The SEC’s Division of Examinations (the “Division”) announced yesterday its 2022 examination priorities. These SEC exam priorities are announced each year to help promote and improve compliance and protect investors. The exam priorities also indicate what specific areas SEC examiners may be focusing on during upcoming examinations this year. The exam priorities cover not only investment advisors but also broker-dealers and transfer agents.
Private funds was named as one significant focus area for the Division. Specific areas identified by the Division with respect to private funds included the following: (1) the calculation and allocation of fees and expenses, including the calculation of post-commitment period management fees and the impact of valuation practices at private equity funds; (2) the potential preferential treatment of certain investors by RIAs to private funds that have experienced issues with liquidity, including imposing gates or suspensions on fund withdrawals; (3) compliance with the Advisers Act Custody Rule, including the “audit exception” to the surprise examination requirement and related reporting and updating of Form ADV regarding the audit and auditors that serve as important gate-keepers for private fund investors; (4) the adequacy of disclosure and compliance with any regulatory requirements for cross trades, principal transactions, or distressed sales; and (5) conflicts around liquidity, such as RIA-led fund restructurings, including stapled secondary transactions where new investors purchase the interests of existing investors while also agreeing to invest in a new fund.
ESG Investing was also identified as a top focus area for the Division. Specifically, the Division announced that it would focus on whether RIAs are: : (1) accurately disclosing their ESG investing approaches and have adopted and implemented policies, procedures, and practices designed to prevent violations of the federal securities laws in connection with their ESG-related disclosures, including review of their portfolio management processes and practices; (2) voting client securities in accordance with proxy voting policies and procedures and whether the votes align with their ESG-related disclosures and mandates; and (3) overstating or misrepresenting the ESG factors considered or incorporated into portfolio selection (e.g., greenwashing), such as in their performance advertising and marketing.
A third primary focus area for the Division with regard to RIAs is whether they are acting consistently with their fiduciary duty to clients. Specific focus areas include: (1) revenue sharing arrangements; (2) recommending or holding more expensive classes of investment products when lower cost classes are available; (3) recommending wrap fee accounts without assessing whether such accounts are in the best interests of clients; and (4) recommending proprietary products resulting in additional or higher fees.
As in previous years, the Division is also focusing on information security and operational resiliency. Examination staff will continue to review whether firms have taken appropriate measures to: (1) safeguard customer accounts and prevent account intrusions, including verifying an investor’s identity to prevent unauthorized account access; (2) oversee vendors and service providers; (3) address malicious email activities, such as phishing or account intrusions; (4) respond to incidents, including those related to ransomware attacks; (5) identify and detect red flags related to identity theft; and (6) manage operational risk as a result of a dispersed workforce in a work-from-home environment.
Please click on the link below to access the full report issued by the Division.
https://www.sec.gov/files/2022-exam-priorities.pdf
Hayley Nelson is the President and Principal Consultant of NCA Compliance, Inc., a compliance consulting firm providing a wide range of customized compliance solutions for investment advisors. Ms. Nelson previously worked for the Securities and Exchange Commission and a large investment manager in New York.
