About eight weeks after stricter mutual fund regulations took effect, PricewaterhouseCoopers is predicting a new wave of sanctions, within months not years, that will define the boundaries of industry practice.
“Everyone in the industry is waiting for the first SEC enforcement case to be brought against a chief compliance officer or a board member because, quite frankly, that is going to set a practice and set the standard in the industry,” said Anthony S. Evangelista, a PricewaterhouseCoopers partner and leader in the regulatory compliance practice of its investment management industry group.
“That first enforcement case will happen,” he added. “The SEC has cast around in the water, and they are already fishing around. They are calling registrants and asking questions.”
Lloyd E. “Chip” Voneiff, a national leader in the investment management industry group, said enforcement action is inevitable.
“We are months rather than years away from our first enforcement case,” he said. “This is an all-new model. No one expects this to be perfect.”
Last December the Securities and Exchange Commission adopted a rule requiring that all mutual fund companies appoint a chief compliance officer by Oct. 5. Analysts said the rule, which enforces the Investment Company Act of 1940 and the Investment Advisors Act of 1940, also requires companies to adopt guidelines for federal regulatory compliance.
David J. Harris, a partner in the financial services group at the Dechert LLP law firm in Washington, said last month that chief compliance officers were taking the jobs without knowing what, exactly, they must do to satisfy regulators. “You have put a bull’s-eye on the back of these compliance officers if there is ever a problem,” he said. “Before, the responsibility was diffused. Now, it is concentrated.”
Mr. Harris added, “Basically, you are putting someone on duty to watch without knowing what specifically they are looking for. They have created a scapegoat.”
Mr. Voneiff said most companies would spend the next 12 months monitoring and testing their policies and procedures to ensure compliance. Banks are very concerned, he said, because they do not want to be next.
“Banks and other big financial institutions are carefully assessing their organization,” he said. “They are making sure they have the policies and controls in place. They are trying to be preventative right now.”
Mr. Evangelista said though the regulations have been codified, it would be difficult for companies to handle compliance confidently before seeing what the SEC thinks worthy of sanction in other companies.
“Getting the job as a chief compliance officer is easy. The next step, compliance, is hard,” Mr. Evangelista said.
He added, “This is not a one-size-fits-all problem. This all really depends on your organization.”
The SEC is still trying to resolve a lot of compliance issues, including brokerage practices, soft-dollar payments, and financial reimbursements to vendors. Mr. Voneiff said the key to being safely compliant is full disclosure.
“Firms have to dig down and look at everything,” he said.
Mr. Voneiff said large companies right now are creating internal structures to deal with compliance and are trying to create guidelines for their trading and brokerage practices.
Smaller fund companies are turning to outsourcer firms to handle compliance. Bank of New York Co. has developed a Web-based product to support fund company compliance. The service, CCOaccess, gives chief compliance officers reports on post-trade compliance, market timing surveillance, and fair valuation.
Joe Keenan, a managing director and the head of product sales and marketing strategy at Bank of New York’s global fund services unit, said it is premature to predict the service’s acceptance in the marketplace since it was introduced only about six weeks ago, though initial response was positive.
Companies are already planning to spend more for compliance, according to a Pricewaterhouse- Coopers Management Barometer Survey released last Tuesday. It said that 51% of U.S. and European multinational companies expect compliance spending increases averaging 23.4% during the next 12 to 24 months.
Dan DiFilippo, the PricewaterhouseCoopers global leader for performance improvement and U.S. leader for governance, risk, and compliance, said the companies surveyed spent 6.16% of their total budgets on compliance and the 23.4% increase within two years applies to that spending share. He said he does not think companies are preparing for a new wave of sanctions so much as they are just trying to be proactive.
“Everyone is looking at their compliance program and trying to find places where they might stumble,” he said. “They want to find out how they can avoid exposure from similar situations,” that is, practices of their own that, in another company, prompt regulatory action. “I don’t think they are anticipating more regulations or more scandal as much as they are taking stock in where they are.”
Fund companies are very concerned about compliance, especially among the third-party service companies they hire. A survey released this month by PricewaterhouseCoopers’ investment management group said 64% of fund companies are concerned about overseeing service providers, 15% about securities trading and brokerage practices, and 9% about principal underwriter activities.
Mr. Voneiff said it is clear banks, fund companies, and other financial services firms are concerned about compliance issues. Three hundred directors from 80 to 90 fund companies attended PricewaterhouseCoopers’ annual conference on compliance and governance in New York this month, he said, compared with 200 directors last year.
“I think everyone understands that these rules are new to the industry and there will be some growing pains,” he said. “We are all going to carefully watch how this all gets implemented.”
