Each year FINRA (Financial Industry Regulatory Authority) issues its Regulatory and Examination Priorities Letter, which identifies FINRA’s regulatory priorities for the upcoming year. For example, in 2015, FINRA identified five priorities that it intended to focus on, which included standards of ethical behavior, supervisory and risk management systems, and the management of conflicts of interest. See FINRA, Regulatory and Examinations Priorities Letter (January 6, 2015). Those same priorities from 2015 remain among FINRA’s top priorities for 2016.*
In a January 5, 2016 Priorities Letter, Mr. Richard Ketchum, FINRA’s Chairman and CEO, described “[f]irm culture, ethics and conflicts of interest,” as a “top priority” for FINRA, explaining:
“[Culture] contributes to, and is also a product of, a firm’s supervision and its approaches to identifying and managing conflicts of interest and the ethical treatment of customers.”
In short, it is FINRA’s belief that culture is critical to maintaining market integrity and protecting investors, and, therefore, must be assessed when evaluating firm conduct.
To better understand the implications of culture, including how it affects a firm’s compliance and risk management practices, FINRA has identified the following factors it intends to analyze in 2016:
- Whether control functions are valued within an organization;
- Whether policy or control breaches are tolerated;
- Whether the organization proactively seeks to identify risk and compliance events;
- Whether supervisors are effective role models of firm culture; and
- Whether non-conforming sub-cultures are identified and addressed.
Id. FINRA’s goal in assessing these factors is to understand how culture affects compliance and risk management practices, which FINRA believes will inform its evaluation of individual firms. See id. But evaluating a firm on a comparative basis may result in compliance complacency given that an effective culture is built through measured initiatives, not simply a satisfaction of industry norms.
This point is illustrated in a well-worn hypothetical. Assume there are two firms, the first of which has more robust policies and a greater allocation of compliance resources than the second firm. In comparing the firms, the first may appear more ethical merely because it has a larger financial commitment. But that conclusion may be incorrect. The second firm, even with less financial commitment, may have a more ethical culture if its resources, programs, and authority are used more effectively.
Firms, therefore, should not be evaluated comparatively, but by how effectively they assess, implement, monitor and improve their compliance and ethics functions; that is, whether the firm’s resources, programs and authority are successful in producing the desired compliance results. If firms are only evaluated comparatively, they may then become complacent in their programming and simply undertake efforts to satisfy industry norms. Instead, firms must constantly analyze how their cultures are being cultivated through their compliance, ethics, and supervisory functions, which requires regular assessments to analyze, both qualitatively and quantitatively, the same factors that FINRA intends to evaluate. FINRA intends to focus on those factors in 2016 and so must individual firms to accurately evaluate their culture and the effectiveness of their compliance and ethics functions.
*In 2015, FINRA conducted more than 4,100 examinations, filed 1,512 disciplinary actions, and levied $191.7 million in fines and restitution relating to various violations.