The Securities and Exchange Commission has fined Rialto Capital Management LLC $350,000 for misallocating certain costs and expenses relating to two real estate private equity funds, Rialto Real Estate Fund LP (Fund I) and Rialto Real Estate Fund II LP (Fund II).
Each year, before the annual meeting of each advisory committee, Rialto provides the advisory committees with a written memorandum requesting reimbursement for costs and expenses related to its performance of third-party tasks for the funds.
Third party tasks for these funds include asset-level due diligence, accounting, valuation, and other similar services that are typically performed for funds by outside professionals but may be performed in-house by the adviser to the fund.
A primary selling point of the funds was Rialto’s ability to perform the tasks in-house. According to the funds’ operating documents, Rialto is entitled to be reimbursed for the costs and expenses. The SEC claims that from 2012 through 2017, Rialto misallocated to Fund I and Fund II costs and expenses related to its performance of the tasks that should have been allocated to related co-investment vehicles Rialto also managed.
According to the SEC, this resulted in Rialto charging the funds approximately $3 million more than their pro rata share of costs and expenses that should have been paid by the co-investment vehicles. Rialto fully remediated the funds.
The funds are organized as limited partnerships and each has its own advisory committee composed of certain limited partners in each fund. Rialto represented to the advisory committees that Rialto “[was] able to obtain information” supporting that costs and expenses it charged for were “at or below market rates.”
In 2012, Rialto conducted a market rate analysis, however, the SEC alleges that between 2013 to 2017, Rialto’s disclosures to the advisory committees did not state that it failed to obtain any updated information or perform any analysis supporting its claim that the costs were at or below market rates.
From 2012 to 2017, the cost allocation methodology used to calculate the tasks increased general overhead expenses, and Rialto did not fully disclose this increase to the advisory committees, the SEC said.
In addition, the SEC claims that Rialto failed to adopt and implement written compliance policies and procedures designed to prevent violations of the Advisers Act and its rules.
Rialto, without admitting or denying the findings, agreed to a censure and fine of $350,000.
As of December 31, 2019, Rialto had approximately $4.8 billion in regulatory assets under management, comprised of approximately $4.3 billion in private equity funds and co-investment vehicles and approximately $470 million in separate accounts.