Written by Mark Buckley-Jones
No matter how well written your compliance policies are, or how diligent your compliance team may be, the prospect of an SEC examination brings an immediate increase in anxiety levels. For some investment advisers an examination may be the first time the compliance program is scrutinized by an outside party. Approximately 16%1 of all registered investment advisers were examined during the SEC’s 2021 financial year and knowing that there’s an almost 70%2 chance of receiving a deficiency letter certainly doesn’t help reduce the stress.
While it remains possible to receive a deficiency-free letter despite the occurrence a compliance breach during the period under review, we’ve seen investment advisers receive multiple deficiencies for a single compliance breach discovered during the exam. The only difference? Identification, documentation, and remediation of said breach.
Generally, we see exams of a routine nature, meaning that there is no specific tip or complaint leading to the visit. The first contact with the examiner will typically be via an email and a phone call, at which time a fairly standard document request list will be sent to the firm. The SEC’s examination program is risk-based, and the initial documents provided will allow the examiner to better understand your firm’s business and its risk profile. While the documents requested may vary depending on your investment strategy, the following could be considered standard requests:
- An organization chart showing the firm and all affiliated entities
- A list of all employees, partners, officers and/or directors employed or active during the period under review, including whether any such persons were disciplined or terminated for compliance reasons
- Firm financial records, including bank statements
- A listing of all funds managed by the firm, including all separately managed accounts and co-investment vehicles, along with organizational documents
- All written compliance and operational policies and procedures, including the Code of Ethics and Business Continuity Plan in effect during the period under review
- Records related to trading and portfolio management
- All marketing materials made available to more than one investor or prospective investor during the period under review
- Fee and expense records, including information detailing firm reimbursement
The above is not intended to be an exhaustive list but serves more to provide a sense of what risk and conflict areas an examiner may want to review.
First impressions last and making your examiner’s job a little easier can never hurt. Simple things like labelling deliverables in a manner consistent with the document request list can go a long way towards starting off on the right foot. Many firms with more nuanced investment strategies often go one step further and prepare a presentation or introductory memo which describes the strategy at a high level.
Once the documentation has been sent to the SEC, an initial interview will be scheduled. The CCO will be the primary point of contact for the examination, but additional interviews with staff will likely be requested and may include any person whose role is integrated into the compliance program, ranging from traders to operations to IT.
The examiner’s fieldwork, which may include additional information requests, will ultimately culminate in an exit interview with the examination team, followed by a letter detailing the SEC’s findings. This may and likely will include identified deficiencies, to which the firm must respond within 30 days. If the firm agrees to implement appropriate corrective actions, the examination will generally be considered closed.
While the exam process may seem intimidating at first glance, it shouldn’t be, and we believe the best form of defense is a well-planned offense. Don’t underestimate the value of conducting a comprehensive SEC mock exam, which may serve as a real-world dress rehearsal for the stresses of an examination while in a “safe space”, providing employees with a taste of what a real examination looks and feels like.
Speak with your RQC consultant or click here to contact us to ask about how we can help your team best prepare for a potential SEC examination.
1 SEC 2022 Examination Priorities Report, Page 4. (https://www.sec.gov/files/2022-exam-priorities.pdf)
2 SEC 2022 Examination Priorities Report, Page 3. “The Division completed 3,040 examinations in FY21” and “…issued more than 2,100 deficiency letters”. (https://www.sec.gov/files/2022-exam-priorities.pdf)
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