's primary business activity consisted of sponsoring a comprehensive "individualized managed accounts" service commonly referred to as a wrap fee program ("Program"). PMC serviced approximately 800 clients enrolled in the Program with over $200 million under management.-[2]- PMC's clients each paid a single all- inclusive fee equal to a percentage of the respective client's assets invested, in return for full participation in the Program. PMC represented to clients that the wrap fee covered all brokerage, advisory and custodial services performed by PMC, independent portfolio managers ("Program Managers") and other service providers chosen by PMC to be affiliated with the Program. This representation was consistent with the terms of the standard PMC client service agreement which stated that all products and services offered under the Program were provided in consideration of the fixed wrap fee. PMC did not recommend particular securities to a client. PMC only advised and assisted clients in allocating assets among one or more of the Program Managers selected by each client. Each Program Manager had complete investment discretion with respect to that portion of the client's funds for which it had responsibility. PMC monitored portfolio and Program Manager performance and periodically reported the results to respective clients. PMC also functioned as a nondiscretionary executing broker for the Program, executing unsolicited transactions for its wrap fee clients upon instructions from the Program Managers. In that regard, the client service agreement stated, "[i]n effecting securities transactions through PMC as broker-dealer, Client acknowledges that PMC may, to the extent permitted by applicable law, while acting as principal, execute purchase or sale orders received from the Portfolio Manager. Client expressly authorizes PMC to effect such transactions." However, PMC did not maintain an inventory of securities and did not buy or sell securities independent of its activities as a Program broker-dealer. G. Geman and Phillips at all times relevant to this case had separate areas of responsibility at PMC. Geman had primary ---------FOOTNOTES---------- -[2]- The clients of PMC referred to in this Order are those clients with whom PMC had a contractual relationship as wrap fee sponsor. PMC also provided certain services for clients with whom PMC had no contractual relationship (the "non-privity" clients), such as acting as an executing broker under the instructions of an independent wrap fee sponsor and a portfolio manager selected by the customer. This Order does not deal with PMC activities in connection with non-privity clients. ==========================================START OF PAGE 4====== oversight of regulatory compliance, accounting, finance, trading and operations. Phillips was responsible for marketing services, portfolio manager relations, performance measurement and research. In connection with his oversight of trading operations, Geman conceived, developed and implemented principal trading at PMC and established the policies and procedures covering execution of orders and reporting trades to clients and regulatory agencies. H. PMC assumed the duties and fiduciary responsibilities of an investment adviser with respect to its wrap fee clients upon their enrollment in the Program. An investment adviser cannot secretly profit from the subject matter of the fiduciary relationship. Further, a fiduciary in a potentially conflicting position with a beneficiary must refrain from putting its interests ahead of the beneficiary's, absent informed consent. Disclosure of all material facts is the basis for informed consent. I. PMC also served as the executing broker-dealer for substantially all orders written by Program Managers. As discussed in Paragraph F. above, PMC was compensated in advance for executing all client orders routed to the PMC trading desk. When an agent acts on behalf of a principal in a transaction, the agent has an affirmative duty to exercise reasonable care to obtain for the principal the most advantageous terms available under the circumstances. In its role as the Program broker- dealer, PMC assumed the responsibility of obtaining best execution for its clients. In this regard, PMC made affirmative written representations in its promotional materials and standard client service agreement that PMC would endeavor to obtain, variously, "best execution", "best price execution" and "best net price" on each client's behalf. J. Prior to October 1992, PMC effected all securities transactions on behalf of its clients on an agency basis. From on or about October 1, 1992 to on or about April 22, 1994, PMC effected 89,165 securities transactions, of which 8,264 were principal transactions. Principal transactions were entered into, primarily with third market dealers,-[3]- to offset contemporaneous principal transactions with wrap fee clients. The trades executed by PMC with its clients on a principal basis originated as market orders from Program Managers exercising exclusive discretionary trading authority over PMC's wrap fee clients' portfolios. The personnel on PMC's trading desk had -[3]- The third market consists of market makers engaged in over-the-counter trading of exchange-listed securities. ==========================================START OF PAGE 5====== complete discretion to execute such orders on either a principal or agency basis. Orders executed for clients by PMC acting as principal were routinely entered at the prevailing national best bid or offer ("NBBO").-[4]- In contemporaneous offsetting principal trades, PMC sought better prices for its own account by routing limit orders to third market dealers at prices more favorable to PMC than NBBO prices. The majority of the offsetting orders for PMC's account were filled by third market dealers at the more favorable prices. In this manner, PMC generated net trading profits in an amount to be determined pursuant to the procedures set forth in Section IV.A.2. of this Order. K. PMC routinely executed orders with its wrap fee clients at the NBBO. In contemporaneous offsetting transactions, PMC's traders sought out, and in most instances obtained, a superior price in the third market. PMC kept these gains for itself, rather than giving its clients the benefit of the more favorable execution. PMC's traders knew at the time they traded with PMC's wrap fee clients at the NBBO that PMC was reasonably likely to obtain execution in the third market at prices inside the NBBO because they sought those superior prices for themselves. Under the circumstances of its arrangement with its clients, PMC had a duty, absent meaningful disclosure and consent, to provide its clients with the superior prices that were reasonably available. In its failure to pass on the superior prices to its clients, PMC breached its obligation of best execution. L. With respect to orders which PMC executed acting as principal, PMC only gave the client execution at the NBBO and failed to seek out a better price for its clients, in contravention of the written representations made to those clients. Furthermore, PMC failed to disclose to clients that the prices obtained for clients were not the most favorable under the circumstances. In addition, PMC failed to disclose that it was receiving, in addition to the wrap fee, compensation in the form of profits generated from principal trading. -[4]- NBBO refers to the single highest bid price from among all bids quoted by the various participants (stock exchange specialists and third market dealers) in the Consolidated Quotation Service and the single lowest offer price from among all offers quoted by those participants. ==========================================START OF PAGE 6====== ANTIFRAUD VIOLATIONS M. From at least October 1992 through at least April 1994, PMC and Phillips willfully-[5]- violated and Phillips willfully aided and abetted and caused PMC's violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act in that, in the offer or sale of securities, by use of the means or instruments of transportation or communication in interstate commerce or by use of the mails, they directly or indirectly obtained money or property by means of untrue statements of material facts or by omissions to state material facts necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading, and engaged in transactions, practices or courses of business which would and did operate as a fraud or deceit upon the purchasers or sellers of such securities. As part of and in furtherance of the aforesaid violations, PMC and Phillips, among other things, engaged in the conduct described in Paragraphs H. through L. above. N. From at least October 1992 through at least April 1994, PMC willfully violated and Phillips willfully aided and abetted and caused violations of Section 206(2) of the Advisers Act in that, by use of the mails and other means or instrumentalities of interstate commerce, PMC and Phillips, directly or indirectly, engaged in transactions, practices or courses of business which would and did operate as a fraud or deceit upon clients and prospective clients. As part of and in furtherance of the aforesaid violations, PMC and Phillips, among other things, engaged in the conduct described in Paragraphs H. through L. above. BOOKS AND RECORDS VIOLATIONS O. From at least March 1993 through at least December 1993, PMC, under Geman's direct supervision and control, failed to make and keep a memorandum of every brokerage order received showing the terms and conditions of the order, the client account for which the order was entered, the time of entry, the price at which executed and the time of execution. Also, with respect to -[5]- "Willfully" as used in this Order means intentionally committing the act which constitutes the violation. There is no requirement that the actor also be aware that he is violating the federal securities laws. See Steadman v. SEC, 603 F.2d 1126 (2d Cir.), rev'd on other grounds, 450 U.S. 91 (1981); Arthur Lipper Corp. v. SEC, 547 F.2d 171, 180 (2d Cir. 1976), cert. denied, 434 U.S. 1009 (1978); Tager v. SEC, 344 F.2d 5 (2d Cir. 1965). ==========================================START OF PAGE 7====== PMC's purchase and sales of securities for its own account in trades with clients, PMC failed to make and keep a memorandum showing the price, the time of receipt, time of execution, the terms and conditions of the order, and the client account for which it was entered. Finally, PMC failed to give the Commission timely notice of its failure to make and keep current its books and records.-[6]- P. By reason of the conduct described in Paragraph O. above, PMC willfully violated Section 17(a)(1) of the Exchange Act and Rules 17a-3(a)(6), 17a-3(a)(7) and 17a-11 thereunder. IV. In view of the foregoing, it is in the public interest to impose the sanctions specified in the Offers of Settlement. In determining to accept these Offers, the Commission considered remedial acts undertaken by PMC and Phillips. Accordingly, IT IS HEREBY ORDERED that: A. Respondent PMC shall: 1. pay disgorgement and prejudgment interest thereon in amounts and at the time to be determined pursuant to the terms of Section IV.A.2. of this Order; 2. engage within thirty (30) days of the issuance of this Order an independent accounting firm ("Accountant") not unacceptable to Commission staff, which Accountant shall within ninety (90) days of its engagement submit a Plan of Administration and Distribution ("Plan") by hand delivery or overnight mail to Daniel F. Shea, Regional Director, Securities and Exchange Commission, 1801 California Street, Suite 4800, Denver, Colorado 80202, with a copy to PMC, setting forth the following: (A) the net trading profits realized from principal trading by PMC, identified separately by client, during the period October 1, 1992 through April 22, 1994, inclusive, (B) the amount of prejudgment interest, computed in accordance with 17 -[6]- In March 1993, the National Association of Securities Dealers, Inc. ("NASD") insisted that PMC cease reporting principal transactions on the Automated Confirmation Transaction Service ("ACT"). In January 1994, the NASD reversed its position and permitted PMC to resume ACT reporting. During the intervening nine months, PMC did not generate or maintain order tickets reflecting the times at which it entered or executed principal trades with clients. ==========================================START OF PAGE 8====== C.F.R. 201.600(b), due each such client, (C) detailed procedures and the related time line to be employed to locate all such clients and distribute payments to them, (D) a proposed cover letter of explanation from PMC to accompany the payments, and (E) procedures for making payment to the United States Treasury of any amounts due clients or their beneficiaries who cannot be located within a reasonable period of time. The Accountant shall implement the Plan commencing on the fourteenth day after the date of submission of the Plan, unless the staff notifies the Accountant in writing of its objection to the Plan. In the event of a staff objection, the Accountant shall submit a revised Plan within thirty (30) days of the date of the objection, which revised plan shall be subject to all the provisions of this subparagraph; 3. employ within thirty (30) days of the issuance of this Order a compliance executive not unacceptable to Commission staff, who shall report only to an independent committee of the board of directors of PMC; and 4. pursuant to Section 8A of the Securities Act, Section 21C of the Exchange Act and Section 203(k) of the Advisers Act, cease and desist from committing or causing any violations and any future violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act, Section 17(a)(1) of the Exchange Act, Rules 17a-3(a)(6), 17a-3(a)(7) and 17a-11 under the Exchange Act and Section 206(2) of the Advisers Act. B. Respondent Phillips shall: 1. be, and hereby is, censured; 2. within thirty (30) days of the date of this Order, pay a civil money penalty in the aggregate of $25,000 to the United States Treasury. Such payment shall be: (A) made by United States postal money order, certified check, bank cashier's check or bank money order; (B) made payable to the Securities and Exchange Commission; (C) hand-delivered to the Comptroller, Securities and Exchange Commission, 450 5th Street, N.W., Washington, D.C. 20549; and (D) submitted under cover letter which identifies Phillips as the Respondent in these proceedings, the file number of these proceedings and the Commission's case number, a copy of which cover letter and money order or check shall be sent to Daniel F. Shea, Regional Director, Securities and Exchange Commission, 1801 California Street, Suite 4800, Denver, Colorado 80202; and ==========================================START OF PAGE 9====== 3. pursuant to Section 8A of the Securities Act and Section 203(k) of the Advisers Act, cease and desist from committing or causing any violations and any future violations of Section 17(a)(2) and 17(a)(3) of the Securities Act and Section 206(2) of the Advisers Act. By the Commission. Jonathan G. Katz Secretary