SEC Official Claims Over 50% Of Private Equity Audits Reveal Criminal Behavior

Tyler Durden's picture

Submitted by Mike Krieger of Liberty Blitzkrieg blog,

Last week, Yves Smith of Naked Capitalism penned a fantastic piece leveraging a talk by SEC official Drew Bowden. Mr. Bowden heads the SEC’s examinations unit, and at a private equity conference he explained that “more than 50 percent of private equity firms it has audited have engaged in serious infractions of securities laws.” What is so incredible about the talk, is that while Bowden goes into details of shady practice after shady practice, he ultimately admits that the SEC isn’t being particularly aggressive with the private equity industry because “we believe that most people in the industry are trying to do the right thing, to help their clients, to grow their business, and to provide for their owners and employees.”

Yes, go ahead and read that again. The industry regulator is assuming that private equity firms are trying to do the right thing, despite the fact that audits demonstrated to a tune of greater than 50% the opposite to be true.

Private equity managers are some of the savviest people in finance and they know exactly what they are doing. What the SEC is basically admitting, is that private equity firms are also “too big to regulate” and, of course, “too big to jail.” After all, every single person at the SEC is likely angling for a big payday at a PE firm via the revolving door. Of course they aren’t going to regulate.

Meanwhile, if you are just an average citizen, you will be prosecuted to the fullest extent of the law if you commit even the most minor infraction. This sort of behavior led to the death of prodigy Aaron Swartz, the incarceration of political prisoner Barrett Brown, a swat team raid on a young kid in Peroia, Illinois for a parody Twitter account, the firing of a constriction worker for not paying for a $0.89 soda refill. This list goes on and on. Yet private equity crimes, which likely run into the billions collectively, are treated with kid gloves. As I have maintained many times before, this is how the social fabric of a society dies.

From Naked Capitalism:

At a private equity conference this week, Drew Bowden, a senior SEC official, told private equity fund managers and their investors in considerable detail about how the agency had found widespread stealing and other serious infractions in its audits of private equity firms.

In the years that I’ve been reading speeches from regulators, I’ve never seen anything remotely like Bowden’s talk. I’ve embedded it at the end of this post and strongly encourage you to read it in full.

Despite the at times disconcertingly polite tone, the SEC has now announced that more than 50 percent of private equity firms it has audited have engaged in serious infractions of securities laws. These abuses were detected thanks to to Dodd Frank. Private equity general partners had been unregulated until early 2012, when they were required to SEC regulation as investment advisers.

Bowden heads the SEC’s examinations unit, and his rap sheet was based on his two years of experience in auditing private equity firms. As bad as embezzlement and other sharp practices are, at least as troubling is the revelation that the limited partners have been derelict in their duties. They’ve agreed to terms in their relationship with the general partners to make it easy for the general partners to abuse the investors. The general partners can steal from their limited partners because the limited partners are asleep. The LPs have failed to negotiate for contractual protections when they have the most leverage, prior to investing, and they’ve been unwilling or unable to monitor their investments effectively once they’ve handed over their money. Note that the industry was warned about this possible outcome; it corresponds to the worst scenario, ” A Broken Industry,” in a 2011 paper by Harvard Business School professor Josh Lerner.

Bowden pointed out that private equity is unique among the investment advisers the SEC supervises. The general partners’ control of portfolio companies gives them access to their cash flows, which the GPs can divert into their own pockets in numerous ways.

He went on to describe some of the common fee skimming models. For example:

Some of the most common deficiencies we see in private equity in the area of fees and expenses occur in firm’s use of consultants, also known as “Operating Partners,” whom advisers promote as providing their portfolio companies with consulting services or other assistance that the portfolio companies could not independently afford.

Here’s how this scam works. PE firms raise funds by showing prospective investors a strong team of professionals who are going to find attractive companies to buy and manage them. The limited partnership agreement, which is the contract between the private equity firm and the investors, typically says that the private equity firm has to pay for the wages of people working on the fund’s behalf. However, unbeknownst to the investors because it was never disclosed, part of the PE firm “team”, usually the members that work with portfolio companies, are actually being paid as independent contractors. The private equity firm then bills most or all of these sham independent consultants to the portfolio companies with whom they interact.

Most troubling of all is that we have reports from industry insiders that Bowden failed to mention the most egregious forms of stealing, which may cost investors billions of dollars annually. As we understand it, the SEC is on to a couple of large-scale scams perpetrated by some of the biggest firms.

The SEC may be pulling its punches because it may be uncertain about what to do with the rot it has found. Side by side with the the unprecedented, detailed litany of numerous forms of lawbreaking and bad conduct, Bowden was also peculiarly deferential, which gave his speech a schizophrenic feel. For instance:

Some questioned why we would show our hand in this way, to which there’s a simple and sensible answer. We believe that most people in the industry are trying to do the right thing, to help their clients, to grow their business, and to provide for their owners and employees. We therefore believe that we can most effectively fulfill our mission to promote compliance by sharing as much information as we can with the industry, knowing that people will use it to measure their firms and to self-correct where necessary. Put another way, we are not engaged in a game of “gotcha.”

So you see, an average citizen gets locked up for life, yet a private equity partner is given the benefit of the doubt and, at worst, asked politely to change behavior by the SEC.

State legislators need to understand what is going on here. They have granted public pension funds and public endowments across the U.S. the exorbitant privilege of secrecy in private equity investing, even to the point of making these contracts virtually the only ones that are exempt from state-level Freedom of Information Act laws.

State legislators need to understand what is going on here. They have granted public pension funds and public endowments across the U.S. the exorbitant privilege of secrecy in private equity investing, even to the point of making these contracts virtually the only ones that are exempt from state-level Freedom of Information Act laws.

I recently wrote that private equity will deservedly emerge as the financial industry’s major villain in the next crisis. I detailed why in my post, Leaked Documents Show How Blackstone Fleeces Taxpayers via Public Pension Funds, which is a must read in the context of the article above.

Full article from Naked Capitalism can and should be read here.

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Newsboy's picture

There is the new Federal revenue stream!

insanelysane's picture

The SEC is going to launch a study to figure out why the honest firms are honest.  The hypothesis is that those people are defective.

NotApplicable's picture

In other news, water wet, sky blue.

SamAdams's picture

Makes me want to reverse merger into a shell company, issue myself controlling cl A preferreds, then use a shady news outlet to inform of a new acquisition (of my own newly created company) into which I will sell, sell, sell common.  Then do a 100:1 reverse split, issue another billion shares.

Incorporated in Nevada, no less...

insanelysane's picture

Just kick a bit to the Reid clan and all will be legal.

Zadok's picture

I'm not convinced there are enough to be statistically relavent.

OC Sure's picture




Patriot Knows that 100% of Public Funding Requires Criminal Behavior

Al Huxley's picture

Oh for fuck sake!  How far does this have to go?

Relentless101's picture

A picture is slowly being painted. And like the Mona Lisa, this bitch is ugly.

stopthejunk1's picture

Since most people in the last 400 years have considered Mona Lisa to be a paragon of beauty, I think a wheel just came off your metaphor.

dontgoforit's picture

All the way to the end of the line, Al.

MeelionDollerBogus's picture

It's called a Goatsee. A giant putrid hole everyone's money goes into and all you're left with in the end is a horrifying trauma you can't erase from your eyelids or nightmares.

Dr. Engali's picture

It will go on until one of two things happen. Either the system collapses or we start dragging these fuckers through the street. unfortunately it looks like we have to wait for the first to happen before the second takes place.

fonzannoon's picture

Marketwatch is reporting that the Bundesbank just greenlighted Draghi for (some kind) of QE bond purchases. it's about time those guys stopped being so shellfish. 

shovelhead's picture


Are you feeling a bit crabby?

Or should I just clam up?

Dr. Engali's picture

Hey I saved you something:


If Economic Cycle Theorists Are Correct, 2015 To 2020 Will Be Pure Hell For The United States


I thought you might want to get a jump on Micheal Snyder's topic for tonight. You know, a little light reading so you can prepare for discussion.

sschu's picture

Every 7 years

Sept 2001

Sept 2008

Next up - Sept 2015


America, repent, submit or suffer.



Al Huxley's picture

You've been reading Ramona and Beezly to your kids, haven't you?

Al Huxley's picture

In related news, the District Attorney admitted the Stanley Rockeschild, CEO of SnakeOil Elixers and Trust, had been identified as the perpetrator of a complex scheme to sell American children to foreign factory owners as slave labor, but felt that prosecution was inappropriate as Mr Rockeschild was merely doing his best to look  after the interests of his employees and shareholders.

MeelionDollerBogus's picture

'tis nothing to see here, my good man.

Naught but Sir Lord Mason Rockershild the 9-11th, reputable businessman of course!.

SDShack's picture

Actually, it will either collapse, or the sociopathic fuckers will be dragging the masses through the streets and off to jail, while the John Corzines of the world pull the strings. Either way, it is going to get infintely tougher for everyone. The masses are going to have to be literally starving in the streets before any revolution will happen. That is a long way off.

wmbz's picture

Yes, but they are doing Gods work!

old naughty's picture

Yes they are...

to "p reach" us to wake up.


youngman's picture

when you lose the have lost it all...and this is just another reason why not to have any faith in our markets...

stopthejunk1's picture

"Faith" is never a good idea. However, when deciding whether to invest your money in a market, you should look at who has a stake.

The 1% own FIFTY PERCENT of the stock market.

These are the people that own the government.

Therefore, the stock market is not going to fail. It will continue going up, forever. In fifteen years the Dow will be at 30k or 40k.

MeelionDollerBogus's picture

they own 90% of the stock market but part of that ownership is forcing liability onto others.

If you were right then market crashes of 2001 and 2008 wouldn't have happened at all.

LawsofPhysics's picture

Something about what that "market" is priced in as well..

That and the whole "full FAITH and credit" thing..

Theta_Burn's picture

Was MFGlobal private? or are they just exempt from scrutiny?

semperfi's picture

100% is "over 50%"

pods's picture

So by "serious infractions of securities laws" do they mean something, oh, idk, punishable?

Why in the hell are there laws to begin with?

Burn it all to the ground.


cougar_w's picture

So by "serious infractions of securities laws" do they mean

It means that there are some laws that should be removed from the books because they are acting as a drag on acceptable economic activity.

dontgoforit's picture

Just like, "Thou shalt not kill" stops murdering.  Only works on those with a conscience.

LawsofPhysics's picture

Wow, anyone else watching the "free market" buying all those treasuries today...


cougar_w's picture

From that, the SEC decided it was better to just not look.

StychoKiller's picture

Meh, pr0n is so much more interesting!

stopthejunk1's picture

I read this as a "shot over the bow" by the SEC. There's no reason to get nasty and impolite, when you're the one with the big guns. And there's also nothing wrong with amnesty in the wake of (or anticipation of) major policy changes or enforcement paradigm changes like Dodd Frank.

So... to the writer of the article, I basically say, "not so fast." Remember also that if this information is going to be "shared" and therefore available to the public, there's a lot of other avenues for redress, even if the SEC doesn't act. Lawsuits by investors, for instance, may force the SEC to act.

It's possible the SEC did the right thing here.

LawsofPhysics's picture

"major policy changes or enforcement paradigm changes like Dodd Frank." - LMFAO!!!!

Bullshit, impress us, let's see Glass-Steagall restored.

We are not entertained.

stopthejunk1's picture

If you don't think Dodd Frank is a major change, you've obviously never worked in accounting. It is a major change, and a major PITA. And it works.

It doesn't preclude the need to restore Glass-Steagall style protections, which are aimed at a completely different problem. You can thank Clinton and Gingrich for that debacle.

LawsofPhysics's picture

Again, complete bull fucking shit.  You paper-pushing fuckers really don't understand what a "major change" is out here in the real world.

No one is in prison and we (who deliver products/commodites of real value) are not impressed.

Go fuck yourself, and good luck eating in the future.

Dr. Engali's picture

Does Dodd Frank force banks to mark to market (not that we have a market)?  No? I didn't think so. It's not a major change. It's moar of the same, written by the big banks for the big banks.

MeelionDollerBogus's picture

#1 it's a paperwork change, with no hard deadlines
#2 it's a soft-rule change, with actual rules to be set by regulators
#3 those regulators can (and have) changed (reduced) restrictions originally proposed.
So now it's just added paperwork. A dedicated team of paper-pushers with zero accountability can handle these immensely tough pencil-sharpening tasks.

Itchy and Scratchy's picture

Say it ain't so! They're the smartest guys in the room!? What's the dileo?

Kaiser Sousa's picture

"surprise, surprise, surprise...."

Gomer Pyle



yogibear's picture

No surprise. Bet you it's actually higher than 50%. Fraudulent behavior is the norm.

The US Federal Reserve banksters set a good example for criminal behavior.

Ariadne's picture

So Obama still has 50% to go.


cougar_w's picture

Hey give the guy a break. Repealing important regulatory frameworks, aiding regulatory capture and crippling enforcement are hard work. He had to work damned hard to get 50% of it done. But he's on a role now, by the end of his term nothing will be holding back greed and larceny.