Notes on SEC Fort Worth Regional Office IA Conference Call – Exam Findings

SEC Fort Worth Regional Office (FWRO) Regional Deficiency Summary for 2017Noted 11 deficiency areas based on 139 exams.

  1. Compliance Program: 50% of exams included this finding
  2. Anti-Fraud Provisions: 33% of exams included this finding
  3. Amendments to Application for Registration: 34% of exams included this finding
  4. Inadequate Compliance Policies and Procedures
  5. Investment Adviser Code of Ethics
  6. Custody of Clients’ Cash and Securities
  7. Written Disclosure Statements
  8. Annual Review of Compliance Program
  9. Inadequate implementation of or adherence to Compliance Program
  10. Material Misstatements
  11. Books & Records

Compliance Program (Rule 206(4)-7): 50% of the exams included this deficiency

  1. Procedures often weren’t tailored.
  2. Insufficient resources devoted to compliance.
  3. CCO wearing other hats. Prefer the CCO report directly to the CEO and have independence.
  4. Required to review program annually, but consider interim reviews.
  5. A weak compliance program results in the following potential violations:
    • Failure to Tailor P&P Manual, Failure to Follow P&P, Inadequate P&P, Inadequate Testing, No Annual Review, and CCO lack of competence and knowledge of the IA Act.

Anti-Fraud Violations (Section 206 of the Advisers Act): 33% of the exams included this deficiency

  1. Fiduciary duty to eliminate or disclose all conflicts of interest. (SEC vs. Capital Gains Research)
  2. IAR can’t disclaim fiduciary duty by switching hats (IAR–>RR). (In the Matter of Lawrence Levine)
  3. Advisory Fee Calculations: FWRO will review this area and it may be a National Priority in 2018
    1. Overbilling: Specifically related to layered/tiered billing.
    2. Double Billing: Advisory plus brokerage fees on private offerings.
    3. Disclosure of Conflict: Omission causes actual disclosures to be inadequate or misleading.
    4. Disclosure of Discretion: Sell w/o commission or exclude from advisory fee calculation.
    5. Examples of Impact: One firm sold over $300 million in alternative products to advisory clients. Another firm overbilled 5,000 clients $850,000 in excess advisory fees. Another exam found systematic overbilling that resulted in a refund of over $750,000 to clients.

Amendments to Application for Registration – Form ADV (Rule 204-1): 34% of the exams included this deficiency. Amend at least annually, or more frequently as necessary, based on instructions.

FWRO Focus Areas for 2018

  1. Adviser Fee Calculations: This may be a National Exam Priority in 2018.
  2. Contingency Planning (Business Continuity, Disaster Recovery and Succession Plans): FWRO will focus on the firm’s process for addressing contingencies and responding to disasters (e.g., fire, flood, hurricanes, cyber-attacks, etc.). Plans should be detailed, comprehensive and unique to each type of disaster. Small firms should consider establishing a succession plan.
  3. Securities-Based Loans/Lending
  4. Initial Coin Offerings: This will be a National Exam Priority in 2018.

 Top 10 Investor Alerts/Bulletins in 2017 (Refer to SEC Investor Bulletin issued 12/2017)

  1. Initial Coin Offerings (Investor Bulletin, 7/25/2017)
  2. Public Companies Making ICO-Related Claims (Investor Alert, 8/28/2017)
  3. Stock Recommendations on Investment Research Websites (Investor Alert, 4/10/2017)
  4. Robo-Advisers (Investor Bulletin, 2/23/2017): This was a 2017 National Exam Priority
  5. Fraudsters Targeting Federal Government Employee Retirement Plan Participants (Investor Alert, 7/31/2017)
  6. Understanding Order Types (Investor Bulletin, 7/12/2017)
  7. Protecting Your Online Investment Accounts from Fraud (Updated Investor Bulletin, 4/26/2017)
  8. Crowdfunding for Investors (Updated Investor Bulletin, 5/10/2017)
  9. Celebrity Endorsements (Investor Alert, 11/1/2017)
  10. New T+2 Settlement Cycle (Updated Investor Bulletin, 8/22/2017): Effective 9/5/2017.

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