Newly Registered Advisers Should Be Prepared for SEC Examinations

Adviser complianceNewly registered advisers should expect SEC examiners to come knocking in 2013. Last fall, the SEC’s Office of Compliance Inspections and Examinations (OCIE) announced that it would be conducting targeted examinations of investment advisers to hedge funds and private equity companies recently brought under the agency’s purview by Dodd-Frank.

In an October 2012 letter sent to executives and principals of these firms, the SEC outlined its strategy for the examination process. The so-called “Presence Exams” will take place over the next two years and consist of three primary phases: engagement; examination; and reporting.

The engagement phase refers to compliance outreach activities performed by the SEC, including risk alerts, staff letters, and events. Meanwhile, the reporting phase refers to the OCIE’s intention to publish examination results and trends to the SEC and the public.

Of course, advisers are most interested in the examination phase. According to the OCIE, it will focus on the following “high-risk” areas:

  • Marketing: Examiners will look for false or misleading statements about the business or performance record; omissions of material facts; misleading statements; or other manipulative, fraudulent, or deceptive activities.
  • Portfolio Management: Examiners will review investment advisers’ portfolio decision-making practices, such as the allocation of investment opportunities and whether advisers’ practices are consistent with their disclosures to investors.
  • Conflicts of Interest: A perennial favorite, examiners will focus on allocation of investments, fees, and expenses; sources of revenue; payments made by private funds to advisers and related persons; employees’ outside business activities and personal securities trading; and transactions by advisers with affiliated parties.
  • Safety of Client Assets: Examiners will focus on advisers’ compliance with the custody rules.
  • Valuation: Examiners will review advisers’ valuation policies and procedures, especially of  illiquid or difficult-to-value instruments, and the procedures for calculating management and performance fees.

Over the next few weeks, stay tuned for additional information about what to expect.

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