*NEWS: SEC Charges Stuart Frost and His Investment Advisory Firm with Fraud
The manager of several investment funds, who lost a multi- million arbitration case, has now been charged by the SEC with fraud.
The Securities and Exchange Commission charged Stuart Frost and his investment advisory firm Frost Management Company with fraud and breach of fiduciary duties for charging over $14 million in undisclosed and excessive incubator fees to startup companies in which their advisory clients invested.
The SEC announced the charge in a press release issued today.
News about Frost losing the arbitration case came to light late last year. He was ordered to pay $12 million back to the investors, with the rest going to attorney fees.
The arbitration case – its genesis and repercussions – spawned a series of investigative reports by OC Startups Now on the managers of other local investment funds and their levels of expertise. See the latest article in this investigative series here.
See article on Frost losing the arbitration case here.
According to the SEC’s complaint, Frost and his management company – which served as investment advisers to five private venture capital funds – raised nearly $63 million fbetween 2012 and 2016.
Frost and Frost Management Company then invested those funds in a portfolio of startup companies. The startups were incubated by Frost Data Capital, another Frost-owned company, using the so-called “Frost incubator model” and, as such, they paid incubator fees to Frost Data Capital for the purported purpose of providing operational support and other services in anticipation of the companies maturing and ultimately being sold.
In reality, as alleged in the SEC’s complaint, a significant portion of the incubator fees were used to cover Frost Data Capital’s overhead and to pay Frost’s exorbitant salary and extravagant personal expenses.
When Frost needed more cash to fund his lavish lifestyle, including a personal chef and housekeeper, an archery range, beach club membership, a boat and luxury cars, he created new startup companies, invested more of the funds’ capital in them, and then used Frost Data Capital to extract additional incubator fees.
As the SEC’s complaint alleges, Frost and Frost Management Company violated their fiduciary duties as investment advisers by failing to disclose the existence of the incubator fees or misleadingly representing that the incubator fees would be charged on a case-by-case basis and the charges were at- or below-market rate for the services.
As further alleged, the excessive payment by the startup companies of over $14 million in fees weakened their financial condition and prospects for success, which, in turn, harmed the funds’ investments in those companies.
The SEC’s complaint also alleges that Frost and Frost Management Company charged two of the funds undisclosed management fees and charged another fund unearned management fees.