SEC Plans for Busy 2022 and 2023 Spurred by Significant Increase in Tips, Complaints, and Referrals
May 31, 2022
The SEC is on the march. From requesting ramped up budgets and enhanced staffing to newly announced priorities, the SEC has made clear that it is flooding the zone with examination and enforcement efforts. Tips and whistleblower reports are skyrocketing and the SEC is welcoming them with open arms. Public companies can expect more scrutiny, faster investigations, stiffer sanctions, and an aggressive cop on the beat. This key regulatory agency is moving forward even while fighting off basic legal challenges to its structure and operations. All of this heightens the need for effective compliance measures, vigilance about disclosure practices, and awareness of the stakes when the SEC knocks on the door.
Tips, Complaints, and Referrals Pour Into the SEC.
In testimony before Congress on Tuesday, May 17, in support of the requested 8% increase in the SEC operations budget for fiscal year 2023 over fiscal year 2022, Securities and Exchange Commission Chair Gary Gensler reported that the SEC received 46,000 tips, complaints, and referrals in fiscal year 2021, which was almost double the number received in fiscal year 2020. The number of whistleblower tips alone dramatically increased by 76% in 2021 to over 12,000, and the SEC’s whistleblower program awarded $564 million to over 100 whistleblowers in fiscal year 2021, including two record-breaking awards of $114 million and $110 million. The SEC estimates that it will receive roughly the same number of investor tips and complaints in fiscal year 2022, and the requested budget anticipates only slightly fewer (40,000) tips and complaints in 2023.
SEC Ramps Up Budget Request.
To meet the demands on the SEC’s enforcement resources, the SEC’s requested budget for fiscal year 2023 includes an 8% increase over the fiscal year 2022 budget, including an increase of 125 positions for the SEC’s Enforcement Division. This requested staffing increase comes on the heels of the SEC’s announcement earlier this month of the allocation of 20 additional positions to the Crypto Assets and Cyber Unit within the Division of Enforcement, nearly doubling the size of the unit.
The proposed budget also includes an increase of 90 positions from fiscal year 2021 for the Division of Examinations. Chair Gensler specifically flagged the need for increased resources for examinations of investment advisers, broker-dealers (specifically as to broker-dealers’ compliance with Regulation Best Interest), and newly-registered security-based swap dealers and participants. The SEC anticipates a modest increase in the number of examinations of investment advisors and broker-dealers in fiscal year 2023. Registered investment advisors and broker-dealers should be prepared for increased SEC scrutiny.
SEC Previews More Litigation of Enforcement Actions and Faster Investigation Pace.
What this means is that regulated entities should be prepared to face tougher sanctions or penalties if found liable, while the Enforcement Division staff pushes to move investigations more quickly. Chair Gensler based the budget request for the Enforcement Division on the SEC’s expected increase in litigated cases “as Enforcement increasingly holds wrongdoers accountable with meaningful and, in some instances, escalating sanctions.” In addition to potentially more enforcement actions, Enforcement Director Gurbir Grewal recently highlighted the importance of the SEC’s efforts to “push the pace of [the SEC’s] investigations” to help buoy public confidence in the markets and the SEC.
The Enforcement Division prepares for a whirlwind of activity while evaluating how it will prosecute these enforcement cases in light of the recent Fifth Circuit opinion in Jarkesy v. SEC, challenging the agency’s basic administrative enforcement framework. The Fifth Circuit held that using the SEC’s in-house administrative law judges to resolve securities fraud charges involving monetary penalties deprived defendants of their Seventh Amendment right to trial by jury. The Fifth Circuit further held permitting the SEC uncabined discretion to pursue enforcement cases in federal court or before administrative law judges was an unconstitutional delegation of congressional authority. And the court found unconstitutional an administrative structure protecting ALJs from removal absent cause. In response, the SEC may choose to file more enforcement cases in federal court to avoid grappling with these constitutional issues while it considers options for further review.
Examinations Division Announces Broad 2022 Priorities.
The projected increased resource needs of the Examinations Division aligns with the priorities announced by the Division for 2022. In March, the Examinations Division announced that it will focus on the following areas in 2022:
- Investment advisers managing private funds, including assessment of compliance with fiduciary duties and conflicts and disclosures regarding portfolio strategies, risk management, and investment recommendations and allocations;
- Environmental, social and governance (“ESG”) related advisory services and investment products, including evaluation of disclosures of and execution on ESG investing approaches, including in proxy voting practices;
- Retail investor protections, including ensuring that broker-dealers and investment advisors provide recommendations and advice in the best interests of their investors and compliance with Regulation Best Interest and the fiduciary duties established by the Investment Advisers Act;
- Information security and operational resiliency, including review of practices to “prevent interruptions to mission-critical services and to protect investor information, records, and assets” and review of business continuity and disaster recovery plans, “with particular focus on the impact of climate risk and substantial disruptions to normal business operations”; and
- Emerging technologies and crypto-assets, including review of practices to ensure the unique requirements and risks of these assets are considered appropriately.
SEC Proposes Several New Rules.
Companies and investment advisers will also need to keep an eye on new developments as the SEC has been busy rolling out a plethora of new rules. In just the first five months of this year, the SEC proposed rules pertaining to increasing transparency and investor protection in private funds, enhancing disclosures regarding cybersecurity risks and incidents, requiring certain climate-related disclosures, expanding the definition of dealers and government securities dealers, enhancing SPAC disclosures, and setting investment policy requirements in correspondence with fund names.
The SEC—never a paper tiger—has made clear its goal to play a highly active regulatory role and to back its statutory mandates with rigorous reviews and stiff sanctions. By seeking increased resources and clarifying its priorities, the SEC is poised to move forward on that plan—with a wealth of tips and referrals to act on. And the Commission is doing so while litigating over fundamental constitutional challenges to its organic administrative structure. All of this makes for a challenging landscape for companies to navigate.
This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Jorge deNeve, an O’Melveny partner licensed to practice law in California, Bill Martin, an O’Melveny counsel licensed to practice law in New York, and Jamie Quinn, an O’Melveny counsel licensed to practice law in California, contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.
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