The troubles that have shaken the mutual fund industry since 2003 have left many scrambling to understand and address a host of proposed changes. Although the regulatory environment has changed significantly, the fact is that the role of transfer agents has changed less than some might think. True, there are many more regulations to work with, since a dozen new proposals have been put forth by the Securities and Exchange Commission in the past 14 months.
But regulatory compliance has always been an important aspect of transfer agents' responsibility to fund companies. Transfer agents like DST Systems work closely with clients and industry groups to provide comments and propose solutions to regulatory bodies like the SEC and the National Association of Securities Dealers.
One area that has changed significantly, however, is the relationship between transfer agents and their clients' mutual funds boards and newly appointed chief compliance officers (CCOs). As a result of Rule 38a-1 of the Investment Company Act of 1940, fund CCOs were hired to be independent from the fund company, and to develop, inspect and administer their funds' compliance programs. Fund boards are required to approve the policies and procedures of their service providers and oversee compliance by those service providers.
Managing compliance is something transfer agents have historically done for fund clients, but these functions were largely performed outside of the line of sight of fund boards. Now, boards and CCOs have to become knowledgeable about what their transfer agents and other service providers actually do.
This means that transfer agents have become partners with CCOs. They work closely with them to educate them on the various capabilities and business processes they administer. They give CCOs the information they need to prove to their boards that these functions comply with federal securities laws. More than just a service provider, transfer agents are now a tool that CCOs rely on to provide due diligence.
Transfer agents have found different ways of providing this support. Many have developed comprehensive compliance programs to support CCOs that include: providing regulatory updates, identifying best practices, offering compliance training and helping to actually draft policies. Some transfer agents even provide an option to outsource the job of CCO.
DST unveiled its own compliance program, Compliance+, in June 2004. One goal of Compliance+ was to help funds prepare for the SEC's Oct. 5 deadline, by which time they were to have named their CCOs and implemented policies and procedures to comply with certain federal securities laws.
Compliance+ consists of three key components. First, it features a federal securities law mapping matrix that identifies federal statutes that are applicable to mutual fund transfer agents. Second, it maps these laws to key business processes through workflows and flow charts and outlines various business processes. Third, Compliance+ provides a "measurement dashboard" that connects the business processes to key compliance metrics. The intent of this approach is to provide an overview or context of the various regulatory mandates, the business processes, procedures and ultimately the exception reporting. This structure provides an easy-to-understand roadmap in which exceptions can be viewed in the context of the governing rule and the relevant control infrastructure. The program supplemented DST's clients' efforts in drafting their own policies and procedures.
Oct. 5 was just the beginning. The next step is to help CCOs establish their ongoing reporting processes. Most transfer agents will notify CCOs immediately of any compliance exception activity. They then provide quarterly management reports of key compliance activities and exception reporting that CCOs can supply to their boards. At client request, DST will attend board meetings with the CCO to explain transfer agent compliance measures.
In addition, funds are required by the SEC to have a formal review of their compliance programs completed by April 2006. To support this, transfer agents may supply CCOs with an external audit report called a SAS 70, which addresses financials and internal controls. Some, including DST, will also engage an independent accountant to issue a compliance attestation specific to the transfer agent's compliance with federal securities laws.
In the meantime, transfer agents are encouraging CCOs to familiarize themselves with transfer agent operations and control infrastructure. The more CCOs can stay in step with what their transfer agent is doing, the better they can assure their fund board that their transfer agent is taking care of business as usual.
Jeff Cook is director of regulatory compliance for DST Systems.