At a recent CCOutreach conference for investment advisers, broker-dealers and mutual fund professionals, an SEC official announced that SEC examiners will look to outside auditors and other third parties to help verify records at investment adviser and brokerdealer firms. The official indicated that the SEC will be looking to outside parties especially to confirm asset levels and may also send routine account information confirmation letters to firms’ clients in order to verify balances, deposits and withdrawals from their accounts. Although these letters will declare that they are not an indication of irregularities at the firm being examined, many firms are concerned that a client’s mere receipt of such a letter will create fear of problems at the firm. The SEC has said that clients who have been contacted for information should not assume anything negative about the firm being examined.
Among the problems for which the SEC will be looking are: lack of separation of duties; one dominant control person; self-custody or the use of affiliates for custody; failure to produce documents; lack of an independent audit or an audit by an obscure firm; dire financial conditions; extravagant lifestyles of firm executives; poor controls over outside business activities; and unusual activity in customer accounts. During the past year, SEC examiners have encountered an increase in Ponzi schemes, complaints about churning in brokerage accounts and problems relating to the suitability of certain investments (like B and C share classes of mutual funds) for certain customers. In addition, the SEC has discovered disclosure problems, such as undisclosed compensation and conflicts of interest. Many of those cases involved failure to disclose 12b-1 fees and referral arrangements.
SEC Chairman Schapiro indicated that the reason for this new standard of examination for investment advisers and broker-dealers is to hold them to a single fiduciary standard and to coordinate with the SEC’s efforts to align adviser and broker-dealer regulations.