Igor Rozenblit’s three tips for passing an SEC exam

The US Securities and Exchange Commission has been shining a spotlight on private equity in recent months. The regulator has proposed new rules that would make changes to how the industry operates, including on clawback provisions, GP-led secondaries and how fees and expenses are charged. Exams, too, are expected to be more scrupulous.

Affiliate publication Private Equity International recently spoke with Igor Rozenblit, who spent more than a decade at the SEC, having founded and co-led the Division of Examinations’ Private Funds Unit. Today, he is managing partner of governance, risk and regulatory services firm Iron Road Partners, which advises private markets managers.

Here are his three top tips for passing an SEC exam:

Evaluate the risks

There are multiple reasons why private equity firms are now more likely to be examined by the SEC. The industry has grown significantly over the past couple of years, and under the previous administration the regulator’s focus was elsewhere. Crucially, SEC chair Gary Gensler seems to see changing private equity as a big part of his legacy, “and he doesn’t appear to have a very forgiving view of the industry,” Rozenblit says. Private equity firms “should just be on high alert.”

Exams, too, are a lot less forgiving than they used to be. “You should view your program in that light and fix even the small mistakes,” Rozenblit adds. “To do that, you first have to identify and critically evaluate the risks at your firm. That is the approach that examiners will take.”

Focus on your own business

“A lot of private equity managers take some comfort that their practices are similar to the practices of others in their industry,” Rozenblit says. “As a matter of fact, that increases risk and does not decrease risk.”

If the SEC finds a practice they think is problematic and that they believe everyone is doing, that practice is more likely to be the subject of an enforcement action because the commission may want to send a broader signal to the industry, he notes. Accelerated monitoring fees and broken deal fees and expenses are examples of widely spread practices that became the subject of enforcement attention.

Rather than following the herd, firms should put themselves in the shoes of their investors and remember that capital allocators are risking their own reputation every time they make an investment.

On remediation and issue resolution, there will be issues where you have to trade off economics for regulatory risk. Thinking about whether to get approvals from LPACs or at least notifying investors through regulatory disclosure is a good step to consider.

“My experience is that investors tend to be more understanding and supportive of their managers than most people think,” Rozenblit says. “I would err it towards the side of disclosure if possible.”

Put your compliance resources in the right place

“There’s a huge misallocation of compliance in the industry,” Rozenblit says. “The vast majority of compliance resources are allocated to routine tasks that absolutely need to occur and can be overwhelming. That leaves very little time for deep dive risk assessments and many of those are based on SEC Risk Alerts and previous enforcement cases.”

As a result, only a small percentage of resource and time is spent on thinking about the firm critically, which is where the real risk lies. Errors in most routine compliance might lead to a deficiency, “but those types of deficiencies don’t typically put the franchise at risk,” Rozenblit says. The risk lies in those places where firms are only spending that marginal fraction of time.

He adds: “The routine tasks need to get done and if you’re a 10-person firm that could take significant effort, but allocating time to critical risk identification and remediation is critical.”