SEC OIG Recommends Continuous Surveillance of Large Companies

June 22, 2006

FEI Summary

On June 22, 2006, the Office of Inspector General (OIG) of the U.S. Securities and Exchange Commission (SEC) issued an audit report on the SEC Division of Corporation Finance's preliminary review program (i.e., preliminary reviews of corporate filings which sometimes trigger "full reviews"). SEC's OIG made four recommendations, including that the Division of Corporation Finance implement a continuous surveillance program for large companies.

The OIG suggested that the Division of Corporation Finance consider developing a program similar to that of the SEC’s Office of Compliance Inspection and Examination, which conducts continuous monitoring of large investment funds. Noting that companies in the S&P 500 Index make up about 80 percent of the total market cap in the U.S., the OIG recommends, "[T]he Division [of Corporation Finance] could assign staff to maintain continuous surveillance of developments (e.g., corporate press releases, trading data, and 8-K filings) at these companies."

The four recommendations in the report are that SEC's Division of Corporation Finance should:

• consider implementing a surveillance program for large capitalized companies;
• enhance its consideration of company risk factors and other risk-based information during the preliminary review process, in consultation with other Commission offices (the Office of Information Technology, the Office of the Chief Accountant, and the Office of Risk Assessment), and provide guidance to its staff, as appropriate;
• further incorporate all six factors (not just factor #3, size of company, which was generally the only factor used) set forth in Section 408(b) of the Sarbanes-Oxley Act, in determining frequency of filings. The other factors include material restatements, significant volatility in stock price, emerging companies with disparities in price/earnings ratios, companies whose operations significantly affect any material sector of the economy; and "any other factors that the [SEC] may consider relevant;" and
• review all companies subject to Section 408(c) of the Sarbanes-Oxley Act. In the first three-year review cycle under the Sarbanes-Oxley Act, the OIG found that the Division of Corporation Finance excluded certain companies from review including, but not limited to, some companies not required to file periodic reports after the first year (because they registered only debt securities under a certain amount), and some companies that could deregister at any time due to a small number of shareholders or a limited asset size. The SEC's OIG recommends that, if the Division of Corporation Finance wishes to exclude companies from review, it should seek a formal legal opinion from the Office of General Counsel to determine whether the exclusion is permissible under the Sarbanes-Oxley Act and take appropriate action to comply with that opinion.

The OIG report on the Division of Corporation Finance's Preliminary Review of Filings is available here: http://www.sec.gov/about/oig/audit/2006/401fin.pdf. Other OIG reports are posted on the SEC's website here: http://www.sec.gov/about/oig/oigauditlist.htm#2006.

Prepared June 22, 2006 by Edith Orenstein (eorenstein@FinancialExecutives.org), Director, Technical Policy Analysis, Financial Executives International (FEI). This summary does not represent FEI opinion, unless specifically noted above.