BlackRock Advisors LLC and its Chief Compliance Officer Slapped for Failing to Properly Handle Conflicts of Interest Issues


By: John H. Goselin, II

Conflicts, conflicts as far as the eye can see!   On April 20, 2015, the Securities and Exchange Commission announced a settlement with BlackRock Advisors LLC and its chief compliance officer arising from a failure to disclose a conflict of interest created by the outside business activities of one of BlackRock’s top fund managers.

The fund manager at issue created, financed and managed an energy company which entered into a joint venture with a publicly traded company whose shares were owned by the BlackRock funds being managed by the fund manager.  Pursuant to the settlement, BlackRock is paying a $12 million civil penalty and BlackRock’s chief compliance officer is individually paying an additional $60,000 civil penalty.  BlackRock must also engage an independent compliance consultant to review and propose changes to BlackRock’s compliance policies and procedures.

The S.E.C. found three specific violations: (i) a willful violation of Section 206(2) of the Investment Advisors Act of 1940, which prohibits an investment advisor from engaging in any transaction, practice, or course of business which operates as a fraud or deceit upon a client or prospective client; (ii) a willful violation Section 206(4) of the Advisors Act and Rule 206(4)-7 thereunder by failing to implement written policies and procedures reasonably designed to prevent violations of the Advisors Act; and (iii) a violation of Rule 38a-1(a) pursuant to which BlackRock’s chief compliance officer is required to provide a written report at least annually to a fund’s board of directors that addresses each material compliance matter that occurred since the prior year’s report.

Outside business activities used to be a headache primarily reserved for independent channel broker-dealers, however, the growing national sensitivity regarding conflicts of interest and the action taken against BlackRock illustrate that everyone in the financial services industry, whether an investment advisory firm or a broker-dealer, should take a step back and re-calibrate their sensitivity meter regarding how to handle potential conflicts of interest.  Stunningly, the S.E.C. not only penalized BlackRock for failing to fully appreciate the conflict of interest that the actions of its fund manager presented, but also held BlackRock’s chief compliance officer personally responsible for the Firm’s failure to be more diligent with regard to this matter.  The S.E.C.’s Order demonstrates the new emphasis for written policies and procedures to not simply define acceptable and unacceptable behavior, but also to clearly delineate follow up monitoring procedures to confirm that specific activities are monitored over time as the scope and breadth of the activity evolves.   Moreover, the Order against BlackRock’s chief compliance officer cautions chief compliance officers in all financial services entities to be over-inclusive in their report of potential compliance issues whether to management or to the pertinent board of directors.

Conflicts of interest present challenges for professionals to fully appreciate their import.  Considering multiple perspectives tends to lead to better decisions than a solitary approach.  But, as the S.E.C. states in its Order: “As an investment advisor, BlackRock has a fiduciary duty to exercise the utmost good faith in dealing with its clients – including to fully and fairly disclose all material facts and to employ reasonable care to avoid misleading its clients.  It is the client, not the investment advisor, who is entitled to determine whether a conflict of interest might cause a portfolio manager – consciously or unconsciously – to render advice that is not disinterested.”  (Emphasis added).  Best practice clearly points to erring on the side of disclosure.   And for chief compliance officers, you better err on the side of providing written reports of potential issues to management and the board of directors if you want to avoid having to open your personal checkbook.