Broker-Dealers: Pay Attention to Government Audits and Examinations

brokers1The story of “The Boy Who Cried Wolf” applies with full force to the securities industry and the FCPA.  Since 2010, FCPA practitioners have been crying out about FCPA risks in the securities industry.

First, in 2010, it was the SEC letters issued to various investment banks, private equity and hedge funds.  The SEC was concerned about anti-corruption compliance and interactions with sovereign wealth funds which fall within the “foreign official” definition in the FCPA.  The SEC’s letters were issued, the questions were asked, materials were submitted by the recipients and not much has happened since then.

Second, in 2011, the Serious Fraud Office sent shudders through the private equity and hedge fund industry that the UK Bribery Act was going to be aggressively enforced against private equity companies.  As we all know, the UK bribery Act has been an enforcement whimper and nothing much has happened.

Third, the BANDES enforcement action around Direct Access Partners, which originated from a routine SEC examination, resulted in criminal charges against four individuals, including the “foreign official” from Venezuela who was charged with Travel Act violations.brokers3

This last event is significantly different from the other two.  When the Department of Justice criminal prosecutors step in and act, the matter is by definition more important.  A criminal prosecution of four individuals is nothing to ignore.  If anything, the prosecution sends a serious message to the securities industry and anyone subject to SEC or CFTC regulation.

There are a number of lessons learned and proactive steps which investment companies and broker-dealers need to take.

Prepare for a Government Examination:  When the government shows up at your doorstep for a routine or any other matter, it is important to remember – the government is not your friend.  The government’s job is to ensure compliance through a standard examination.  If they see anything unusual or requiring follow-up, they will do so.  The government’s review of a company is an inherently risky proposition.

Companies need to devote more resources to prepare for such examinations.  No matter what industry you are in, government audits or examinations can be a risky event.  Mock audits and detailed checklists should be used to prepare.

brokers4Ensure Representation at every Government Interaction:  Lawyers can be valuable at any government audit.  Most importantly, they stand between you and your employees and the government.  They communicate for the company and represent the company’s interests.  Too many examination subjects let mid-level employees take responsibility for interacting and responding to government requests for information – inevitably, the employee, in his or her desire to demonstrate compliance, provides too much information, make unnecessary and sometimes damaging comments or volunteers to provide additional information not necessary for the government to review.

Prevent the Spiraling Set of Requests: Companies enter an examination or audit with a chip on their shoulder – they feel they have done something wrong already; the government senses this attitude and may try and push the envelope as to the proper scope of the inquiry.  This creates serious risks.  The company can now be subject to related reviews of information which can ultimately lead to something that should not have been discovered in the normal course of an examination.

Before the examination, the company and its employees have to understand the purpose of the examination, the scope of the examination and the protocol for responding to any request for information.  Training on the topic is important to prepare for the examination so that the “downward spiral” does not occur.

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