Author: Doug Cornelius

You can find out more about Doug on the About Doug page

Compliance Bricks and Mortar for January 3

Happy New Year! Here are some of the year-end and start-of-the-year stories for you.

SEC And CFTC Regulatory Priorities To Watch In 2020

The Securities and Exchange Commission and the Commodity Futures Trading Commission expect to tackle a busy regulatory slate in 2020. For the chairs of both agencies — Jay Clayton at the SEC and Heath Tarbert at the CFTC — this year could also be their final opportunity to leave their mark given the looming presidential election and potential change in administration.
While both bodies share certain concerns, including confronting regulatory challenges posed by the growth of digital assets, each have distinct priorities that appear ripe for action in 2020. Lawyers also note that regulators are facing a tight time frame to complete priorities given that the nation’s attention will shift to the presidential campaign by Labor Day.

https://www.law360.com/securities/articles/1228214

7 Compliance Items to Watch for 2020
Matt Kelly
Radical Compliance

Welcome to 2020, everyone! This has been a long winter break, but before we return to the grind of emails to answer and staff meetings to avoid, let’s spare a few moments to ponder how the corporate compliance landscape in the coming year.

Without further delay, then: my annual list of compliance issues worth watching in the next 12 months. In no particular order…

http://www.radicalcompliance.com/2020/01/01/7-compliance-items-watch-2020/

My 2020 Legal Market Predictions
Ron Friedmann
Prism Legal

Clickbait titles don’t appeal to me but my original idea for a title here – “Incremental Change in 2020” – just sounded too lame. Unlike many other commentators, I shy away from bold predictions of big changes coming soon. I’ve worked for three decades in the corporate legal market and have witnessed many incremental changes but few dramatic ones. Yet Big Law today does look rather different than it did when I started in the 1980s. The new look, however, flows from many small changes.

https://prismlegal.com/my-2020-legal-market-predictions/

2019 FCPA Enforcement Index
Richard L. Cassin
The FCPA Blog

Last year 14 companies paid a record $2.9 billion to resolve FCPA cases. That includes amounts assessed in resolutions with the DOJ or SEC or both. There were four enforcement actions last year in the mega category — Ericsson at $1 billion, MTS at $850 million, Walmart at $282.7 million, and Fresenius at $231.7 million. Both Ericsson and MTS landed on our list of the ten biggest FCPA enforcement actions of all time.

https://fcpablog.com/2020/01/02/2019-fcpa-enforcement-index/

31 Days to a More Effective Compliance Program –
Day 1| What 2019 Brought to Compliance Programs
Tom Fox
FCPA Compliance & Ethics

2019 was a very significant year for every compliance practitioner and compliance program. Not only was it the year with the single highest amount of FCPA enforcement actions, fines and penalties assessed against corporations but it also saw the greatest number of individual prosecutions. Yet perhaps most significantly there were three noteworthy releases of information by the federal government which directly impacted compliance professionals in 2019. Two came from the Department of Justice (DOJ) and one came from the Department of Treasury, Office of Foreign Asset Control (OFAC). These three guidance’s contributed to the continued evolution of what constitutes a best practices compliance program.

http://fcpacompliancereport.com/2020/01/31-days-effective-compliance-program-day-1-2019-brought-compliance-programs/

Compliance Bricks and Mortar for December 20

Here is my Star Wars: The Rise of Skywalker spoiler-free collection of compliance-related stories that I’m reading while waiting to watch the movie.

The Intersection of Star Wars and Compliance
Tom Fox and Jay Rosen

The Hallmark of New Stakeholder Risk
Matt Kelly
Radical Compliance

I always enjoy a good drama, and what happened at the Hallmark Channel this week did not disappoint. Ethics and compliance officers might want to consider what happened there since the same basic plot line seems to be happening at lots of large organizations.

You might already have heard what happened, although the whole thing happened so fast that maybe you didn’t. Hallmark had agreed to air several ads from Zola Inc., a wedding planning firm, including one ad that featured a same-sex couple. That ad (with two women) started airing several weeks ago, during what is normally Hallmark’s busy season of broadcasting schlocky Christmastime romance movies. 

http://www.radicalcompliance.com/2019/12/19/hallmark-new-era-stakeholder-risk/

Court Finds Fund a “Beneficial Owner” Subject to Section 16 Despite Delegation to Investment Adviser
Sidley Austin

A federal district court found a private fund to be a “beneficial owner” subject to Section 16 of the Securities Exchange Act of 1934, even though the fund had delegated voting and investment power to its investment adviser.1 Delegation has been relied upon by private funds in taking the position that the fund is a not a “beneficial owner” subject to Section 16. This ruling is likely to attract the interest of the Section 16(b) plaintiff’s bar, which reviews SEC filings for potential theories of private litigation.

https://www.sidley.com/en/insights/newsupdates/2019/12/court-finds-fund-a-beneficial-owner-subject-to-section-16-despite-delegation

Proposed Changes to Accredited Investor Definition

On Wednesday, the Securities and Exchange Commission proposed changes to the definition of “Accredited Investor” under Regulation D. The reason for the changes is to open the private market to a broader group of individual and institutional investors.

For those hoping for a dramatic change in how to determine accredited investor, you’ll be disappointed. The change eats at the edges and covers a few small openings.

The key to the accredited investor definition is that it limits who can invest in a private placement under Rule 506. If you don’t meet the accredited investor standard you can’t invest.

One expansion is to allow certain credentialed people to be automatically included as an accredited investor. The initial credentials are for registered representatives who have Series 7, 65 or 82 license. The rule notes that there are over 700,000 people who hold those designations, but has no data on how many of these were not previously qualified.

For private funds, there is an application of the “knowledgeable employee” definition over to accredited investor status. The SEC established Rule 3C-5 to allow “knowledgeable employees” to invest in their company’s private fund without having to be a qualified purchaser. The rule also exempts these knowledgeable employees from the 100 investor limit under the Section 3(c)(1) exemption from the Investment Company Act. However, currently the knowledgeable employee still has to be an accredited investor. This rule change will cover that gap.

Commissioner Jackson was opposed to the expansion. He is concerned about the lack of investor protection. He thought there was a lack of analysis in the release. In one instance he cites that the use of brokers expected to protect investors under the proposal. However, the data he looked at found that there was higher instance of fraud when brokers were involved. No vote.

Commissioner Peirce found the current bright-line tests of income and net worth are too simplistic, keeping out qualified people and allowing in more that may not be qualified. She also noted that the geographic disparities in cost of living results in lower salaries and therefore a geographic disparity in accredited investors. Yes vote.

Commissioner Roisman pointed out that he is not currently an accredited investor and would not qualify under the proposed changes. He stated that the definition should be broader. He is also concerned about the lack of investor protections. Yes vote

Commissioner Lee found the changes merely go to expanded the pool of private investors without the data on fraud. She is concerned that the current net worth and income levels are not indexed to inflation, expanding the pool of investors who could enter into private transactions without the protections of the public markets. No vote.

Chairman Clayton noted that there is a consensus that the current definition is less than satisfactory. Yes vote.

Once published, the proposal will be open for comments for 60 days.

Sources:

Compliance Bricks and Mortar for December 13

These are some compliance-related stories that recently caught my attention.

Do Private Equity Managers Raise Funds on (Sur)real Returns?
by Niklas Huether
The CLS Blue Sky Blog

By analyzing valuations at the deal-level, I do not find any evidence of window dressing in private equity. The key factor for performance peaks lies in the deal composition rather than in inflated NAVs.

http://clsbluesky.law.columbia.edu/2019/12/10/do-private-equity-managers-raise-funds-on-surreal-returns/

The Incomparable Value of Service in Secret: Lessons from the SEC’s Office of the Whistleblower
by Jordan A. Thomas
NYU Law’s Compliance & Enforcement blog

Nearly ten years ago, following a global financial collapse spurred by serial wrongdoing, Congress enacted the Dodd-Frank Wall Street Reform and Consumer Protection Act. Within its 2,000 pages of sweeping reform was the charge to establish an investor protection initiative, which emerged as the SEC Whistleblower Program. Its three pillars—anonymity safeguards, substantial monetary bounties, and significant employment protections—shaped a first-of-its-kind paradigm to encourage individuals to report suspected violations of the federal securities laws. The formidable combination of these programmatic mainstays and an enforcer armed with early actionable intelligence has proven to be a game changer. It’s not just recoveries and reform, however. Behind the results, including in the just-released Office of the Whistleblower’s Annual Report to Congress, stand everyday people willing to take a bold step forward, to be the outsider and the anti-hero, no matter the size of Goliath and his balance sheet.

https://wp.nyu.edu/compliance_enforcement/2019/12/03/the-incomparable-value-of-service-in-secret-lessons-from-the-secs-office-of-the-whistleblower/

Betrayed by the Big Four: whistleblowers speak out
by Madison Marriage
Financial Times

These individuals worked for four of the most renowned names in the business world: EY, Deloitte, KPMG and PwC. They are among 20 former employees from the Big Four accounting firms who have spoken to the Financial Times about their experience of harassment, bullying and discrimination in the workplace over the course of a year’s investigation into how these firms treat whistleblowers within their ranks.
The FT identified a disturbingly common pattern in terms of how complainants were treated: most initially felt ignored, then isolated and were eventually pushed out. Legal clauses aimed at silencing them swiftly followed; nine of those interviewed said they were pressured into signing restrictive non-disclosure agreements. Others were asked to sign but resisted.

https://www.ft.com/content/78f46a4e-0a5c-11ea-bb52-34c8d9dc6d84

Women in Compliance 2020 Finalists

Recognising and celebrating the achievements female compliance professionals make every day in the world of compliance and business from every industry around the world.
Bringing together female compliance professionals to provide practical learning skills in the compliance world as well as worthwhile opportunities for networking and mentoring.
25-26 March 2019 | London, UK
Discover more information

The Securities and Exchange Commission wants bad guys to know: ‘We’re watching’
by Bob Pisani
CNBC

I spent a day at SEC headquarters with the regulators Chairman Jay Clayton and the co-directors of the Division of Enforcement, Stephanie Avakian and Steven Peikin. The highlight was a visit to the Forensics Lab, a copper-lined room where the SEC extracts data from cell phones and computers from traders and others who may be engaged in suspicious activity.

https://www.cnbc.com/2019/12/11/the-sec-wants-bad-guys-to-know-were-watching.html

New List: The FCPA Top 40
by Richard L.Cassin
The FCPA Blog

There’s a surprisingly wide geographical distribution of the companies in the top 40. Ten come from the United States and five from France. Four companies are from Germany, followed by three each from Switzerland, Japan, Brazil, the Netherlands, and the United Kingdom.

https://fcpablog.com/2019/12/12/new-list-the-fcpa-top-40/
Photo by Evan Nitschke at Pexels.
https://www.pexels.com/photo/brick-leading-line-lines-snow-1009302/

Form CRS for Private Fund Managers

As part of Regulation BI package of regulatory changes, the Securities and Exchange Commission created a new Form CRS that needs to be delivered to “retail investors.” Of course there are questions from the industry. The SEC’s Division of Investment Management and Division of Trading and Markets created a website that answers Frequently Asked Questions on Form CRS. The question for pooled funds whether whether the rule would look through to retail investors in a fund.

Pursuant to new rules adopted by the SEC under the Securities Exchange Act of 1934 and the 1940 Act in connection with Regulation BI, registered broker-dealers and registered investment advisers will be required to deliver a relationship summary to retail investors. This summary is Form CRS.

Form CRS will require a firm to provide information about the relationships and services the firm offers to retail investors, fees and costs that retail investors will pay, specified conflicts of interest and standards of conduct, and disciplinary history.

One FAQ addresses a question I had regarding pooled funds:

Q: My firm is an investment adviser to pooled investment vehicles, such as a hedge funds, private equity funds and venture capital funds.  The investors in these funds include natural persons who may be “retail investors” as defined in Form CRS. Am I required to deliver a relationship summary to these funds?

A:  An investment adviser must initially deliver a relationship summary to each retail investor before or at the time the adviser enters into an investment advisory contract with the retail investor.  “Retail investor” is defined as “a natural person, or the legal representative of such natural person, who seeks to receive or receives services primarily for personal, family or household purposes.” In the staff’s view, the types of pooled investment vehicles described above would not meet this definition and a relationship summary would not be required to be delivered.

So, the manager doesn’t have to deliver a Form CRS to the fund itself. It’s less clear if you have to deliver it to the “retail investors” in the fund. Does Rule 206(4)-8 pass the Form CRS requirement through the pooled investment vehicle?

Sources:

Compliance Bricks and Mortar for December 6

These are some of the compliance-related stories I’ve been reading while digging out of the snow this week.

Can the S.E.C. Force Repayment of Ill-Gotten Gains?
by Peter Henning
DealBook

The issue before the Supreme Court will be whether a District Court can order a defendant to repay money obtained by fraud or trading on confidential information, or whether it is a penalty beyond the “equitable” power of the courts to require. The S.E.C. is sure to argue that a defendant who engages in fraud or insider trading should not be allowed to keep the profits, much as a thief has no claim to the money that is stolen.

https://www.nytimes.com/2019/11/29/business/dealbook/sec-fraud-disgorgement.html

A Common-Sense Approach to Corporate Purpose, ESG and Sustainability
by Frank B. Glassner
Harvard Law School Forum on Corporate Governance and Financial Regulation

The [Business Roundtable] lists stakeholders in the order of “customers” first, followed by “employees,” “suppliers,” “communities” and finally “shareholders.” This sequence does not alter the longstanding presumption that shareholders occupy the position of first among equals. As equity owners and providers of capital, shareholders have always required a high and continuous level of attention from companies. Voting power gives shareholders a direct voice in corporate governance; their investment decisions determine a company’s stock price and cost of capital. Accordingly, shareholders remain the primary audience for a company’s sustainability story. It is also important to remember that a company’s creditors, specifically investors in its fixed income securities, rank with shareholders at the top of the stakeholder list.

https://corpgov.law.harvard.edu/2019/12/01/a-common-sense-approach-to-corporate-purpose-esg-and-sustainability-2/

Compliance Under Fire: Two More Tales
by Matt Kelly
Radical Compliance

Neither of these stories is good. They, along with other tales of retaliation against CCOs I’ve collected over the years, are a reminder that corporate compliance must be important after all — because when you do the job well, you can piss people off. Let’s stand by those compliance folks who do the right thing. Attention must be paid.

http://www.radicalcompliance.com/2019/11/27/compliance-under-fire-two-more-tales/

Does ethics training actually affect business conduct?
by Jeff Kaplan
Conflict of Interest Blog

In “Can Ethics be Taught? Evidence from Securities Exams and Investment Adviser Misconduct,” forthcoming in the Journal of Financial Economics,  Zachary T Kowaleski of University of Notre Dame, Andrew Sutherland of the Massachusetts Institute of Technology, and Felix Vetter of the London School of Economics “study the consequences of a 2010 change in the investment adviser qualification exam that reallocated coverage from the rules and ethics section to the technical material section. Comparing advisers with the same employer in the same location and year, we find those passing the exam with more rules and ethics coverage are one-fourth less likely to commit misconduct. The exam change appears to affect advisers’ perception of acceptable conduct, and not just their awareness of specific rules or selection into the qualification. 

http://conflictofinterestblog.com/2019/11/does-ethics-training-actually-affect-business-conduct.html

Why complying with Reg BI can’t wait for the last minute
by Jeff Benjamin
InvestmentNews

The good news is, the Securities and Exchange Commission’s upcoming Regulation Best Interest is not expected to dramatically change most daily business activities for financial advisers and registered representatives.

The good news is, the Securities and Exchange Commission’s upcoming Regulation Best Interest is not expected to dramatically change most daily business activities for financial advisers and registered representatives. The bad news is, advisers and broker-dealer reps will still need to prepare for Reg BI, and that preparation might be expensive and time-consuming.

https://www.investmentnews.com/article/20191204/FREE/191209976/why-complying-with-reg-bi-cant-wait-for-the-last-minute

SEC 2019 Whistleblower Program Report

Section 924(d) of Dodd-Frank requires the Securities and Exchange Commissions Office of the Whistleblower to report annually to Congress on Office’s activities, whistleblower complaints received, and the response of the SEC to those complaints. In addition, Section 21F(g)(5) of the Exchange Act requires the SEC to submit an annual report to Congress. The SEC published the whistleblower report on November 15.

According to the report, the Office received slightly fewer tips and awarded significantly less to whistleblowers in FY 2019, as compared to FY 2018.

This past year, the SEC received 5,212 tips. That’s a slight decrease from FY 2018. That brings the total number of tips since the program started to over 33,000.

California, Pennsylvania, New York, Texas and Florida had the highest number of tips domestically. The only surprise in that list is Pennsylvania. The other four states would be on this list based on population. It seems to me that the Pennsylvania whistleblowers are more active.

For the year, the SEC handed out $60 million in awards to whistleblowers. That is a decrease from the $168 million in FY 2018. Most of that was taken by the $37 million award granted in March 2019 and $13 million award to another person for the same action. The other six recipients split the remaining $10 million.

The numbers are not good for whistleblowers. Over 5,000 complaints were made and that lead to only 8 awards. Of those 8, seven reported the problems internally before going to the SEC. That should eb a warning to ignoring internal whistleblowers.

Sources:

SEC’s Rulemaking Agenda

The Securities and Exchange Commission released its Fall Regulatory Flexibility Agenda, showing its expected rulemaking activity over the next year and updating the Spring edition of its agenda.

I highlighted three items from the Spring Agenda:

  1. Amendments to the Marketing Rules
  2. Amendments to the Custody Rules for Investment Companies and Investment Advisers
  3. Harmonization of Exempt Offerings

The proposed amendments to the marketing rules came out two weeks ago. This puts is solidly in the proposed rule stage. The proposed new regulation is in the release.

Amendments to the Custody Rule is still on the Agenda. It seems to be generously designated as being in the “proposed rule stage.” Maybe I missed it, but I don’t remember seeing any proposed changes.

The Harmonization of Exempt offerings had a concept release this summer. It too is generously designated as being in the “proposed rule stage.”

What’s new that caught my eye?

Accredited Investor Definition. This gets a designation of “proposed rule stage.” I assume this will end up being a part of the harmonization of exempt offerings. But the SEC may end up treating this separately if the Commissioners have trouble coming to agreement on the larger harmonization. The agenda also lists Regulation Crowdfunding Amendments and Regulation A Amendments separately.

Amendments to the Whistleblower Program Rules are listed as being in the final rule stage. The proposed changes to the whistlebower program were published over a year ago in July 2018.

Sources: