Principle Profits an SRI adviser accused by the Commonwealth of Massachusetts

The Massachusetts Securities Division on December 14, 2011 accused Principle Profits Asset Management of fraud.  The firm is a one-man investment adviser led by Dan McKenna operating as a socially responsible investment adviser.  Doing business in Amherst, Mass, he managed $18 million for 115 clients.

McKenna solicited twenty-two of his clients to invest over $1 million into the equity of his business, both at its founding in 1993 and nearly every subsequent year after that.  Unknown to them, his business was posting losses and had a negative net worth, even as it generated revenue of over $100,000 per year.  In effect, he withdrew the money that clients invested for his own personal use while he boasted to them, as quoted from his web site:

Principle Profits Asset Management, Inc. is firmly committed to the concept and practice of socially responsible investing. This is not just a part of what we do it is all that we do. We believe that social-issues assessment is a vital component of a wise and prudent investment philosophy. The dual bottom line of social responsibility and long-term profitability are inextricably linked, creating not only a moral imperative, but also the potential for enhanced financial returns.
-- Principle Profits' web site.

This is quite a stunning revelation and appears it would result in severe financial losses for his clients.  While we only know what the state accuses McKenna of, it might well be ruinous for many of them.  One woman he convinced to invest into his business over half her $25,000 in savings.

(As way of disclosure, I am an investment adviser located in a neighboring town and had previously advised an individual who fled McKenna's web.  She did not tell me of and I did not see any such suspicious investment listed on her account statement.  She was one of the lucky ones.)

In many other cases where this has played out with the clients of other disreputable investment advisers, it has resulted in nearly total losses, the money spent, not to be returned.

The moral of these unfortunate stories is that so-called socially responsible advisers can be just as nefarious in their activities as anyone else.  It might well be their appearance of ethical upstandingness that allows these scam artists to get away with their schemes. 

At least until the jig is up....

Why did the U.S. SEC find that the Pax World funds engaged in fraudulent and deceitful practices, making bogus claims and misleading shareholders?

Only recently concluded was litigation concerning a Pax World portfolio manager, since departed, who created fictitious notes to document investment committee meetings that never occurred. The scheme was concocted to fool the SEC in an examination conducted six years ago.

As disturbing was the fact that the previous summer the SEC concluded a long-running, broader investigation of Pax World and found the fund group to have made untrue statements of material fact by misrepresenting that it adhered to the social and environmental restrictions set forth in its published materials. In plain language, the Pax World funds purchased and held stocks that its own prospectus and advertising prohibited it from buying.

Due to its failure to conduct due diligence, the Pax World funds invested in defense-related stocks as well as corporations that violated acceptable thresholds for environmental and labor standards, or that were involved in businesses related to alcohol and gambling. The penalty was a $500,000 fine levied by the SEC, sizeable by any standard.

http://paxworld.com/homepage/2008/07/30/a-letter-from-the-president-and-ceo-of-pax-world-funds

Perhaps one should not then be surprised that Pax World asked shareholders’ permission to relax its social and environmental restrictions, which ignited significant shareholder dissent in 2006. Pax World assured shareholders that it was doing so in order to “clarify and strengthen the Fund’s commitment to promote peace, protect the environment, advance equality and foster sustainable development around the globe,” giving no hint that an SEC investigation of it was in full swing behind the scenes, regarding its past failures to properly screen investments. Did we forget to mention that?

http://www.sec.gov/Archives/edgar/data/76721/000110465906064323/a06-20577_1defa14a.htm

And even before the SEC made their allegations public, SRIgreen.com reported earlier in 2008 on the fact that shares in the defense contractor AECOM Technology had been purchased by the Pax World funds. The business of AECOM spans a host of war-related activities, from managing the U.S. Army’s Fort Polk, including its live-fire target ranges, to operating logistics, training and repair depots for the U.S. military in Iraq, Kuwait and Afghanistan, with more than 6,000 employees working for its CSA subsidiary in Kuwait alone, to operating the Nevada Test Site, the focal point for the Department of Energy’s nuclear weapons research program. They are no-bid defense contractors repairing and maintaining everything from machine guns to computers to communications equipment to tanks, among other tasks. In Latin, the word Pax means ‘peace’, which remains of vital interest to many shareholders and a fact that is still boasted about in its communications with shareholders. Thankfully, AECOM is no longer held by the Pax World funds (but it is a current holding among many of the Calvert funds).

Yes, anyone might make a mistake, but so many in so short a time across so many facets of investment management? And remember, changes were made at Pax World only after third-parties such as SRIgreen.com and the SEC called them to account.

Why are the Calvert funds pressuring corporations on executive pay when Calvert itself doesn't tell its own mutual fund shareholders how much Calvert executives take home?

The Calvert mutual funds have long and strongly pressured corporations to be accountable with regard to how much they pay their executives. They’ve lobbied the SEC to require full disclosure of executive pay and supported efforts in Congress to mandate an annual shareholder vote on such matters. However, does Calvert itself tell its own mutual fund shareholders how much Calvert executives take home? Nope, that’s secret. When I asked Calvert's director of communications why, it appeared they might never have been asked this question before. When you think about the Calvert funds’ high expense ratios in combination with an unwillingness to disclose their own executives’ pay, it makes you wonder....

Why are the Pax World mutual funds invested in AECOM Technology, an engineering and defense contractor?

AECOM Technology is an engineering and defense contractor whose business ranges from managing the U.S. Army’s Fort Polk, including its live-fire target ranges, to operating logistics, training and repair depots for the U.S. military in Iraq, Kuwait and Afghanistan, with more than 6,000 employees working for its CSA subsidiary in Kuwait alone. They are no-bid defense contractors repairing and maintaining everything from machine guns to computers to communications equipment to tanks, among other tasks. “Employees at all levels have dedicated themselves to a wide range of assignments, from maintaining tactical equipment such as tanks, to supporting information systems, to conducting force-on-force and live-fire exercise and training programs, to providing security, environmental services, rations, uniforms and even barbed wire, as well as organizing recreational programs and special events for soldiers.” And, yes, the AECOM-CSA depot is the shipping point for ammunition into Iraq.

Of course, Pax World until only very recently advertised in publications such as E Magazine and Mother Jones: “No Weapons,” “Promote Peace,” “Take the high road” and “Green, Not Greed.” A few weeks ago, Pax World's management struck the part about promoting “reconciliation and international understanding” from the prospectus when they removed the self-prohibition against U.S. Treasury bonds. The prospectus still boasts that Pax means peace and that they would avoid investing in companies “significantly involved in the manufacture of weapons or weapons-related products.” Clearly though, words involving peace are on their way out, although Pax World's management seems to be soft-pedaling around with the funds' anti-war shareholder base. The bottom line is that this is a family of funds in transition, with fantastic posturing and actions in conflict with its claims.

To think that this is the same Pax World who, three years ago, divested $23 million of Starbucks stock for the sin of placing its name on a coffee liqueur. Pax World has different standards of behavior these days....

[Civilian contractors] “were the second-largest force involved in the Iraq war effort. More than the British. More than the Italians. They were civilians, working for one no-bid contractor or another. Using thousands of contractors allowed Rumsfeld to flex considerably more combat muscle without increasing troop numbers. It was a combat enhancement without the political fallout.”
-- Paul Rieckhoff, 1st Lieutenant, Army National Guard; executive director / founder of Iraq and Afghanistan Veterans of America (IAVA) and author of Chasing Ghosts.

“In July 1999, Combat Support Associates [an AECOM subsidiary] was selected for a Camp Doha support contract, a 10-year deal potentially worth $547 million. In March 2003, when U.S. forces invaded Iraq, demand for the company's maintenance and repair services increased dramatically as bases across Kuwait became nerve centers for American troops. The value of the contract ballooned as well — reaching well over $2 billion. According to Army Sustainment Command in Rock Island, Ill., $1.9 billion was spent between 1999 and 2007 on the Combat Support Associates contract. An additional $535 million was set aside for the fiscal year that ends Sept. 30. Court records from a whistleblower case in Florida and workplace discrimination lawsuits filed against the company in Texas and Maryland show how the company fashioned its corporate architecture. CSA Ltd. [a Cayman Islands-shell company quickly created that allowed it to duck millions in taxes and deflect U.S. lawsuits] was registered in September 1999. Its purpose was to handle the unclassified work in Kuwait. That accounts for close to 90 percent of the contract. From its offices in Orange, Calif., Combat Support Associates would perform the remaining 10 percent, which includes the classified duties requiring employees with security clearances.”
-- AP Writer Richard Lardner in “An Islands Tax Haven for US Defense Contractor”, May 7, 2008.

“As a matter of investment policy, Pax World Funds does not invest in war-related industries, companies that manufacture weapons or companies that derive more than 5 percent of gross sales from contracts with the Department of Defense. We know that a significant number of investors do not wish to profit from war, and we are here to serve them.”
-- Pax World's former President Thomas W. Grant in a Pax World press release dated March 25, 2003.

“The SRI industry is still young. Hawken [whose report critiqued the green credentials of SRI funds] is right to argue for better definition, clearer standards, and more disclosure -- for the SRI industry to 'reassess [its] terms and descriptors.' The term, 'socially responsible investing,' itself may be inadequate, and certainly there are ways that the SRI industry can better articulate its underlying goals, strategies, and standards. These are important questions, and they deserve to be addressed in a collegial and constructive dialogue.”
-- Joe Keefe, then Senior Advisor for Strategic Social Policy at the Calvert Group in his response to Paul Hawken’s “Is Your Money Where Your Heart Is?” dated December 2004.

“Exclusionary screens have their antecedents in religious investing, and in some instances they are core to SRI--the weapons and tobacco screens remain core to what Pax World is all about.”
-- Pax World President and CEO Joe Keefe in an interview titled “Pax World Drops Zero Tolerance Screens on Alcohol and Gambling” dated October 26, 2006, with journalist Bill Baue.

“Divesting each and every company that has any contracts whatsoever with the US military, regardless of the nature of the products or services involved, would be silly. It is one of the reasons why Pax World revised its former zero-tolerance screen a few years back and substituted a more practical approach.”
-- Pax World President and CEO Joe Keefe in a comment dated March 26, 2008 in response to Marc Gunther's “War and Pax”. Editor's note: Pax World has failed to inform shareholders candidly and directly that its changed approach would weaken its military screen. When the social screens were modified more than a year before, shareholders were told the Pax World funds would make several changes but that they would “retain exclusionary screens similar to those currently employed [since the inception of the funds] ... in the areas of tobacco and weapons” so as to “clarify and strengthen the Funds’ commitment to promote peace.”

“Dear Pax World,
I would welcome Joe Keefe to make his case directly to all Pax World funds’ shareholders as he has done here. In the next letter to them, describe the facts regarding AECOM. We can continue this discussion amongst the group of us as long as we like, but the bottom line is that it is not our money at stake.
Let your clients read about it! Reveal the information needed for them to make an informed decision.”
-- Eric Bright, SRIgreen.com in a comment dated March 27, 2008 in response to Marc Gunther's "War and Pax”.

“As a point of information: AECOM is not listed on the KLD database for weapons involvement. If you look at the AECOM company report, it lists no involvement in weapons for AECOM; or if you run a query for all US companies with military involvement, AECOM isn't on the list. So, KLD apparently agrees with Pax on this issue. As I have said already, this is a judgment call. In this business, we have to make them all of the time, and reasonable people can disagree. With all due respect to Eric Bright, I will probably not follow his advice and do a letter to Pax World shareholders each time he disagrees with one of our decisions.”
-- Pax World President and CEO Joe Keefe in a comment dated March 27, 2008 in response to Marc Gunther's "War and Pax". Editor's note: KLD acted to remove AECOM as a holding in its KLD 400 Social Index on May 30, 2008. So, apparently KLD disagrees with Pax World on this issue, once made aware of the facts regarding AECOM.


“Pax World willfully violated Section 34(b) of the Investment Company Act in that it made untrue statements of material fact in a registration statement, application, report, account, record, or other document filed or transmitted pursuant to the Investment Company Act, or omitted to state therein, any fact necessary in order to prevent the statements made therein, in the light of the circumstances under which they were made, from being materially misleading. Specifically, Pax World misrepresented that it adhered to the SRI restrictions set forth in the prospectuses, SAIs and other published material Pax World prepared and filed on behalf of the Funds.”
--U.S. Securities and Exchange Commission censures and fines Pax World $500,000 in its Administrative Proceeding File No. 3-13107 dated July 30, 2008.

Why are the top ten holdings of socially responsible mutual funds little different from those of non-socially responsible funds?

The Holden & Partners report, released last month, determined via a comprehensive fund survey of so-called green funds that “very few funds have companies which are directly tackling climate change in their top ten holdings.” The portfolios of most green funds, they conclude, are dominated by investments in large, multinational corporations.

Why are the Citizens Balanced and Value funds invested in URS, a defense and nuclear contractor?

In the case of the Citizens Balanced and Value funds, with Sophia Collier as the portfolio manager, mega-cap and large multinational stocks have also come to represent the overwhelming majority of the funds’ investments. Oil drilling and petroleum stocks are the first, second and third largest investments of both funds. Additionally, the fund has an investment in the defense and nuclear contractor URS despite a prospectus that eliminates a stock “from investment consideration if they…produce power from nuclear power plants or are primary suppliers for the industry” or “have material interests in the manufacture of weapons or weapons-specific components.”

According to a URS annual report, “contracts with the DOD and other defense-related clients represented approximately 33% of our total revenues for the year ended December 28, 2007.” The EG&G division of URS “provides systems engineering and technical assistance for the development of weapons systems” including the U.S. Navy's Virginia Class Fast Attack Nuclear Submarine Systems, international Rolling Airframe Missile project, Navy Standard missile, Theater Warfare Systems and Marine Corps Expeditionary Fighting Vehicle.

The recently acquired Washington Group International division of URS has a long track record within the nuclear industry and currently has contracts in progress that include construction management services for the National Enrichment Facility in New Mexico, the first commercial nuclear facility to be built in the United States in 30 years.

At least for the Citizens funds, any deviations from ethical standards are legally permitted by prospectus “at any time without shareholder approval,” a fact that should be mentioned more clearly to shareholders.

Citizens and URS, Pax World and AECOM (additionally, the Winslow Green Solutions and Green Century Equity funds have also chosen the latter), why are these funds invested in defense contractors? If you are a shareholder of these funds, query your funds or email SRIgreen.com. Let's organize to do something about it!

Are SRI mutual funds' high levels of fees and expenses in shareholders' best interests?

Why are SRI mutual funds charging a high level of fees and expenses contrary to the best interests of their shareholders? A Consumer Reports Money Adviser study calculated that the average SRI mutual fund charges a high 1.66% in annual fees. Many collect much more, even without considering any sales commission or “load” that might be charged to investors (subtracting as much as 4.75% of their initial dollars invested).

One example of an SRI mutual fund with exactly these levels of fees and charges is the Calvert Capital Accumulation A fund, its lofty level of fees contributing to its lowly 2.75% ten-year annualized return.

Since profit margins in the investment management industry are already wide and salaries high, one might expect SRI fund managers to set a more reasonable cost of entry for their shareholders, for the benefit of a sustainable world. When serving the investment performance needs of shareholders who desire a more responsible approach, it is SRI fund managers themselves who should be acting more responsibly.

The Calvert mutual funds ran away with the honor of highest expense ratios among SRI fund families as well, topping out at 1.75% to 2.85% annually. Yes, it can cost more to conduct shareholder activism, yet Calvert’s charges to its investors are extreme. Perhaps it has something to do with the fact that Calvert does very little of its own investment research and management, functions out-sourced to external investment advisers. And when Calvert pays commissions to brokers selling its mutual funds, like other so-called “load” funds, these expenses get charged to investors too (in an amount reaching as much as 4.75% of your investment, as a thank-you for selling the Calvert funds).

And as far as the salaries of top SRI fund managers, that information remains secret even though their own shareholder activism policies favor public disclosure of any compensation paid to corporate executives of the companies in which the funds themselves invest.