The Division of Examinations (the “Division”) of the Securities and Exchange Commission (“SEC”) recently issued a Risk Alert (the “Risk Alert”) to SEC-registered broker-dealers providing insight and additional information regarding the Division’s exam process, along with an appendix describing the types of documents and information that may be requested and reviewed during an exam. As most broker-dealers are aware, the Division takes a risk-based approach both in choosing firms to examine and in determining the scope of risk areas to review. The Risk Alert notes that the Division leverages technology to collect and analyze large data sets to help identify risks when determining which firms to examine. The Risk Alert and appendix can be accessed here.
When selecting broker-dealers for potential exams, staff may consider several factors, including the following: (1) prior examination history; (2) supervisory concerns, such as disciplinary history of associated individuals or affiliates; (3) tips, complaints, or referrals involving the firm; (4) the length of time since the firm’s last examination; (5) the firm’s customer base; (6) products and services the firm offers; (7) financial notifications or alerts that indicate that the broker-dealer is experiencing financial stress; (8) reporting by news and media that may involve or impact the firm; (9) information filed by the firm with the SEC or with a self-regulatory organization; and (10) whether the firm holds customer cash and securities. In addition, the Division may select a specific office or branch of a broker-dealer for examination based on risk factors identified with that location (i.e., customer complaints or outside business activities of personnel working from that location).
The Division publishes exam priorities annually and provides broker-dealers with insight regarding areas that it considers as key risks on which it intends to focus that year, including certain products, services business operations or practices. The 2024 priorities can be found here, and our related Legal Update can be found here. As the Risk Alert notes, the Division also directs resources to emerging risks.
The scope of an examination and documents requests vary from exam to exam, depending on a firm’s business model, associated risks and the reason for conducting the exam. The Division may adjust the scope of an exam based on information received and staff observations. In connection with the exam process, staff will typically send a letter notifying a broker-dealer of an upcoming exam, which will include an initial request list identifying certain information, including documents staff will review as part of the examination. This initial request may include: (1) general information, which provides the staff with an understanding of the broker-dealer’s business and securities activities; (2) the written policies and procedures the firm has established, maintained, and enforced to address the firm’s securities activities; and (3) information for the staff to perform its own testing for compliance in various areas. See the appendix to the Risk Alert for further details.