Guide to Audits
Common Investment Adviser Deficiencies, and Suggested Cures
While conducting audits and pre-registration examinations of Missouri investment advisers, the Audit Unit of the Missouri Securities Division notes and seeks cure of common deficiencies found within the advisers' filings, contracts, records and practices. Each Quarter, the Division lists the most common investment adviser deficiencies in its Quarterly Audit Report. However, many of those common deficiencies continue to be prevalent. By proactively curing the following common deficiencies, Missouri investment advisers may expedite the audit or pre-registration exam process:
Common Deficiency: Inconsistencies between ADV Part 1, ADV Part 2, and client contracts.
Potential Cure: The representations that investment advisers make about their business to clients and to the Division should be consistent. When making changes to the client contract, be sure to update other related disclosure documents. When initially applying for registration, carefully examine ADV Part 1, ADV Part 2, and all client contracts to ensure each piece of information is consistent from form to form.
Common Deficiency: Inclusion of misleading arbitration or hedge clauses in client contracts.
Potential Cure: Investment advisers often include in their client contracts arbitration or hedge clauses. The Division has found that many of those clauses may mislead a client to believe that certain rights guaranteed under state or federal securities laws have been or must be forfeited. Furthermore, because investment advisers may in some cases be held liable for acts done in "good faith," the inclusion of hedge clauses that attempt to indemnify the adviser from such liability potentially runs contrary to the fiduciary duty owed to clients. For that reason, hedge clauses should be removed from client contracts and arbitration clauses should conspicuously state that the client is not waiving any rights guaranteed under state or federal securities laws.
Common Deficiency: Failure to maintain an appropriate system to track the receipt and disbursement of client checks/funds.
Potential Cure: Missouri investment advisers are required keep track of the receipt and disbursement of client funds. To meet that requirement, firms receiving client checks should consider maintaining a log indicating the date a check is received, from whom it was received, the amount, the payee, and the date the check is forwarded to the custodian.
Common Deficiency: Failure to maintain updated suitability information.
Potential Cure: Investment advisers should keep updated suitability information on each of their clients. As a best practice, advisers should require clients to complete a client information form every 36 months (at the least) that may include, among other things: the client's name, tax identification number, address, telephone number, date of birth, employment status, annual income, net worth, and the client's investment objectives. Some investment advisers require clients to fill out client information forms more frequently when the adviser is aware of potential changes in the client's suitability information. Completed client information forms should be kept on file for the investment adviser's reference.
Common Deficiency: Investment adviser representative does not meet Missouri's examination requirement for registration.
Potential Cure: Missouri-registered investment adviser representatives are required to have either a passing score on the Series 65 examination, or passing scores on both the Series 66 and Series 7 examinations. Further, in 2000, the Series 65 and Series 66 examinations were updated and substantially overhauled, and the new versions of the exams were subsequently adopted by the Commissioner. As a result, investment adviser representatives who took the Series 65 or Series 66 exam prior to 2000 may not meet the examination requirement for registration and should either: (1) take the new version of the examination; or (2) apply for an examination waiver.
What to expect on an Audit
Under the authority of the Missouri Securities Act of 2003, the Audit Unit in the Missouri Securities Division's Registration Section conducts routine and for-cause examinations of Missouri-registered investment advisers and broker-dealers. Such examinations may be either announced or unannounced. An investment adviser or broker-dealer could expect any of the following to occur during an announced examination:
What to expect during an announced examination/audit:
- Before the on-site examination:
- The firm will be contacted by telephone by a Securities Division Auditor approximately 2 weeks before the examination.
- After being contacted by telephone, the firm will receive an Audit Notification Letter.
- The Audit Unit may request that the firm prepare, and have available onsite, specific documents or files for the day of the examination.
- During the on-site examination:
- Auditors from the Securities Division will arrive at the scheduled time with scanners, computers and other examination-related equipment.
- The Auditors will, among other things:
- Scan requested documents;
- Scan requested documents;
- Interview the President of the firm or other personnel;
- Tour and inspect the firm's offices; and
- Examine other documents on-site.
- After the on-site examination:
- The Auditors may send the firm a request for additional information necessary to complete the examination;
- The firm will receive a letter outlining any deficiencies discovered during the examination, as well as recommended best practices to cure the deficiencies;
- The firm may receive follow-up correspondence regarding the firm's attempt(s) to cure the deficiencies; and
- The firm will receive a letter (once the Auditors have finished their review) notifying them that the examination file has been closed.
Unannounced examinations follow a process similar to announced examinations, excluding the notification process. It should also be noted that serious deficiencies or violations discovered during an examination may lead to a referral to the Division's Enforcement Section. In addition to the process above, firms should consider these recommendations for an expedited and successful examination:
Recommendations for an expedited and successful examination:
- Be responsive: Actively communicate with the Auditors throughout the process.
- Produce Documents: Have all of the requested documents readily available on the day the Auditors arrive.
- Review the Regulations: Before the examination, review the list of documents investment advisers and broker-dealers are required to maintain, and make sure those documents are accessible to the Auditors on the day of the examination. (See MO 15 CSR 30-15.120 and MO 15 CSR 30-51.130 for a list of documents broker-dealers are required to keep. See MO 15 CSR 30-51.140 for a list of documents investment advisers are required to keep).
- Give the Auditors a Workspace: Set aside ample space for the Auditors to work. The workspace should give the Auditors plenty of room to collect and organize documents, and also be suited to accommodate the Auditors' equipment (including laptops, scanners, and audit cases).
- Reserve Space for the Interview: Reserve a quiet, private room where the Auditors can interview the President or other members of the firm. Also, be sure the President of the firm is in the office the day of the scheduled examination and is available to be interviewed.
- Be Ready to Help: Have someone that can access all documents (with all necessary passwords and keys), and answer any questions, available to the Auditors.