In January 2020, the Office of Compliance Inspections and Examinations (OCIE) included London Interbank Offered Rate (LIBOR) preparedness as an examination program priority in its 2020 Examination Priorities (2020 Priorities). On June 18, OCIE released a Risk Alert (Risk Alert) to provide market participants, including SEC-registered investment advisers, broker-dealers, investment companies, municipal advisors, transfer agents and clearing agencies (registrants) with additional information about the scope and content of the examination program announced in the 2020 Priorities.
The Risk Alert highlighted that preparation for the transition away from LIBOR is essential for minimizing any potential adverse effects associated with LIBOR discontinuation. OCIE asserted that it will engage in examinations of various registrants to assess their preparedness with respect to the expected LIBOR discontinuation and transition to alternative reference rates. OCIE's examinations may include, among others, registrants' evaluation of the potential impact of the LIBOR transition on the registrants' business activities, operations and services, as well as on their customers, clients and investors.
OCIE stated that it will review the registrants' plans and steps taken for:
- The firm's and investor's
exposure to LIBOR-linked contracts that extend past the current
expected discontinuation date, including any fallback language
incorporated into these contracts
- The firm's operational readiness,
including any enhancements or modifications to systems, controls,
processes and risk or valuation models associated with the
transition to a new reference rate or benchmark
- The firm's disclosures,
representations and/or reporting to investors regarding its efforts
to address LIBOR discontinuation and the adoption of alternative
reference rates
- The potential conflicts of interest
associated with the LIBOR discontinuation and the adoption of
alternative reference rates
- The client's efforts to replace LIBOR with an appropriate alternative reference rate
OCIE attached as Appendix A to the Risk Alert a sample document request list that it may use to conduct examinations of registrants regarding their LIBOR discontinuation preparedness. Although the non-exhaustive list does not constitute a safe harbor, it provides registrants with questions and tools they may use to assess and assist with their preparedness for the LIBOR discontinuation. OCIE noted that the adequacy of supervisory, compliance and other risk management systems can be determined only with reference to the profile of each specific firm as well as other facts and circumstances. Consequently, factors other than those set forth in the Risk Alert may be appropriate to consider, and some of the factors listed in the Risk Alert may not be applicable to a particular registrant's case. OCIE's sample document request list includes the following factors:
- Information regarding
registrant's organizational structure and business lines,
particularly regarding the individuals, positions, departments and
operations that may be impacted by discontinuation of LIBOR
transition and transition to an alternative rate (LIBOR
Transition).
- Information regarding any individuals
or groups (e.g., internal committees, working groups or transition
teams) assigned responsibility to oversee or manage the effects of
the LIBOR Transition on the registrant, including information
regarding the frequency of any meetings on this topic and whether
minutes are kept.
- The identity of any third parties
registrant has utilized or plans to utilize to assess the impact of
the LIBOR Transition on the firm or its clients, customers or
investors (investors).
- Documentation or descriptions of any
analysis performed to identify contracts or obligations held and/or
issued by registrant or its investors that may be affected by the
LIBOR Transition and any remediation plans thereof.
- Documentation or descriptions of any
performance composites or performance advertising that use a
benchmark that could potentially be affected by the LIBOR
Transition and any remediation plans thereof.
- Information regarding any investors
whose fee structure (e.g., performance-based fees) or performance
reporting (e.g., use of LIBOR-linked benchmark) could potentially
be affected by the LIBOR Transition.
- Any written assessments, strategic
plans (including remediation plans, as applicable), roadmaps, or
timelines prepared by or for registrant regarding preparation for
the LIBOR Transition, including the consideration of alternative
reference rates.
- Documentation of any risk management
matrices or risk inventories of registrant that reference the LIBOR
Transition, including a description of any LIBOR Transition-related
vulnerabilities or exposure covered by the matrix or
inventory.
- Documentation or descriptions of any
analysis performed to identify LIBOR-based risk or valuation models
used by registrant, including information regarding changes that
may be needed to account for a new reference rate, if any.
- Materials referencing the LIBOR
Transition provided to registrant's board of directors, any
committee of the board of directors, any board member, the board or
board member(s) of any investors, or the board, legislative body or
member(s) thereof of any municipal entity or obligated person
client, if applicable, or equivalent governing bodies or offices,
if registrant is not organized as a corporation.
- Information regarding any third-party
vendors registrant uses that may be impacted by the LIBOR
Transition, including the services provided (e.g., back office) and
how the vendor may be impacted.
- Information regarding any
LIBOR-linked contracts or obligations that extend past the current
expected discontinuation date that are held and/or issued by
registrant, including the implications and impact of any
incorporated fallback language.
- Information regarding any
LIBOR-linked contracts or obligations that extend past the current
expected discontinuation date that are held and/or issued by
registrant's investors, including the implications and impact
of any incorporated fallback language.
- Information regarding any contracts
or obligations held and/or issued by registrant, or its investors,
that reference a rate identified as an alternative to LIBOR (e.g.,
SOFR).
- Information regarding any changes
made or planned to be made to registrant's information
technology systems (e.g., accounting, investor reporting, risk,
valuation or trading) to accommodate the LIBOR Transition,
including any changes to accommodate new instruments/contracts and
rates with features that differ from LIBOR.
- Disclosures provided in
registrant's filings with the Commission and/or to investors
(e.g., in prospectuses) about the LIBOR Transition, including
fallback language for LIBOR instruments, as applicable, during the
period of January 2019 to the present.
- Any guidance provided by registrant
to employees or supervised persons concerning recommendations to
investors to purchase, sell or enter into LIBOR-linked instruments
or contracts that extend past the current expected discontinuation
date, reviews of portfolios containing such instruments, or the
underwriting of new instruments referencing LIBOR, if
applicable.
- Any guidance provided by registrant
to employees or supervised persons regarding the provision of
advice to issuers of new LIBOR-linked instruments.
- Any guidance provided by registrant
to employees or supervised persons regarding the provision of
advice to clients regarding the replacement of LIBOR in outstanding
contracts or obligations with an appropriate alternative reference
rate.
- Any implemented or planned changes to compliance procedures, controls or surveillance systems designed to monitor for LIBOR-linked instruments or contracts recommended or sold to clients.
The 2020 Priorities can be found here. The Risk Alert can be found here. On July 12, 2019, Kramer Levin issued a client alert regarding the announcement by the staffs of the SEC's Division of Corporate Finance, Division of Investment Management, Division of Trading and Markets, and Office of the Chief Accountant addressing the discontinuance of LIBOR that can be found here.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
