Remarks to the Greater Cincinnati Mutual Fund Association
Alison Staloch, Chief Accountant, Division of Investment Management
Dec. 3, 2019
Good afternoon and thank you Brenda [Fleissner] and the Greater Cincinnati Mutual Fund Association for the kind introduction and for the invitation to join you today.
I serve as Chief Accountant for the Division of Investment Management (the “Division”) at the Securities and Exchange Commission (the “Commission”), and I have been with the Commission since 2015. Previously, I worked within the public accounting profession, concentrating on financial reporting for registered investment companies. In my role as Chief Accountant of the Division, I have the pleasure of working with the Division’s talented and experienced accountants on a number of topics. Broadly, my role covers overseeing, first, the review of financial information disclosed to investors and, second, the development of recommendations for policies that promote the full and fair disclosure of material financial information. As a result, I am fortunate to have observed the Commission’s regulation of the industry from a variety of perspectives as both an auditor and a regulator.
This collective experience has given me a deep appreciation for the complexity and importance of the work of the Division’s accounting staff. Today, I would like to talk specifically about the Division’s Chief Accountant’s Office (“Office”) and provide further transparency into how the staff accomplishes its important work. I will begin with an overview of our function and then touch on two areas of current focus for us. First, I will provide a background on the Division’s accounting office and how we work. Second, I will share some thoughts on our Office’s process to express staff views as well as our current project to review past staff statements, including staff comments on financial statements. Third, I will highlight the staff’s efforts in the area of valuation. I hope my remarks will convey the importance of the work that the Division’s accountants do as well as the extensive talent that our collective team at the Division brings to our markets.
Before I begin, I will remind you that the views I express represent my own views and do not represent the views of the Commission, the Commissioners, or the staff.
Overview of the Chief Accountant’s Office
The Division’s Chief Accountant’s Office serves many functions. As the primary accounting experts of the Division, we provide counsel to all of the Division’s offices on a variety of accounting, auditing, financial reporting, or other disclosure related topics (“accounting matters”) relating to investment companies registered under the Investment Company Act of 1940 (“Investment Company Act”) or investment advisers registered under the Investment Advisers Act of 1940 (“Advisers Act”). We also support and collaborate with colleagues throughout the Commission, including, most frequently, staff in the Offices of Compliance Inspections and Examinations and of the Chief Accountant and the Divisions of Corporation Finance and Enforcement. Finally, we also comment on the filings of registrants, interact with and provide perspectives to stakeholders throughout the investment management industry, and provide advice and assistance to the public on accounting matters.
Supporting the Commission and Division colleagues
The Division’s Chief Accountant’s Office supports all of the offices within the Division, including significant coordination with our Chief Counsel and Rulemaking Offices on policy recommendations impacting accounting matters. Today, I want to focus on our extensive work with the Division’s Analytics Office. The accounting profession continues to evolve to increase its focus on the use of data, analytics, and other technologies and related skill sets. We frequently team with our talented colleagues in the Analytics Office to similarly increase the use of technology and data analysis to improve the efficiency and effectiveness of our regulatory program. We work together to derive useful information from available data. Where we identify issues in our financial statement reviews, we use internally developed analytical tools to evaluate if those issues have any potential broader implications. For example, if we identify valuation concerns for a particular security, we have the ability to quickly identify all investment companies that hold that security and to work with our colleagues in the Analytics Office to evaluate potential industry-wide impacts. These collaborative efforts can in turn inform and support staff efforts. Just as the accounting profession continues to evolve and incorporate data analytic skill sets, we anticipate increasing integration of these evolving resources in our work.
Our Office also collaborates with the Commission’s Office of the Chief Accountant on a number of topics. These include (1) accounting consultations, primarily around valuation and consolidation matters impacting the asset management industry, (2) auditor independence consultations specific to investment companies and investment advisers and fund sponsors, and (3) rulemakings or guidance concerning joint areas of interest. We also provide input on projects and reviews they conduct in their oversight responsibilities of accounting and auditing standard setters as it relates to items impacting the asset management industry.
Finally, we also work closely with our colleagues in the Office of Compliance Inspections and Examinations and the Division of Enforcement on examinations or investigations. When complex accounting matters are identified relating to registered investment companies, business development companies (“BDCs”), or registered investment advisers and the investment companies they advise, we provide our staff colleagues with guidance on the relevant accounting requirements. For example, we are involved in evaluating fair value measurements, including the methodologies, inputs, and assumptions utilized by investment companies in preparing their valuations.
Supporting the public through advice, assistance, and financial statement reviews
We also provide advice and assistance to assist stakeholders, legal counsel, and auditors in understanding Commission and staff interpretations of U.S. generally-accepted accounting principles (“U.S. GAAP”) and the requirements of the federal securities laws as they execute their responsibilities for financial reporting and compliance with those standards and regulations. We do this through a variety of methods.
First and most prominently, we advise the public of our views through our financial statement review program. The Sarbanes Oxley Act of 2002 requires the staff to review the financial statements of every registered issuer at least once every three years. Based on current registrant volume, this required the Division’s accountants to review more than 4,500 financial statements in our most recently completed fiscal year. In that same year, our team issued comments to registrants that resulted in several hundred comment response letters that contained over 1,000 comments. The staff accomplish all of this by taking a risk-based, data driven approach.
These efforts result in a review program that seeks disclosure of accurate information for investors and drives consistency among registrants in the area of financial reporting. Through the review program, the staff is also able to identify potential issues, like valuation and liquidity matters that may impact the net asset value or redeemability of investment company shares that may affect retail investors.
We also assist registrants and their service providers by responding to requests for relief or pre-filing consultation submissions, often in connection with our colleagues in the Division’s Chief Counsel’s Office. These requests relate to the financial reporting or other disclosure requirements contained in Regulation S-X, the Investment Company Act, and the Advisers Act. Broadly, I would like to remind registrants that the staff stands ready to consult with investment companies in their efforts to comply with the federal securities laws and we engage in consistent outreach efforts to ensure that registrants know we are available. For example, we consider requests for relief each year under our delegated authority under rule 3-13 of Regulation S-X. This rule permits the Commission to allow for the omission of one or more financial statements or for the filing of substituted financial statements deemed to be of comparable character, where consistent with investor protection. This often relates to requirements for the financial statements of underlying investments or to the accounting basis of certain required financial statements. We also consider inquiries from registrants on whether we would object to conclusions reached on accounting matters based on particular facts and circumstances. This includes, for example, situations where registrants have changed their fiscal year end and want to file financial statements for multiple period ends in one filing and mail on a delayed basis. While we may not ultimately agree with registrants on whether an accommodation is warranted, we will always devote time and careful consideration to evaluating each request that is received.
Division staff also endeavor to be as transparent and collaborative as possible. We notify the public of staff views through outreach efforts, including at conferences or meetings with market participants. We also have revamped our Division website and are publishing staff views there to share information that may be helpful to practitioners and other market participants and to provide transparency into our review process. One of the items I would like to spend some time talking about today is a recently issued letter related to accounting matters.
Staff Positions and Dear CFO Letters
Our Office recently undertook a project to review prior staff statements and positions concerning accounting matters from multiple sources, including what are commonly referred to as Dear CFO Letters, which the Division’s staff issued from November 1994 to February 2001. We believe these letters were and are a practical tool to communicate to the investment management industry the staff’s views about accounting matters. However, in the last two decades, changes in the regulatory environment warrant a reexamination of the continued relevance of these views. For example, the federal securities laws and rules governing the investment management industry have been amended in ways that have further clarified or changed existing rules and regulations. In addition, the Financial Accounting Standards Board and the Public Company Accounting Oversight Board have issued standards that have modified the respective accounting principles and auditing standards applicable to registered investment companies and BDCs. Additionally, the industry has evolved significantly during that same time.
Because of these market, regulatory, and other changes coupled with our intention to be transparent and to continuously evaluate the continued relevance of our views, the Staff recently issued a new Dear CFO Letter to rescind, modify, or otherwise supplement certain previously expressed views. This Dear CFO Letter also expresses a new view relevant to the current state of the asset management industry. Specifically, this letter touches on our updated views about accounting matters specific to recaptured expenses, significant underlying investments of fund of funds, and closed-end fund expense ratios. It also supplements our views about the consents of experts and expresses a new view regarding the communication requirements concerning distributions.
We also have added an accounting matters bibliography to the Division’s website. This will serve as a cumulative collection of staff positions expressed in Dear CFO Letters on accounting matters relevant to investment companies. Through this bibliography and the reintroduction of the Division’s Dear CFO Letters, the Staff seeks to promote continued dialogue as we remain committed to reevaluating our own views in light of market developments. You can find this bibliography and the latest Dear CFO letter on the Division’s website.
Another topic I would like to discuss is valuation. Valuation is critical to any registered investment company or BDC, particularly when it follows the requirements in U.S. GAAP to measure investments at fair value. For millions of investors, the value of fund assets will be at the heart of important decisions about buying or redeeming shares and choosing among investments. Proper valuation helps affect prices at which purchases and redemptions are made and helps to avoid shareholder dilution. Valuation also affects a fund’s asset-based fee calculations; its disclosure of fees, performance, net asset value, and portfolio holdings; and its compliance with investment policies and limitations.
For these reasons, valuation continues to require a keen eye, and the challenge has evolved with markets. Fair value, as defined by U.S. GAAP, is a market-based measurement. When our markets evolve and the volume and nature of information available to market participants’ changes, the valuation inputs, assumptions, or even the techniques a fund utilizes may also change. Both effectiveness and efficiency, or said in other words, quality and innovation, are important to getting it right, and developments in data and analytics have changed how these are achieved. For example, the growing availability of consistent and reliable data for certain instruments may allow for opportunities to better calibrate valuation inputs and perform detailed back-testing. It may also, ultimately, enhance the valuation process and further support valuation conclusions. Additionally, innovations in artificial intelligence, machine learning, and data analytics may lead to important improvements in how fair value measurements are estimated. At the same time, I think they are also likely to demand that accounting professionals, and those that rely on their work, develop new skills and understanding to keep pace with these developments.
In view of this changing landscape, the Staff has been taking a fresh look at the Commission’s existing valuation guidance for funds. In particular, Staff in our Office, in the Division’s Chief Counsel’s Office, and in the Commission’s Office of the Chief Accountant are engaged in an ongoing project to consider possible recommendations for updates to Commission guidance on the valuation of portfolio securities. This effort may include looking at the role of Boards in light of other changes in our regulatory framework, and the evolving markets, over the past five decades.
In the course of that work, I have been reflecting on a variety of fund valuation practices and, in particular, on two key aspects of valuation that I would like to highlight. First, I would highlight the importance of sound valuation policies and procedures. In my work, I have seen a wide range of policies and procedures. In some cases, these have been comprehensive, providing the steps necessary for estimating fair value in a variety of situations relevant to the fund. Unfortunately, I have also seen policies that are unclear or do not appear to outline steps that comply with U.S. GAAP. When thinking about whether policies fall into the former or the latter category, I ask several questions. For example, are these policies written in a way which promotes consistent application? Do these policies maximize the use of observable inputs and provide for calibration of pricing models to current market conditions using observable market data? Are these policies appropriately tailored to the portfolio of investments being fair valued?
Second, I would highlight the importance of the implementation of valuation policies and procedures. Even policies and procedures that are great on paper will not help a fund if they are not well executed. When considering implementation, I ask, for example, are the policies and procedures being implemented with the right information and tools? Do the individuals performing and overseeing the implementation of the policies have the appropriate expertise? Is the fund maintaining documentation of its valuation process sufficient to support robust audit review?
These questions highlight some of the things we think about as we conduct our work. There is strong demand for thoughtful, refined approaches to fair value measurements and for continued evolution, aligned with investor’s needs and the changing environment.
In closing, I want to thank you again for the opportunity to meet with you today. It has been my pleasure to speak to you about our Office and the Staff’s important work in supporting the Commission’s tri-part mission. I have the privilege to work with talented colleagues throughout the Division and Commission, and we are humbled by the importance of our collective work to protect investors and to support our nation’s capital markets. We also are grateful for the part that each of you play in your efforts to best serve investors.
This concludes my prepared remarks and I thank you for your time.
 The Securities and Exchange Commission (“SEC” or “Commission”) disclaims responsibility for any private publication or statement of any SEC employee or Commissioner. This speech expresses the author’s views and does not necessarily reflect those of the Commission, the Commissioners, or other members of the staff.
 See Sarbanes Oxley Act of 2002 Section 408(c) which mandates such reviews by the Commission.
 See rule 3-13 of Regulation S-X which provides that “the Commission may, upon the informal written request of the registrant, and where consistent with the protection of investors, permit the omission of one or more of the financial statements herein required or the filing in substitution therefor of appropriate statements of comparable character.”
 The Division’s Dear CFO Letters were initiated in a letter to Chief Financial Officers by Lawrence A. Friend on November 1, 1994. See all letters available on the Division’s website at https://www.sec.gov/investment/accounting-and-disclosure-information?aId=edit-category&category=Accounting+and+Disclosure+Information-Accounting.
 Staff views do not by themselves create a binding or enforceable legal right or obligation of the Commission or other parties.
 See ASC 946-320-35-1 for the requirements for debt and equity investments and ASC 946-325-35-1 for the requirements for other investments.
 The Investment Company Act requires registered investment companies that issue redeemable securities to sell and redeem their shares at prices based on the current net asset value (NAV) of those shares. The shares of closed-end funds (including BDCs) that are listed on an exchange often trade at a premium or discount to NAV.