Responding to a “concern” from Chief Compliance Officers (CCOs) to the purported increase in enforcement actions holding compliance personnel personally liable, the New York City Bar Association recently released a framework of nonbinding factors it believes the SEC should consider when making CCO charging decisions. The report, titled “Framework for Chief Compliance Officer Liability in the Financial Sector” (Framework), is available here. According to the Framework, it claims that the risk of facing a career-ending enforcement action has deterred qualified individuals from assuming or remaining in the all-important CCO role.
The Framework, discussed below, comprises two principal parts: Affirmative Factors and Mitigating Factors.
The Affirmative Factors incorporate an overarching general factor, as well as a number of factors that are relevant to the specific types of charges that CCOs routinely face because of their unique role: wholesale failure charges, active participation charges, and obstruction charges.
Leading off the Affirmative Factors is the Framework’s only “General Factor,” which should be considered in every instance:
- Does the CCO Conduct Charge help fulfill the SEC’s regulatory goals?
While this may seem obvious, the Framework notes that sometimes charges against CCOs can be counterproductive for two reasons: (1) charges create the perception that the SEC is targeting CCOs, which can force people out of that role; and (2) charges create anxiety for many earnest CCOs, causing them to become less involved in company operations as opposed to becoming more involved.
Wholesale Failure Factors
Following this General Factor are a series of “Wholesale Failure Factors,” which should be considered when evaluating whether a CCO has exhibited a wholesale failure in their duties or failed to implement programs and procedures for areas where they are responsible. These factors are:
- Did the COO not make a good faith effort to fulfill his or her responsibilities?
- Did the Wholesale Failure relate to a fundamental or central aspect of a well-run compliance program at the registrant?
- Did the Wholesale Failure persist over time and/or did the CCO have multiple opportunities to cure the lapse?
- Did the Wholesale Failure relate to a discrete, specified obligation under the securities laws or the compliance program at the registrant?
- Did the SEC issue rules or guidance on point to the substantive area of compliance to which the Wholesale Failure relates?
- Did an aggravating factor add to the seriousness of the CCO’s conduct?
Active Participation in Fraud
Next, in addressing the question of whether the CCO was an active participant in the fraud, the Framework next seeks to evaluate:
- Whether and to what extent the CCO’s conduct added in some way to the fraud committed by the firm or the other individuals charged?
The Framework suggests that regulators should look for evidence indicating that the CCO’s conduct “aided the primary violators in avoiding detection, increased the harm to investors or otherwise exacerbated the fraud.”
The last group of Affirmative Factors consider the issue of obstruction. Seeking to avoid a dynamic where CCOs fear that every act of obstruction places them in the enforcement crosshairs, the Framework advocates that obstruction-based enforcement actions be predicated on at least one of the following factors:
- Were the acts of obstruction or false statements repeated?
- Was the obstruction denied when confronted, or did the CCO not immediately reverse course and cooperate?
- Was the obstruction related to a necessary or highly relevant part of the examination or investigation?
- Did evidence show other indicia of intent to deceive or disregard for cooperation with the SEC’s regulatory mission?
In addition to considering the above-described Affirmative Factors, the Framework proposes that regulators consider a variety of Mitigating Factors when making any charging decisions for CCO. The Mitigating Factors are:
- Did structural or resource challenges hinder the CCO’s performance?
- Did the CCO at issue voluntarily disclose and actively cooperate?
- Were policies and procedures proposed, enacted or implemented in good faith?
As the Framework points out, many of these Mitigating Factors have been suggested or discussed elsewhere, but there is undoubtedly some benefit to collecting and clearly acknowledging these factors by incorporating them into a written framework.
The Framework is an interesting proposal, and clearly reflects a significant amount of thoughtful and diligent work and careful consideration about how to continue to permit effective regulation of CCO conduct without perpetuating a perception of unfair targeting and treatment. As the current complement of SEC Commissioners and senior Staff members begin to make their mark through enforcement priorities, amongst other regulatory initiatives to be prioritized, it will be interesting to see whether the Framework (and other efforts like it) spur any action in the near term. In the meantime, the Framework has already garnered a significant amount of attention from legal, securities, and compliance-focused media outlets. We will continue to monitor and report on this important topic, including any notable enforcement actions in this area, additional commentary from industry groups and, most importantly, any reactions from the regulatory community.