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U.S. Securities and Exchange Commission

Speech by SEC Commissioner:
Remarks at the SIA Compliance & Legal Division's 35th Annual Seminar


Commissioner Cynthia A. Glassman

Phoenix, Arizona
March 23, 2004

Thank you Beth. I appreciate the opportunity to speak to the compliance and legal professionals who advise the securities industry. As Dave DeMuro said in the brochure for this conference, you continue to face unprecedented challenges. For many of us, the old adage "may you live in interesting times" has taken on a new meaning. In my two years on the Commission - which qualifies me as the longest serving sitting Commissioner - saying that it's been an interesting time is a gross understatement. All of us in the securities industry have faced a barrage of financial scandals that - with the exception of the events leading to the creation of the Commission 70 years ago - are unprecedented. Before I continue, I must give the standard disclaimer that the views I express today are my own, and do not necessarily reflect the views of the Commission or its staff.

The Commission's response to the scandals has been a serious ramping up of rulemaking and enforcement action. Last year, much of our time was spent adopting rules to implement the Sarbanes-Oxley Act and bringing a record number of enforcement cases, including the global analyst settlement. More recently, while our enforcement actions continue at a record pace, we have also focused heavily on rules to address a range of mutual fund issues. These rule proposals address late trading, market timing, selective disclosure abuses, mutual fund governance, point-of-sale and confirmation statement disclosures, prohibitions on funds from using brokerage commissions to pay broker-dealers for selling fund shares, requirements that shareholder reports discuss the reasons supporting the board's approval of the fund's advisory contract and fees, and the imposition, in certain circumstances, of a mandatory redemption fee for fund shares. Additionally, and perhaps of particular relevance to this audience, we adopted a rule that requires all funds and advisers to have chief compliance officers and comprehensive compliance policies and procedures, and we have proposed a requirement for registered advisers to adopt a code of ethics. Sometimes I feel like we are the energizer bunny - we just keep on going.

As you can see, we have taken a number of steps to combat the market problems on many fronts and will be watching carefully to see if the solutions we have proposed or adopted have been effective. I cannot stress strongly enough how much we welcome the public's interest in our rulemaking process, and encourage all of you to participate in this process with us. I also cannot stress strongly enough how much we would welcome some respite from new scandals and violations of the securities laws. Therefore, what I would like to focus on is the identification of common elements underlying many of the problems we've witnessed, as well as suggestions for ensuring that you have an effective compliance program to avoid the problems.

As everyone in this room is aware, the financial scandals that unraveled at the dawn of the twenty-first century reflected a governance failure by a number of companies and resulted in a tremendous loss of investor confidence. The impact of these scandals cannot be overstated. And, while there are different categories of problems, for example, accounting fraud, analyst conflicts of interest, and market timing of mutual funds, they all share at least six key elements. These elements are: Avarice, Conflicts, Complicity, Opacity, Stupidity, and Temerity. For ease of reference, I like the mnemonic A-C-C-O-S-T, or ACCOST, and believe me, the investing public feels like they have been accosted.

Let's start with avarice, or greed. The recent financial scandals all demonstrate that greed manifests itself in various forms. It may be the company executive fraudulently acting to meet Wall Street expectations in order to get a bonus, the auditor turning a blind eye to keep a client, or the analyst writing an unfounded rosy research report to generate investment banking business. Whatever its form, greed ultimately hurts the unwitting victim. When it occurs on a large scale, as we have witnessed, it also undermines confidence in the integrity of our markets. As one observer of improper business conduct said: "Small wonder that confidence languishes, for it thrives only on honesty, on honor, on the sacredness of obligations, on faithful protection, on unselfish performance; without them it cannot survive."1 You may find it interesting to know that this commentator was Franklin D. Roosevelt, who made this statement in his first inaugural address in 1933. Sadly, 71 years later, this observation is still applicable.

I concede that, no matter how many rules we enact, we cannot eradicate greed. What we can do, and in fact have done, is impose significant consequences where greed leads to illegal behavior. There has been a clear ramping up of sanctions, both by the SEC in civil cases and by criminal authorities, against individuals and companies who have committed securities violations. The Commission has become more aggressive in our pursuit of disgorgement, higher civil penalties, and the wider imposition of officer and director bars in SEC enforcement actions. We also continue to work together with state agencies and the Department of Justice to ensure that investors are protected and wrongdoers are punished.

Conflicts lie at the heart of many of today's scandals. It is conflicts that led to the Commission's global analyst settlement, the auditor independence requirements, the audit committee independence requirements contained in NASD and NYSE listing criteria, and the requirements and proposals for, greater mutual fund disclosures. It is in your interest to minimize conflicts to the greatest extent possible and, for those that can't be eliminated, to manage and disclose them to customers and investors.

Complicity also plays a very large part in many of the frauds we've witnessed. It connotes an active willingness to be involved in the fraud, or at the very least, turning a blind eye toward what is happening. Lately, when one thinks of examples of complicity, certain mutual fund managers come to mind, and their willingness to allow market timing activities by hedge fund clients. However, from the cases we've seen, complicity has not been limited to individuals within one organization. It can also include the company's auditor, and even other businesses, such as vendors who enter into questionable billing arrangements that skew a company's financial reporting, or lenders who help disguise loan proceeds as cash from operations.

Opacity, or the lack of transparency, is antithetical to the spirit, if not the letter, of the securities laws, which, fundamentally, are aimed at full disclosure. Transparency increases the strength and depth of our markets, and ensures that the U.S. maintains its status as the pre-eminent marketplace for investors. Nonetheless, time and time again we've witnessed the intentional clouding of information to promote self-interest that, in the long run, hurts not only specific investors, but all market participants.

Stupidity. That's a good one. From the accounting shenanigans propagated by business executives, to the derisive internal e-mails of stock analysts, the displays of disdain and chicanery reflect a virtually incomprehensible, and ultimately incorrect, belief that we and the public would not catch on. Well, guess what? As the scores of civil and criminal proceedings demonstrate - we caught on.

Finally, temerity must be recognized. The foolish disregard of regulatory risks, combined with a certain amount of smugness, especially on the part of boards of directors of public companies and mutual funds, seems to have enabled a number of financial scandals. It appears that some boards were far too accepting of the information they received from management and did not ask the tough questions that real diligence requires. Our focus on board governance overall, and independence in particular, is meant to address this issue. And we will take enforcement action against boards when warranted.

The impact of the financial scandals, and their key elements, continues to be felt. According to the most recent Annual SIA Investor Survey, published in November 2003, the good news is that investor trust in the securities industry in 2003 is at about the same level as in 2002, so things don't appear to have gotten any worse since then. The bad news is that the 2002 SIA Investor Survey recorded the lowest levels of investor trust and confidence since the tracking program began in 1995. According to the 2003 survey, "the most significant issues for the industry are perceptions of dishonesty, a reluctance to punish wrongdoers, and lack of internal controls to prevent wrongful actions." Of the 1,500 randomly selected investors surveyed, sixty percent expressed high levels of concern about accounting fraud at U.S. corporations, fifty-seven percent were concerned about corporate governance, and approximately one-third had high levels of concern about a lack of trust in research analysts, Wall Street, or brokers and financial advisers in general. That's not a pretty picture.

To allay these concerns, we must all work diligently not only to avoid repeating the sins of the past, but also to ensure that the opportunity to do so is removed to the maximum extent possible. This is where you, the legal and compliance community, must be vigilant. As a compliance specialist, each of you is your organization's first line of defense against regulatory problems. Given the fast-paced changes occurring in the regulatory environment, you repeatedly face new challenges to incorporate these changes into your compliance program and to apply them effectively at your company. As I well know from my private sector consulting experience, you have a difficult job. I've seen the tension between what business people want to do - the new products, the new strategies, the new marketing campaigns they want to roll out yesterday - and what the compliance people believe is permissible under the rules and, just as important, what is advisable in the regulatory environment. You are not always the most popular people in your organizations, and your success is hard to measure. For you, no news is good news.

According to the SIACL's mission statement, its purpose is to foster an effective self-regulatory system through the efforts of compliance and legal personnel.2 In the forty years since this group was formed, never has this purpose been tested more greatly. As members of the legal and compliance community, you must ask yourselves: "What is it that I can do to ensure that my firm has a strong compliance program?" I have some suggestions for you, and, you guessed it, another mnemonic. It's very simple, A-C-C-O-U-N-T, or ACCOUNT. This is easy to remember because, as all of you in this room know, if there is a problem, your organization will be held to account! Let me explain.

A is for Active. As legal and compliance personnel, you must be diligent in guarding against your organization's running afoul of the applicable rules and regulations. As I noted already, there are too many examples where companies, and especially their boards, were complacent and reactive. You must be PRO-active in order to avoid the same pitfalls.

C stands for Comply, as in comply with the rules - not just the letter, but the spirit as well. This sounds simple enough, but history teaches us that it is often not done. As a result, as I noted earlier, we recently approved rules requiring investment companies and investment advisers to adopt and implement written policies and procedures reasonably designed to prevent securities law violations, and to designate a chief compliance officer responsible for administering these policies and procedures.

C also stands for Counsel. As the legal and compliance professionals within each of your organizations, you must advise management of its responsibilities, and ensure that the organization, and its agents and employees, all promote good corporate behavior. Your informed counsel and advice strengthens the ability of your organization to achieve this result.

O is for Oversee. You should review regularly your organizations' policies and procedures, and advise management of steps that should or must be taken to strengthen them. Moreover, for investment companies and investment advisers, you are now required annually to review those policies and procedures for their adequacy and the effectiveness of their implementation. Although the rule requires only an annual review, it also cautions that one should consider the need for interim reviews in response to significant compliance events, changes in business arrangements, and regulatory developments. Accordingly, I believe the prudent compliance officer would have a program in place that frequently monitors the adequacy of the organization's policies and procedures, and the effectiveness of their implementation.

U is for Understanding. You must Understand how your organization operates, including knowledge of the firm's products and how the organization earns its money. Without a fundamental understanding of the business, including actual or potential conflicts of interest, you will eventually overlook something. Whether or not what you overlook will be important I cannot say - but why take the chance? Accordingly, I urge that you work with management to make sure you understand fully the nuances of your organization so that you can be in the best position to ensure your organization's compliance.

N means Notify. If there is a problem, do not try to hide it. If you do, things will only get worse. As you know, our standards of professional conduct for attorneys require an attorney that represents issuers to report evidence of a material violation of securities laws or a material breach of fiduciary duty or a similar material violation by the issuer "up-the-ladder" within the company. If the company officials do not respond appropriately to the evidence, the attorney is required to report the evidence to the audit committee, another committee of independent directors, or the full board. In my view, all compliance personnel, not just the attorneys representing an issuer, should think about using this rule as a model. If you do, you enable your organization to address the problem quickly and, ideally, take timely corrective action.

T is for Thankful. If you follow all the other suggestions I've given you, you will avoid many problems and will be thankful for that.

My final suggestion is for you to combine ACCOUNT, with ability, for accountability. Your organization must give you the ability to do what needs to be done in order to have a strong and effective compliance program. This requires a commitment of money, staff, training programs, and, most important, the backing of senior management to instill the right culture. You must challenge management to afford you this ability - without it your organization's account may suffer a deficit. And with that, I thank you for giving me the opportunity to address you today. I hope you find the rest of the conference worthwhile.

Thank you.




Modified: 03/24/2004