1 See Memorandum to SEC Rules Members No. 22-95, dated March 29, 1995.
March 30, 1995
TO: COMPLIANCE COMMITTEE No. 17-95
SEC RULES COMMITTEE No. 49-95
RE: RECOMMENDATIONS FOR IMPROVING MUTUAL FUND INSPECTIONS
______________________________________________________________________________
SEC Chairman Levitt recently announced that the SEC has consolidated its investment
company, investment adviser and broker-dealer inspection and examination programs into a newly-
formed Office of Compliance Inspections and Examinations (OCIE).1 Therefore, all SEC
examinations will be conducted by one office, while rulemaking, interpretations and other non-
examination functions will remain with the Divisions of Investment Management and Market
Regulation. The OCIE will coordinate the examination efforts of the SECGs regional and district offices.
Chairman Levitt has appointed Lori Richards, formerly Executive Assistant to the Chairman, as
Director of the Office.
The creation of this new office provides us with an opportunity to offer suggestions on how to
improve the SECGs inspection of mutual funds. We are interested in your suggestions for improving the
inspection process generally and, specifically, on the preliminary suggestions set forth below, which are
based upon past comments of members.
Preliminary Suggestions for Improving SEC Inspections
1. Coordination with IM - It is important that the OCIE coordinate closely with the Division of
Investment Management. This will ensure that, among other things, the OCIEGs positions are
consistent with IMGs. One way this could be accomplished would be to designate a staff person to act as
a liaison between the two offices.
2. Provide Advance Notice - Fund complexes should be provided with advance notice of
routine inspections. This would enable funds to compile the materials that will be examined ahead of
time and make other necessary preparations, which would help to increase the efficiency of inspections.
In addition, examiners seem to select two or three “hot” areas (e.g., use of derivatives, personal
investing by portfolio managers) on which they devote most of their time. It would be helpful to the
industry if those areas were identified ahead of time. This would allow funds to be better prepared on
these matters and would be more efficient for examiners. For example, funds would be able to assemble
relevant data and materials prior to an inspection, which might be voluminous and time-consuming to
collect.
3. Improve Inspection Personnel - The SEC should hire more knowledgeable and competent
senior personnel in the regional offices and steps should be taken to improve the continuity at the senior
level (which perhaps could be achieved by paying higher salaries). In addition, supervisors or other
senior personnel should participate more in the actual inspections. Moreover, junior examiners should
be better trained. Consideration should be given to improving the caliber of junior examiners by paying
higher salaries.
nother suggestion would be to permit and encourage IM staff attorneys to work in the OCIE or the regional
offices for a specified period (e.g., six months). This would produce a dual benefit in that the examiners
would have direct access to a staff attorney when legal issues arose and the staff attorney would gain
practical experience by directly participating in inspections and dealing with inspection-related issues.
4. Provide Continuous Examiner Training - OCIE should hold training seminars on a frequent
basis and keep the regional offices informed of current staff positions and other significant
developments. Members of the industry (e.g., lawyers, accountants, portfolio mangers, transfer agents)
should participate in the SECGs training seminars for examiners. In addition, the OCIE should hold
periodic meetings of senior staff in the regional offices to discuss, among other things, issues that have
come up in their individual offices and how they were resolved. Such meetings would promote
consistency among the regional offices.
5. Inspection Manual - To improve the efficiency of inspections and ensure consistency among
the regional offices, the OCIE should update the inspection manual that is currently being used. It also
would be helpful if the manual were made available to the industry.
6. Change the Philosophy of the Regional Offices - Inspections should be more helpful and
less confrontational. Instead of the regional officesG encouraging examiners to bring enforcement cases,
which seems to be the current practice, they should promote the importance of the inspection function
and stress that it is an integral component of mutual fund regulation and investor protection. Examiners
need to understand that they are performing their job adequately even if they never bring an
enforcement case.
7. Improve Communication with Funds - The examiners should communicate more with the
funds, preferably through an exit interview but at least before a deficiency letter is issued. This would
allow funds to clear up any problems or confusion that exists because of a misunderstanding by the
examiner of a fundGs operations or policies. In addition, at the end of an inspection or maybe after any
open issues are resolved, examiners should solicit feedback from fund groups about the inspection
process, including any problems they encountered or positive experiences they had. This information
should then be provided to the OCIE and used to improve future inspections.
8. Examiners Should Be Better Prepared - More work should be done by the examiners in
advance to prepare for an inspection (e.g., the examiner should review fund prospectuses and become
generally familiar with no-action letters and exemptive orders granted to the fund before starting an
inspection). Advance preparation would better familiarize examiners with the complex and increase
efficiency.
* * *
Please provide me with your suggestions for improving mutual fund inspections, including
your views on the suggestions set forth above, by April 12, 1995. My direct number is 202/326-5824
and the fax number is 202/326-5827.
Amy B. R. Lancellotta
Associate Counsel