United States: SEC Concern Over Outsourcing Compliance Functions

The Securities and Exchange Commission (the "SEC") has expressed significant concern with respect to the practice of some registered investment advisers and investment companies ("registrants") to outsource compliance functions.  On November 9, 2015, the staff of the Office of Compliance Inspections and Examinations (the "Staff") of the SEC released a risk alert arising from the "Outsourced CCO Initiative" examination of registrants which outsource their chief compliance officers ("CCOs") functions to unaffiliated third parties ("outsourced CCOs").  The Staff observed "certain compliance weaknesses" associated with registrants that utilized outsourced CCOs. 

In light of the Staff's alert, each registrant should carefully consider whether the use of an outsourced CCO is appropriate given the registrant's business and associated risks.

A. Conclusions

The Staff acknowledged that outsourced CCOs may be able to effectively implement and administer a registrant's compliance policies and procedures in accordance with the compliance rules.  Regardless of the scope of outsourcing, however, the registrant remains responsible for its compliance.  As such, a registrant that uses an outsourced CCO should be particularly careful that: (i) such CCO has correctly identified the business and associated risks particular to that registrant; (ii) compliance policies and procedures have been appropriately tailored to mitigate or address those risks; and (iii) such CCO is sufficiently empowered within the organization to, among other things, improve adherence to the registrant's compliance policies and procedures.

B. Staff Examinations and Observations

Under the Outsourced CCO Initiative, the Staff evaluated the effectiveness of a registrant's compliance program and use of an outsourced CCO by considering, among other things, whether:

(i) the CCO was administering a compliance environment that addressed and supported the goals of the Investment Advisers Act of 1940, as amended (the "Advisers Act"), the Investment Company Act of 1940, as amended (the "Investment Company Act"), and other federal securities laws, as applicable;

(ii) the compliance program was reasonably designed to prevent, detect, and address violations of the Advisers Act, Investment Company Act, and other federal securities laws, as applicable;

(iii) the compliance program supported open communication between service providers and those with compliance oversight responsibilities;

(iv) the compliance program appeared to be proactive rather than reactive;

(v) the CCO appeared to have sufficient authority to influence adherence with the registrant's compliance policies and procedures, as adopted, and was allocated sufficient resources to perform his or her responsibilities; and

(vi) compliance appeared to be an important part of the registrant's culture.

The Staff observed several instances where the outsourced CCO was "generally effective in administering the registrant's compliance program, as well as fulfilling his/her other responsibilities as CCO."  In these instances, the Staff observed that effective outsourced CCOs generally had the benefit of:

(i)  regular, often in-person, communication with the registrants;

(ii) strong relationships established with the registrants;

(iii) sufficient registrants' support;

(iv) sufficient access to registrants' documents and information; and

(v) knowledge about the registrants' business and the regulatory requirements applicable thereto. 

More particularly, the Staff noted that outsourced CCOs who frequently and personally interacted with advisory and fund employees "appeared to have a better understanding of the registrants' businesses, operations, and risks.  As a result, the [S]taff noted fewer inconsistencies between the compliance policies and procedures and the registrant's actual business practices."  Additionally, the Staff found that annual reviews performed by outsourced CCOs who were able to independently obtain the records they deemed necessary for conducting such reviews "more accurately reflected the registrants' actual practices than annual reviews conducted by CCOs who relied wholly on the firm to select the records subject to their review."

On the other hand, the Staff observed that certain outsourced CCOs could not correctly identify a registrant's risks in light of its business, operations, conflicts and other compliance factors, or, to the extent the risks were identified, could not correctly identify whether the registrant had adopted written policies and procedures to mitigate or address those risks.  Although the Staff noted that the compliance rules do not explicitly require compliance policies and procedures to contain specific elements, the Staff observed certain instances where registrants "did not appear to have adopted, implemented and/or adhered to policies and procedures that were reasonably designed to prevent the violation of applicable regulations or that were relevant in light of the registrant's business and operations."  More particularly, the Staff observed "instances in which compliance policies and procedures were not followed or the registrants' actual practices were not consistent with the description of the registrants' compliance manuals."  Several compliance manuals, the Staff found, were created using "outsourced CCO-provided templates" and were not tailored to the registrant's business or practice. 

Finally, the Staff observed that, with respect to annual reviews, certain outsourced CCOs "infrequently visited registrants' offices and conducted only limited reviews of documents or training on compliance-related matters while on-site."  The limited visibility of the outsourced CCO, the Staff noted, resulted in such CCOs having diminished authority within the organization to affect the registrants' compliance policies and procedures.

C. Recommendations

1.      Diligence of Outsourced CCOs at Time of Engagement.  When choosing an outsourced CCO, a registrant should ensure that such CCO has adequate resources to effectively administer the registrant's compliance policies and procedures.  At the time of engagement, a registrant should (a) require an outsourced CCO to make a specific time commitment to the registrant that is commensurate with the registrant's business model and associated risks, and (b) review the outsourced CCO's track record and confirm that there are no prior instances of misconduct that would give rise to concern.

2.      Evaluation of Policies and Procedures.  A registrant should assess the policies and procedures prepared by an outsourced CCO for their adequacy in light of a registrant's particular business and associated risks, and enlist the assistance of counsel or other outside consultants, to the extent necessary, to conduct the assessment.  Senior management should be comfortable that the registrant's compliance policies and procedures are appropriate given the scope of the registrant's business and the registrant's growth plans.

3.      Periodic Reevaluation of Outsourced CCOs. At periodic intervals, perhaps coinciding with contract renewal dates, management of each registrant should evaluate the performance of the outsourced CCO during the prior term of the contract.  Management should take into consideration, among other things, (a) the performance of the outsourced CCO during the prior term, particularly in connection with any SEC examinations of the registrant, (b) whether the compliance needs of the registrant have changed over the prior term, and (c) whether renewing the outsourced CCO's contract is appropriate.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.