As the saying goes, the only sure things in life are death and taxes. In the life of an investment advisory firm, however, there are 3 “things” that are certain to make your next SEC audit a living hell . . . 1. Recidivism; 2. Errors in Registration Documents and 3. CCO Not Knowledgeable about the Advisers Act or the Firm’s Compliance Program. We take a look in more detail about each of these below.
Unless your next exam is your first exam, chances are that you have some past record of deficiencies. There is nothing that ticks off the SEC more during the examination process than an advisory firm’s failure to correct past deficiencies. Think fingernails running down a chalkboard . . . times ten. And while the deficiencies themselves may not be so easy to remedy, determining what needs to be remedied is – just take out your last deficiency letter from the SEC and note every issue raised. Then get busy fixing what needs to be fixed. No excuses for fumbling this one.
2. Errors in Registration Documents
Want the SEC to dig deeper into the workings of your advisory firm? Want them to linger for months instead of weeks? Then be sure to present them with incorrect, incomplete or inconsistent registration documents.
Your registration documents include:
- Form ADV Part 1A (and 1B for state-registerede advisers)
- Form ADV Part 2A
- Form ADV Part 2B
For those of you who wish to avoid the extended presence of the regulators, you need to give your registration documents a close inspection. The goal is to ensure that your stated disclosures match your firm’s actual practices. You should go beyond this to make sure that they also do not conflict with one another. You cannot answer one way about the use of solicitors on the Part 1 and a different way on the 2A. It is our suggestion that you take this review process even further by comparing your registration documents to what is in your advisory agreements and your marketing material. For example, you want to make sure that the fee schedule in your advisory agreement is the same as in your ADV 2A and that both are the same as on your web site, marketing material, etc. Along the same lines, if your ADV 2A says you do not vote proxies, your advisory agreement – not to mention your firm’s actual practices – must tell the same story. Completeness and consistency is the name of the game when it comes to your registration documents.
3. CCO Not Knowledgeable about the Advisers Act or the Firm’s Compliance Program
Let’s face it, a lot of chief compliance officers hold the position because no one else is either willing or able to take the job. The is especially true with smaller advisory firms where the CCO is owner and the only individual with enough skin in the game to justify the increased personal liability that comes with the CCO title. But even though this person is taking the job by default and delegates much of the day-to-day responsibility of running the compliance program, they still must be up on the firm’s compliance policies and procedures. The SEC is going to want to speak with the CCO and you can be absolutely certain they will expect that CCO to be well-versed in the firm’s policies and procedures (even if ultimately they are delegated to another person). So if you are a CCO, get familiar with your firm’s compliance manual, code of ethics and business continuity plan. In addition, as CCO, you are expected to be knowledgeable about the Advisers Act and aware of the regulatory landscape. If there was an important no-action letter issued that materially affected investment advisers, the CCO needs to know about it. If new rules are enacted, the CCO is responsible for incorporating attendant changes into the firm’s compliance program.