News & Articles

Big Sticks and Broken Windows

June 24, 2016


Expect more aggressive SEC enforcement in 2016.

After an active year in 2015 with a record number of enforcement actions brought, the SEC shows no signs of slowing down in 2016 as it aggressively pursues its “broken windows” approach to enforcement. The SEC touted its “aggressive and innovative approach to enforcement” in its 2015 Annual Report,[1] ending the year with 807 enforcement actions and orders for $4.2 billion in penalties and disgorgement. In addition, there was a 23% rise in independent administrative proceedings and civil injunctive actions, with 507 actions being brought.

The SEC’s Office of Compliance Inspections and Examinations (OCIE) released its 2016 Examination Priorities in January,[2] organized around the thematic areas of (i) protection of retail investors and investors saving for retirement; (ii) assessing market-wide risks; and (iii) identification of illegal activity. In assessing market-wide risks, cybersecurity remains a top priority. The SEC will continue their efforts in scrutinizing cybersecurity practices, including testing and conducting assessments of firms’ procedures and controls. In addition, they will focus on liquidity controls and examine funds that have exposure to potentially illiquid fixed income securities. With ever-improving technological and data analysis capabilities, the SEC has substantially increased its capacity to detect illegal activity. Anti-money laundering (AML) programs will continue to be examined, with particular attention to firms that have inadequate testing programs, weak internal policies and procedures, and to spot inconsistencies or deficiencies in suspicious activity reports (SARs).

SEC scrutiny on private placements will likely intensify. In particular, the SEC will concentrate on whether legal requirements for due diligence, disclosure and suitability are being met. Notably, the SEC will prioritize conducting examinations on never-before-examined investment advisers and investment companies. Private fund advisers can also expect to be examined at some point, with the SEC maintaining a focus on fees and expenses, and evaluating controls and disclosures.

The sharp rise in SEC enforcement has also put a spotlight on conflicts of interest and disclosure, and has evinced a trend in imposing individual accountability for corporate wrongdoing. The SEC has demonstrated increasing vigor in these areas, such that enforcement actions have been brought as a result of weaknesses in internal controls and technical violations that markedly did not include any allegations of fraud.

Individual accountability for corporate wrongdoing is also expected to increase. The Yates Memo,[3] which promulgated the Department of Justice’s policy on corporate cooperation with criminal investigations, noted that in investigations of corporate wrongdoing, focus should be maintained on the responsible individuals, and that “criminal and civil corporate investigations should focus on individuals from the inception of the investigation.” The Yates Memo also put significant emphasis on the importance of self-disclosure, stating that in order for a company to be eligible for any cooperation credit whatsoever, they “must identify all individuals involved in or responsible for the misconduct at issue, regardless of their position, status or seniority, and provide to the Department all facts relating to that misconduct.” Not only is full disclosure required, the Yates Memo puts the onus on companies to learn of the relevant information in the first place, explaining that where a company has failed to learn of relevant facts, “its cooperation will not be considered a mitigating factor” in an investigation. Self-disclosure will also be of heightened enforcement in FCPA investigations. SEC Director of the Division of Enforcement, Andrew Ceresney, noted in his Keynote Address at the ACI’s 32nd FCPA Conference that in order for companies to be eligible for a Deferred Prosecution Agreement (DPA) or Non-Prosecution Agreement (DPA), companies must self-report.[4]

The SEC will also benefit from increased funding, furthering their enforcement capabilities. In the Budget of the United States Government for Fiscal Year 2017,[5] the President proposed to double the funding of the SEC and Commodity Futures Trading Commission (CFTC) by 2021. The down payment includes $1.8 billion for the SEC and $330 million for the CFTC. The target date for Congress to pass the budget resolution is April 15. The increase in funding would enable the SEC to add more examiners and thus bring more enforcement actions, in part assisted by the SEC’s recent creation of the Office of Risk and Strategy within OCIE.

Recent trends in regulatory enforcement are unlikely to diminish this year, and firms should fully prepare for intensifying scrutiny and a rise in enforcement for technical violations.