SEC Enforcement Director Discusses the Division’s Focus on Financial Reporting Misconduct

January 25, 2016

In a keynote address at the Directors Forum 2016, SEC Division of Enforcement Director Andrew Ceresney discussed the Division’s work in the area of issuer reporting and disclosure, noting the importance of aggressively pursuing financial reporting deficiencies.

After discussing the history and context of the Division’s issuer reporting and disclosure actions, Director Ceresney noted that the causes of today’s financial reporting problems include many of the same causes as in the past, including: (i) significant pressure to meet earnings and other performance expectations; (ii) excessive focus on short term performance rather than longer term success; (iii) poor oversight in units and subsidiaries; (iv) growth outpacing the reporting and accounting infrastructure; and (v) management’s over-reliance on processes and poor “tone at the top.” He noted that those involved in the financial reporting process “must be sensitive to detecting these issues and addressing them.”

The Director highlighted some of the issues involved in many recent cases. The Division continues to see manipulation by way of improper revenue recognition, where, in addition to sham revenue transactions, abuses of specialized accounting methods like percentage completion accounting have become more common. Valuation and impairment issues have also been prevalent in recent enforcement actions. While the Division will always focus on such issues, the Director noted that they will garner particular attention in times of economic turmoil. The Division has aggressively used the authority under Section 304 of Sarbanes-Oxley to claw back compensation from executives of companies that have engaged in financial reporting misconduct resulting in misstatements and brought charges for violations of internal accounting controls provisions of the securities laws, even in the absence of fraud or misconduct charges.

The Director discussed the important role audit committee members, as gatekeepers, play in financial reporting. According to Director Ceresney, the key takeaway from recent cases brought against audit committee members is straightforward: “when an audit committee member learns of information suggesting that company filings are materially inaccurate, it is critical that he or she take concrete steps to learn all relevant facts and cease annual and quarterly filings until he or she is satisfied with the accuracy of future filings.” Failure to do so could result in an enforcement action from the Division.

Director Ceresney closed his remarks by discussing the SEC’s focus on the early detection of misconduct. He highlighted the Division of Economic and Risk Analysis’s Corporate Issuer Risk Assessment program, which provides a comprehensive overview of the financial reporting environment of SEC registrants, and assists SEC staff in detecting anomalous patterns in financial statements that could warrant further investigation. He also mentioned the “FRAud Group” and the SEC’s focus on developing leads through whistleblower and cooperation programs as useful tools in the effort to detect financial misconduct before it becomes public.

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