Financial Audit
Securities and Exchange Commission's Financial Statements for Fiscal Years 2006 and 2005 Gao ID: GAO-07-134 November 15, 2006Established in 1934 to enforce the securities laws and protect investors, the Securities and Exchange Commission (SEC) plays an important role in maintaining the integrity of the U.S. securities markets. Pursuant to the Accountability of Tax Dollars Act of 2002, the SEC is required to prepare and submit to Congress and the Office of Management and Budget audited financial statements. GAO agreed, under its audit authority, to perform the audit of SEC's financial statements. GAO's audit was done to determine whether, in all material respects, (1) SEC's fiscal year 2006 financial statements were reliable and (2) SEC's management maintained effective internal control over financial reporting and compliance with laws and regulations. GAO also tested SEC's compliance with certain laws and regulations.
In GAO's opinion, SEC's fiscal year 2006 and 2005 financial statements were fairly presented in all material respects. A notable achievement during fiscal year 2006 was the significant efforts SEC made in addressing the material weaknesses reported in GAO's previous years' financial statement audits of SEC. As a result, GAO concluded that, although certain controls should be improved, SEC had effective internal control over financial reporting and compliance with laws and regulations. GAO did not find reportable instances of noncompliance with the laws and regulations it tested. In its 2005 report, GAO identified material weaknesses in the areas of SEC's (1) reporting of disgorgements and penalties, (2) information systems controls, and (3) financial reporting process. Based on SEC's efforts to address concerns with controls over disgorgements and penalties and with information systems, and based on improvements GAO found in these areas during its fiscal year 2006 audit, GAO has concluded that these two previously reported weaknesses are no longer material. Because many of these efforts represent compensating controls rather than permanent systemic solutions, deficiencies in the design and operation of internal control in these areas remain and could adversely affect SEC's recording and reporting of disgorgements and penalties and its information security. Therefore GAO considered these areas to still be reportable conditions. In addition to reportable conditions over reporting of disgorgements and penalties and information systems controls, during this year's audit, GAO identified a new reportable condition concerning SEC's controls over recording property and equipment. It is important that SEC sustain its commitment to strengthening internal controls to reduce the risks of inaccurate or incomplete reported disgorgements and penalties amounts. SEC also needs to implement key elements of its agencywide information security program to remediate existing weaknesses and have sufficient assurance that financial information and financial assets are adequately safeguarded from inadvertent or deliberate misuse, fraudulent use, improper disclosure, or destruction. Finally, SEC needs to improve controls over the recording of property and equipment transactions in order to have sufficient assurance over the accuracy and completeness of these reported balances.
GAO-07-134, Financial Audit: Securities and Exchange Commission's Financial Statements for Fiscal Years 2006 and 2005
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Report to the Chairman, United States Securities and Exchange
Commission:
November 2006:
Financial Audit:
Securities and Exchange Commission's Financial Statements for Fiscal
Years 2006 and 2005:
GAO-07-134:
GAO Highlights:
Highlights of GAO-07-134, a report to Chairman of the Securities and
Exchange Commission
Why GAO Did This Study:
Established in 1934 to enforce the securities laws and protect
investors, the Securities and Exchange Commission (SEC) plays an
important role in maintaining the integrity of the U.S. securities
markets.
Pursuant to the Accountability of Tax Dollars Act of 2002, the SEC is
required to prepare and submit to Congress and the Office of
Management and Budget audited financial statements. GAO agreed, under
its audit authority, to perform the audit of SEC‘s financial
statements. GAO‘s audit was done to determine whether, in all material
respects, (1) SEC‘s fiscal year 2006 financial statements were reliable
and (2) SEC‘s management maintained effective internal control over
financial reporting and compliance with laws and regulations. GAO also
tested SEC‘s compliance with certain laws and regulations.
What GAO Found:
In GAO‘s opinion, SEC‘s fiscal year 2006 and 2005 financial statements
were fairly presented in all material respects. A notable achievement
during fiscal year 2006 was the significant efforts SEC made in
addressing the material weaknesses reported in GAO‘s previous years‘
financial statement audits of SEC. As a result, GAO concluded that,
although certain controls should be improved, SEC had effective
internal control over financial reporting and compliance with laws and
regulations. GAO did not find reportable instances of noncompliance
with the laws and regulations it tested.
In its 2005 report, GAO identified material weaknesses in the areas of
SEC‘s (1) reporting of disgorgements and penalties, (2) information
systems controls, and (3) financial reporting process. Based on SEC‘s
efforts to address concerns with controls over disgorgements and
penalties and with information systems, and based on improvements GAO
found in these areas during its fiscal year 2006 audit, GAO has
concluded that these two previously reported weaknesses are no longer
material. Because many of these efforts represent compensating controls
rather than permanent systemic solutions, deficiencies in the design
and operation of internal control in these areas remain and could
adversely affect SEC‘s recording and reporting of disgorgements and
penalties and its information security. Therefore GAO considered these
areas to still be reportable conditions. In addition to reportable
conditions over reporting of disgorgements and penalties and
information systems controls, during this year‘s audit, GAO identified
a new reportable condition concerning SEC‘s controls over recording
property and equipment.
It is important that SEC sustain its commitment to strengthening
internal controls to reduce the risks of inaccurate or incomplete
reported disgorgements and penalties amounts. SEC also needs to
implement key elements of its agencywide information security program
to remediate existing weaknesses and have sufficient assurance that
financial information and financial assets are adequately safeguarded
from inadvertent or deliberate misuse, fraudulent use, improper
disclosure, or destruction. Finally, SEC needs to improve controls over
the recording of property and equipment transactions in order to have
sufficient assurance over the accuracy and completeness of these
reported balances.
In commenting on a draft of this report, SEC‘s Chairman emphasized his
commitment to further enhancing internal controls to ensure reliability
of financial reporting, soundness of operations, and public confidence
in the agency‘s mission.
[Hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-07-134].
To view the full product, including the scope and methodology, click on
the link above. For more information, contact Jeanette Franzel, 202-512-
9471, franzelj@gao.gov.
[End of Section]
Contents:
Letter:
Auditor's Report:
Opinion on Financial Statements:
Opinion on Internal Control:
Compliance with Laws and Regulations:
Consistency of Other Information:
Objectives, Scope, and Methodology:
SEC Comments and Our Evaluation:
Management's Discussion and Analysis:
Financial Statements:
Balance Sheets:
Statements of Net Cost:
Statements of Changes in Net Position:
Statements of Budgetary Resources:
Statements of Financing:
Statements of Custodial Activity:
Notes to the Financial Statements:
Appendix:
Appendix I: Comments from the Securities and Exchange Commission:
Abbreviations:
FMFIA: Federal Managers' Financial Integrity Act:
OMB: Office of Management and Budget:
SEC: United States Securities and Exchange Commission:
November 15, 2006:
The Honorable Christopher Cox:
Chairman:
U.S. Securities and Exchange Commission:
Dear Mr. Cox:
This report presents our opinion on whether the financial statements of
the Securities and Exchange Commission (SEC) for the fiscal years ended
September 30, 2006, and 2005 are presented fairly, in all material
respects, in conformity with U.S. generally accepted accounting
principles. This report also presents (1) our opinion on the
effectiveness of SEC's internal control over financial reporting and
compliance as of September 30, 2006, and (2) the results of our
evaluation of SEC's compliance with selected laws and regulations
during 2006.
The Accountability of Tax Dollars Act of 2002 requires that SEC prepare
and submit to Congress and the Office of Management and Budget (OMB)
audited financial statements. We decided, under our audit authority, to
audit SEC's financial statements. We conducted this audit in accordance
with U.S. generally accepted government auditing standards and OMB
guidance.
We are sending copies of this report to the Chairman and Ranking
Minority Members of the Senate Committee on Banking, Housing, and Urban
Affairs; the Senate Committee on Homeland Security and Governmental
Affairs; the House Committee on Financial Services; and the House
Committee on Government Reform. We are also sending copies to the
Secretary of the Treasury, the Director of the Office of Management and
Budget, and other interested parties. In addition, this report will be
available at no charge on our Web site at [Hyperlink,
http://www.gao.gov].
This report was prepared under the direction of Jeanette M. Franzel,
Director, Financial Management and Assurance, who can be reached at
(202) 512-9471 or franzelj@gao.gov. If I can be of further assistance,
please call me at (202) 512-5500.
Sincerely yours,
Signed by:
David M. Walker:
Comptroller General of the United States:
Auditor's Report To the Chairman of the United States Securities and
Exchange Commission:
In our audits of the United States Securities and Exchange Commission
(SEC) for fiscal years 2006 and 2005, we found:
* the financial statements as of and for the fiscal years ended
September 30, 2006, and 2005, including the accompanying notes, are
presented fairly, in all material respects, in conformity with U.S.
generally accepted accounting principles;
* although certain internal controls should be improved, SEC had
effective internal control over financial reporting (including
safeguarding assets) and compliance with laws and regulations as of
September 30, 2006; and:
* no reportable noncompliance with laws and regulations we tested.
The following sections discuss in more detail these conclusions as well
as our conclusions on Management's Discussion and Analysis and other
supplementary information. They also present information on the
objectives, scope, and methodology of our audit and our discussion of
SEC management's comments on a draft of this report.
Opinion on Financial Statements:
SEC's balance sheets as of September 30, 2006, and 2005, and its
related statements of net cost, changes in net position, budgetary
resources, financing, and custodial activity, with accompanying notes
for the fiscal years then ended, are presented fairly, in all material
respects, in conformity with U.S. generally accepted accounting
principles.
Opinion on Internal Control:
Although certain internal controls should be improved, SEC management
maintained, in all material respects, effective internal control over
financial reporting (including safeguarding assets) and compliance as
of September 30, 2006, that provided reasonable assurance that
misstatements, losses, or noncompliance material in relation to the
financial statements would be prevented or detected on a timely basis.
Our opinion is based on criteria established under 31 U.S.C. § 3512
(c), (d) commonly known as the Federal Managers' Financial Integrity
Act (FMFIA) and OMB Circular A-123, revised June 21, 1995, Management
Accountability and Control.
We identified three reportable conditions which, although not material
weaknesses,[Footnote 1] represent significant deficiencies in the
design or operation of internal control that could adversely affect
SEC's ability to meet its internal control objectives. These
conditions, described in more detail later in this report, concern
deficiencies in (1) SEC's reporting of disgorgements[Footnote 2] and
penalties,[Footnote 3] (2) information system controls, and (3)
property and equipment controls.
In our 2005 report,[Footnote 4] we identified material weaknesses in
the areas of SEC's (1) reporting of disgorgements and penalties, (2)
information systems controls, and (3) financial reporting process.
Based on SEC's efforts to address concerns with controls over
disgorgements and penalties and with information systems, and based on
improvements we found in these areas during our fiscal year 2006 audit,
we have concluded that these two previously reported weaknesses are no
longer material. Because many of these efforts represent compensating
controls rather than permanent systemic solutions, deficiencies in the
design and operation of internal control in these areas remain and
could adversely affect SEC's recording and reporting of disgorgements
and penalties and its information security. Therefore we considered
these areas to still be reportable conditions. During our fiscal year
2006 audit, we have also concluded that SEC has taken sufficient action
in the area of controls over the financial reporting process such that
we no longer consider this issue to be a material weakness or
reportable condition.
Although the reportable conditions did not materially affect the 2006
financial statements, misstatements may nevertheless occur in unaudited
financial information reported by SEC, including performance
information, as a result of the internal control weaknesses.
Compliance with Laws and Regulations:
Our tests for compliance with selected provisions of laws and
regulations disclosed no instances of noncompliance that would be
reportable under U.S. generally accepted government auditing standards
or OMB audit guidance. However, the objective of our audit was not to
provide an opinion on overall compliance with laws and regulations.
Accordingly, we do not express such an opinion.
Consistency of Other Information:
SEC's Management's Discussion and Analysis and other accompanying
information contain a wide range of data, some of which are not
directly related to the financial statements. We did not audit and do
not express an opinion on this information. However, we compared this
information for consistency with the financial statements and discussed
the methods of measurement and presentation with SEC officials. Based
on this limited work, we found no material inconsistencies with the
financial statements or nonconformance with OMB guidance. However,
because of the internal control weaknesses noted above, misstatements
may occur in related performance measures.
Objectives, Scope, and Methodology:
SEC management is responsible for (1) preparing the financial
statements in conformity with U.S. generally accepted accounting
principles; (2) establishing, maintaining, and assessing internal
control to provide reasonable assurance that the broad control
objectives of FMFIA are met; and (3) complying with applicable laws and
regulations.
We are responsible for obtaining reasonable assurance about whether (1)
the financial statements are presented fairly, in all material
respects, in conformity with U.S. generally accepted accounting
principles; and (2) management maintained effective internal control
that provides reasonable, but not absolute, assurance the following
objectives are met:
* Financial reporting: Transactions are properly recorded, processed,
and summarized to permit the timely and reliable preparation of
financial statements in conformity with U.S. generally accepted
accounting principles, and assets are safeguarded against loss from
unauthorized acquisition, use, or disposition.
* Compliance with applicable laws and regulations: Transactions are
executed in accordance with (1) laws governing the use of budgetary
authority, (2) other laws and regulations that could have a direct and
material effect on the financial statements, and (3) any other laws,
regulations, or governmentwide policies identified by OMB audit
guidance.
We are also responsible for (1) testing compliance with selected
provisions of laws and regulations that could have a direct and
material effect on the financial statements and for which OMB audit
guidance requires testing and (2) performing limited procedures with
respect to certain other information appearing in SEC's Performance and
Accountability Report. In order to fulfill these responsibilities, we:
* examined, on a test basis, evidence supporting the amounts and
disclosures in the financial statements;
* assessed the accounting principles used and significant estimates
made by SEC management;
* evaluated the overall presentation of the financial statements;
* obtained an understanding of internal control related to financial
reporting (including safeguarding of assets) and compliance with laws
and regulations (including execution of transactions in accordance with
budget authority);
* obtained an understanding of the design of internal controls related
to the existence and completeness assertions relating to performance
measures as reported in Management's Discussion and Analysis, and
determined whether they have been placed in operation;
* tested relevant internal controls over financial reporting and
compliance with applicable laws and regulations, and evaluated the
design and operating effectiveness of internal control;
* considered SEC's process for evaluating and reporting on internal
control and financial management systems under FMFIA; and:
* tested compliance with selected provisions of the following laws and
their related regulations:
- the Securities Exchange Act of 1934, as amended;
- the Securities Act of 1933, as amended;
- the Antideficiency Act;
- laws governing the pay and allowance system for SEC employees; and:
- the Prompt Payment Act.
We did not evaluate all internal controls relevant to operating
objectives as broadly defined by FMFIA, such as those controls relevant
to preparing statistical reports and ensuring efficient operations. We
limited our internal control testing to controls over financial
reporting and compliance. Because of inherent limitations in internal
control, misstatements due to error or fraud, losses, or noncompliance
may nevertheless occur and not be detected. We also caution that
projecting our evaluation to future periods is subject to the risk that
controls may become inadequate because of changes in conditions or that
the degree of compliance with controls may deteriorate.
We did not test compliance with all laws and regulations applicable to
SEC. We limited our tests of compliance to those required by OMB audit
guidance and other laws and regulations that had a direct and material
effect on, or that we deemed applicable to, SEC's financial statements
for the fiscal year ended September 30, 2006. We caution that
noncompliance may occur and not be detected by these tests and that
such testing may not be sufficient for other purposes.
We performed our work in accordance with U.S. generally accepted
government auditing standards and OMB audit guidance.
SEC's management provided comments on a draft of this report. They are
discussed and evaluated in a later section of this report and are
reprinted in appendix I.
Reportable Conditions:
We identified three reportable conditions which, although not material
weaknesses, represent significant deficiencies in the design or
operation of internal control that could adversely affect SEC's ability
to meet its internal control objectives. These conditions concern
deficiencies in (1) SEC's reporting of disgorgements and penalties, (2)
information system controls, and (3) property and equipment controls,
which are summarized below.
Additional details surrounding these reportable conditions, along with
recommendations for corrective action, are being reported separately to
SEC management. Less significant matters involving SEC's system of
internal controls and its operations will also be reported to SEC
separately.
Disgorgements and Penalties:
As part of its enforcement responsibilities, SEC issues and administers
judgments ordering, among other things, disgorgements, civil monetary
penalties, and interest against violators of federal securities laws.
These transactions involve material amounts of collections, and the
recording and reporting of fiduciary and custodial liability balances
on the financial statements.[Footnote 5]
Our audit testing during fiscal year 2006 noted significant management
oversight and efforts to address weaknesses in the internal controls
over recording and reporting disgorgement and penalty information.
During the year, SEC finalized policies and procedures for reporting
disgorgement and penalty activity; improved reconciliations of
disgorgement and penalty transactions; established an internal audit
function within the Division of Enforcement; and had better and more
timely coordination between the two key SEC units responsible for
reporting and recording disgorgements and penalties. Of particular note
was a comprehensive initiative SEC undertook during the year to review
and verify all of the outstanding disgorgement and penalty debts.
Through this project, SEC identified and corrected numerous errors in
the database used to record and report disgorgements and penalties.
These errors involved amounts due, judgment and due dates, the payees,
and status of the cases. This project also identified steps needed with
respect to collecting or terminating the debts. Because of the
limitations of the current case tracking system for disgorgements and
penalties, SEC's efforts far exceeded what would have otherwise been
necessary to determine the reliability of the data. These efforts will
most likely continue until SEC improves its financial system for
recording and reporting disgorgement and penalty information.
Even with SEC's increased efforts to address concerns over reporting of
disgorgements and penalties, our audit work during fiscal year 2006
continued to identify risks concerning the completeness of the
disgorgements and penalties receivable amounts. For example, we
identified a $21 million disgorgement case that was erroneously omitted
from SEC's disgorgement receivable balance at June 30, 2006. This is
largely because SEC's process for determining its disgorgement and
penalty receivable balances relies heavily on information being
submitted to the Office of Financial Management from individual
attorneys working on each case. To compensate for the risk presented by
this process, in fiscal year 2006 SEC instituted a compensating control
in which the Enforcement office heads were asked to certify the
completeness and accuracy of the recorded disgorgement receivable
balances at June 30, 2006, and at fiscal year end. Through this
certification process, a number of cases were identified as not having
current information related to dollar amounts, due dates, and payees,
in the case tracking system used to establish the amounts receivable at
a given date. While none of these instances resulted in a significant
misstatement to the receivable balance reported on the financial
statements, relying on a decentralized detective control such as this
certification process requires significant analysis, data gathering,
and follow up, and increases the risk that disgorgement and penalty
debts and related activity may not get recorded in a timely manner or
in the proper period.
We are encouraged by SEC's commitment and management attention to
strengthening controls over disgorgement and penalty activity to date,
as well as SEC's planned future actions in this area. As discussed in
it's Management's Discussion and Analysis, SEC has designed procedures
and documentation to track disgorgement and penalty actions from the
time they are approved by the Commission to their recording in the case
tracking system. Also this past year, SEC has begun training attorneys
handling the cases on the steps necessary to maintain strong internal
controls over updating and communicating information that could impact
financial reporting. In addition, in fiscal year 2006 SEC designed a
new financial management system for tracking disgorgements and
penalties that will replace the financial portion of the existing case
tracking system. SEC expects these new controls and the new
disgorgement financial system to be fully operational in fiscal year
2007. Until a permanent and systemic process is fully implemented and
operational, SEC does not have sufficient assurance over the accuracy
and completeness of its reporting and tracking of disgorgements and
penalties.
Information Security:
SEC relies extensively on computerized information systems to process,
account for, and report on its financial activities and make payments.
In order to provide reasonable assurance that financial information and
financial assets are adequately safeguarded from inadvertent or
deliberate misuse, fraudulent use, improper disclosure, or destruction,
effective information security controls are essential. These controls
include security management, access controls, change management,
segregation of duties, and continuity planning. Although SEC has made
important progress in strengthening its controls over financial systems
and information and in implementing an agencywide information security
program, SEC still needs to implement key elements of the program to
remediate existing weaknesses and provide assurance that new weaknesses
do not emerge.
SEC has mitigated 51 of 64 control weaknesses that were previously
reported as unresolved at the time of our prior review. For example,
SEC completed actions to establish policies and procedures for risk
management, ensure that all users complete security training, and
implement an incident response program. SEC also took corrective action
to improve its systems' access rights and permissions, user accounts
and passwords, network security, and auditing and monitoring of
security-related events. In addition, SEC took immediate steps to
address 11 of 15 new weaknesses related to access controls and
segregation of duties that we identified during the course of this
year's audit.
While we have seen important efforts to improve its information
security program, 17 control weaknesses still exist at SEC. For
example, SEC has not mitigated weaknesses with user account and
password management, provided adequate segregation of system
administrative functions, or effectively protected and controlled
physical access to its facilities. As a result, sensitive data--
including payroll and financial transactions, personnel data, and
regulatory and other mission-critical information--remains at risk of
unauthorized disclosure, modification, or loss. Until SEC consistently
implements all key elements of its information security program, SEC
will not have sufficient assurance that financial information and
financial assets are adequately safeguarded from inadvertent or
deliberate misuse, fraudulent use, improper disclosure, or destruction.
Property and Equipment:
SEC's property and equipment consists of software and general purpose
equipment used by the agency, capital improvements made to buildings
leased by SEC for office space, and internal-use software development
costs for projects in development. The reported book value of property
and equipment increased from approximately $73 million at September 30,
2005, to nearly $104 million at September 30, 2006. The significant
increase in property and equipment is primarily due to SEC occupying
new office space in Washington, D.C., Boston, and New York during
fiscal year 2006.
During the course of testing fiscal year 2006 additions, we noted
numerous instances of inaccuracies in recorded acquisition costs and
dates for furniture and equipment purchases, as well as unrecorded
furniture and equipment purchases, and errors in amounts capitalized
for internal use software projects. These systemic errors did not
materially affect the balances reported for property and equipment or
the corresponding depreciation/amortization expense amounts in SEC's
financial statements for fiscal year 2006; however, these conditions
evidence a significant deficiency in control over the recording of
property and equipment that impacts the reliability of its recorded
balances for property and equipment. Without a process that integrates
controls over capitalizing and recording property and equipment
purchases, SEC does not have sufficient assurance over the accuracy and
completeness of its reported balances for property and equipment.
GAO's Standards for Internal Control in the Federal Government[Footnote
6] provide an overall framework for establishing and maintaining
internal control, including a discussion of control activities, an
example of which is accurate and timely recording of transactions.
Specifically, transactions should be accurately and promptly recorded
to maintain their relevance and value to management in controlling
operations and making decisions. In its Management's Discussion and
Analysis, SEC acknowledges the need to strengthen control over this
area.
SEC Comments and Our Evaluation:
In commenting on a draft of this report, SEC's Chairman said he was
pleased to receive an unqualified opinion on SEC's financial
statements, and that there were no material weaknesses in internal
control. The Chairman acknowledged that further improvements are needed
and discussed ongoing and planned efforts to improve controls over
disgorgements and penalties, information security, and property
management, three areas which we identified as reportable conditions in
this year's audit. The Chairman stated that SEC intends to fully
remediate all three reportable conditions before the end of fiscal year
2007. SEC's commitment to enhancing its internal controls to ensure
reliability of financial reporting, soundness of operations, and public
confidence in the agency's mission is key to the Chairman's statement
that SEC must lead by example when it comes to compliance with the
internal control requirements of the federal and private sectors.
The complete text of SEC's comments is reprinted in appendix I.
Signed by:
David M. Walker:
Comptroller General of the United States:
November 6, 2006:
[End of section]
Management's Discussion and Analysis:
Section 1: Management's Discussion And Analysis:
The Securities and Exchange Commission is the federal agency that
administers the federal laws governing the U.S. securities markets. As
such, the SEC plays a fundamental role in maintaining the integrity and
vitality of America's markets and protecting the interests of
investors. The following section outlines the agency's vision, mission,
values, and goals, as presented in the SEC's five-year strategic plan,
and provides management's discussion and analysis of the SEC's major
accomplishments during fiscal year (FY) 2006, upcoming challenges,
management controls, and financial highlights. This section also
includes the results of the SEC's primary performance measures.
Vision:
The Securities and Exchange Commission aims to be the standard against
which federal agencies are measured. The SEC's vision is to strengthen
the integrity and soundness of U.S. securities markets for the benefit
of investors and other market participants, and to conduct its work in
a manner that is as sophisticated, flexible, and dynamic as the
securities markets it regulates.
Mission:
The mission of the SEC is to protect investors; maintain fair, orderly,
and efficient markets; and facilitate capital formation.
Values:
*Integrity:
* Accountability:
* Fairness:
* Resourcefulness:
* Teamwork:
* Commitment to Excellence:
Goals:
Enforce compliance with federal securities laws:
The Commission seeks to detect problems in the securities markets,
prevent and deter violations of federal securities laws, and alert
investors to possible wrong-doing. When violations occur, the SEC aims
to take prompt action to halt the misconduct, sanction wrong-doers
effectively, and, where possible, return funds to harmed investors.
Promote healthy capital markets through an effective and flexible
regulatory environment:
The savings and investments of every American are dependent upon
healthy capital markets. The Commission seeks to sustain an effective
and flexible regulatory environment that will facilitate innovation,
competition, and capital formation to ensure that our economy can
continue to grow and create jobs for our nation's future. Enhancing the
productivity of America is a key goal that the SEC works to achieve by
increasing investor confidence in the capital markets.
Foster informed investment decision making:
An educated investing public ultimately provides the best defense
against fraud and costly mistakes. The Commission works to promote
informed investment decisions through two main approaches: reviewing
disclosures of companies and mutual funds to ensure that clear,
complete, and accurate information is avail-able to investors; and
implementing a variety of investor education initiatives.
Maximize the use of SEC resources:
The investing public and the securities markets are best served by an
efficient, well-managed, and proactive SEC. The Commission strives to
improve its organizational effectiveness by making sound investments in
human capital and new technologies, and by enhancing internal controls.
Organizational Structure And Resources:
The SEC is an independent federal agency established pursuant to the
Securities Exchange Act of 1934. It is headed by a bipartisan five-
member Commission, comprised of the Chairman and four Commissioners,
who are appointed by the President and confirmed by the Senate. The
Chairman serves as the chief executive officer. The SEC is organized
into four main divisions: Corporation Finance, Market Regulation,
Investment Management, and Enforcement. It also has 19 functional
offices. The Commission's headquarters are in Washington, D.C., and it
has 11 regional and district offices throughout the country. In FY
2006, SEC received authorized funding of $888 million. At September 30,
2006, the SEC had 3,590 staff, including 3,549 permanent staff and 41
temporary staff.
Exhibit 1.1: SEC Organization Chart:
[See PDF for Image]
[End of Figure]
Major Accomplishments:
FY 2006 was a year of notable achievement in all major program areas.
The SEC's most significant accomplishments are discussed below.
Enforcing Compliance with the Securities Laws:
The SEC continued to improve its efforts to ensure compliance with the
federal securities laws through enforcement activities and the ongoing
inspection of regulated entities.
Enforcement Program:
In FY 2006, the SEC initiated 914 investigations, 218 civil
proceedings, and 356 administrative proceedings, covering a wide range
of issues. The major areas of enforcement activity were: corporate
financial fraud, including abusive backdating of stock options;
compliance failures at self-regulatory organizations and broker-
dealers; and fraud related to mutual funds. The Commission prevailed in
the great majority of the litigated enforcement actions decided by
district courts and administrative law judges, and maintained a
balanced distribution of cases across the core enforcement areas. The
SEC's enforcement cases resulted in a total of more than $3.3 billion
in disgorgement and penalties ordered against securities law violators
during FY 2006. Whenever practical, the Commission seeks to return
funds to harmed investors through the "fair fund" provision of the
Sarbanes-Oxley Act, which allows the SEC to use penalties, in addition
to disgorgement, to compensate injured investors for their losses. The
following are some of the notable enforcement actions taken by the SEC
in FY 2006.
Actions involving financial fraud:
The Commission brought numerous cases involving financial fraud at
public companies. In an effort to enhance consistency and transparency
in the SEC's practice of sanctioning corporations that have committed
fraud, in January 2006 the Commission unanimously issued a Statement of
the Securities and Exchange Commission Concerning Financial Penalties.
The statement provides a framework for decision making that is designed
to ensure that the Commission can effectively sanction and deter
corporate wrong-doing, while protecting the interests of shareholders
who own public companies.
In its initial application of the new framework, the Commission settled
an action against McAfee, Inc., alleging that the company improperly
inflated its cumulative net revenues by $622 million between 1998 and
2000 and concealed the fraud from investors. McAfee consented to pay a
$50 million civil penalty. In a parallel case, the Commission settled
an action against Applix, Inc., alleging that the company improperly
recognized $1.2 million in revenue in 2001 and 2002. The company agreed
to cease and desist from future fraud violations and to take remedial
measures to improve its internal controls; however, based on an
analysis under the new framework, the Commission elected not to pursue
monetary penalties.
Other significant financial fraud actions included cases against
American International Group, Inc. (AIG), Fannie Mae, and Tyco
International Ltd. The AIG case involved improper accounting relating
to sham reinsurance transactions with GenRe Corporation. To resolve the
SEC's claims, AIG agreed to pay $800 million in disgorgement and
penalties, which will be returned to investors through a fair fund. The
Commission's case against Fannie Mae, brought jointly with the Office
of Federal Housing Enterprise Oversight (OFHEO), involved improper
smoothing of earnings in violation of accounting rules. Fannie Mae
agreed to pay a $350 million penalty in the SEC's case, which will be
used to compensate harmed investors, and an additional $50 million to
OFHEO. In the Tyco case, the Commission found that the company had
utilized unlawful accounting practices in a scheme to overstate its
reported financial results by $1 billion. The company agreed to pay a
$50 million civil penalty.
The Commission also brought cases involving the fraudulent backdating
of stock options. The SEC charged three senior officers of Converse
Technology, alleging that they engaged in a decade-long scheme to grant
in-the-money stock options to themselves and others by backdating
option grants to coincide with historically low closing prices of the
company's common stock.
In a similar action, the Commission filed charges against three
officers of Brocade Communications Systems, alleging that the company
routinely backdated stock option grants to give employees favorably
priced options without recording necessary compensation expenses. These
actions concealed millions of dollars of expenses from investors and
gave investors a false portrait of Brocade's financial condition. They
also contributed to the restatements of hundreds of millions of dollars
of Brocade's financial results from 1999 through 2004.
Actions involving self-regulatory organizations and broker-dealers:
In FY 2006, the SEC brought several important cases involving self-
regulatory organizations and brokerdealers. In a case against the
Philadelphia Stock Exchange, the Commission found that the Exchange
failed to enforce certain trading and order handling rules and provided
inadequate surveillance measures for violations of equities trading
rules. As a result of the SEC's action, the Exchange agreed to retain a
third party auditor to conduct a comprehensive audit of its
surveillance, examination, investigation, and disciplinary programs.
In a case involving misconduct in the $200 billion auction rate
securities market, the Commission found that 15 broker-dealers,
including Bear Stearns, Citigroup Global Markets, and Goldman Sachs,
engaged in violative practices in the sale of auction rate securities.
As a result of the Commission's action, the firms consented to pay more
than $13 million in penalties.
In an illegal trading case, the Commission charged a former Merrill
Lynch broker and former day traders and managers from A.B. Watley with
participating in a fraudulent scheme to obtain confidential information
about institutional customer order flow from major brokerage firms by
compensating brokers with commission-generating trades and secret cash
payments.
The SEC brought its first-ever enforcement action under the provisions
of the USA Patriot Act that seek to protect the U.S. financial system
from money laundering and terrorist financing. The Commission charged
broker-dealer Crowell, Weedon with failing to comply with the record-
keeping provisions of the Bank Secrecy Act, as amended by the USA
Patriot Act, and the firm agreed to cease and desist from committing
future violations.
Actions related to mutual fiends:
In FY 2006, the SEC continued to address abuses relating to the market
timing of mutual funds. The Commission brought several notable cases
against traders and brokers who carried out market timing schemes to
the detriment of mutual fund shareholders. In a case against Millennium
Partners, the Commission found that the firm fraudulently timed mutual
funds by concealing its identity and thereby circumventing restrictions
that the mutual funds imposed on market timing. The firm and four
individuals together agreed to pay over $180 million in disgorgement
and penalties, which will be used to compensate harmed investors.
In a related case, the SEC brought an action against Prudential Equity
Group (formerly Prudential Securities), finding that brokers used
deceptive market timing practices to conceal their identities, and
those of their customers, to evade mutual funds' prospectus limitations
on market timing. The Commission censured Prudential and ordered it to
pay disgorgement of $270 million, which will be returned to the harmed
mutual funds and fund shareholders. The Commission also filed suit
against four former Prudential brokers for related conduct, and
accepted the settlement of one previously sued broker.
The Commission brought an action against Bear Stearns charging the firm
with securities fraud for facilitating unlawful late trading and
deceptive market timing of mutual funds by its customers. The SEC
ordered the firm to pay $160 million in disgorgement and a $90 million
penalty, which will be paid into a fair fund to compensate the harmed
mutual funds and fund shareholders.
Cross-border enforcement:
In FY 2006, the SEC continued to cooperate with foreign authorities on
cases with significant international components. The SEC encouraged
other countries to adopt legislative reforms that are consistent with
the minimum benchmark for international cooperation set by the
International Organization of Securities Commissions (IOSCO), which has
increased the SEC's ability to obtain information from a growing number
of jurisdictions worldwide.
The SEC also participated in IOSCO's work to develop a multilateral
approach for preserving and repatriating assets and supported a
resolution adopted by IOSCO calling for jurisdictions to examine their
legal framework and strive to develop mechanisms, including legislative
reform, for freezing assets on behalf of a foreign regulator. The SEC
also continued its efforts in specific cases to freeze and repatriate
assets that were obtained in violation of U.S. securities laws and
transferred abroad.
Information technology forensic program:
During FY 2006, the Division of Enforcement implemented a new forensic
lab equipped with state-of-the-art equipment and software. The lab
allows Enforcement to retrieve data stored on electronic devices like
personal computers, servers and laptops. Since such data is volatile,
subject to damage, and requires special processing and handling, the
forensic lab has created special protocols that are essential to the
preservation and authentication of this data. Enforcement has also
trained a team of examiners who are able to perform forensic-related
activities such as recovering deleted data and analyzing email and
other relevant artifacts. The forensics program has fundamentally
transformed Enforcement's ability to receive, process, and analyze
electronic storage devices.
Exhibit 1.2:
Distribution of Cases Across Core Enforcement Areas:
Description: Effective deterrence of securities fraud requires that the
cases filed by the SEC have adequate reach across all core enforcement
program areas. The mix and types of cases change from year to year
based upon the conditions of the markets and the changes in financial
instruments being used. The SEC's enforcement program seeks to maintain
a presence and depth so that no single area dominates its case mix, nor
is underrepresented. This measure evaluates whether the Commission
maintains an effective distribution of cases so that no category
exceeds 40 percent of the total.
Core Enforcement Program Areas: Financial disclosure;
Percentage of cases: FY03: 29%;
Percentage of cases: FY04: 28%;
Percentage of Cases: FY05: 29%;
Percentage of Cases: FY06: 24%.
Core Enforcement Program Areas: Investment advisors/Investment
Companies;
Percentage of cases: FY03: 11;
Percentage of cases: FY04: 14;
Percentage of Cases: FY05: 16;
Percentage of Cases: FY06: 16.
Core Enforcement Program Areas: Broker-dealers;
Percentage of cases: FY03: 20;
Percentage of cases: FY04: 22;
Percentage of Cases: FY05: 15;
Percentage of Cases: FY06: 13.
Core Enforcement Program Areas: Securities offerings;
Percentage of cases: FY03: 16;
Percentage of cases: FY04: 15;
Percentage of Cases: FY05: 9;
Percentage of Cases: FY06: 11.
Core Enforcement Program Areas: Insider trading;
Percentage of cases: FY03: 7;
Percentage of cases: FY04: 7;
Percentage of Cases: FY05: 8;
Percentage of Cases: FY06: 8.
Core Enforcement Program Areas: Market Manipulation;
Percentage of cases: FY03: 5;
Percentage of cases: FY04: 6;
Percentage of Cases: FY05: 7;
Percentage of Cases: FY06: 5.
Core Enforcement Program Areas: Other;
Percentage of cases: FY03: 12;
Percentage of cases: FY04: 8;
Percentage of Cases: FY05: 16;
Percentage of Cases: FY06: 23.
Total;
Percentage of cases: FY03: 100%;
Percentage of cases: FY04: 100%;
Percentage of Cases: FY05: 100%;
Percentage of Cases: FY06: 100%.
[End of table]
Examination Program:
The SEC's examination program works to detect fraud and other possible
violations of the federal securities laws, foster compliance with these
laws, and inform the Commission and its staff of compliance issues. The
Office of Compliance Inspections and Examinations (OCIE) uses risk-
based methodologies to focus resources on those activities that could
pose the greatest risk to investors and the integrity of the markets.
In FY 2006, OCIE continued to refine and implement risk assessment
techniques to identify and focus on firms and activities that present
the greatest compliance risk to investors. OCIE also explored new
technologies to facilitate the conduct of examinations and the review
of large volumes of data, and implemented an automated system to track
examinations in order to improve coordination of examinations and
prevent duplication. Examination staff continued and expanded
cooperative examination initiatives with domestic and foreign
regulators.
OCIE substantially enhanced training for examiners with respect to new
rules applicable to securities firms, and on current trends in the
securities industry, including broker-dealers providing investment
advisory services and the activities of hedge fund advisers.
OCIE also initiated a pilot program for monitoring the largest asset
management and broker-dealer firms, took steps to make its examination
process more transparent to firms under examination, and created a
"Hotline" to receive any complaints or concerns from firms under
examination.
The staff of OCIE and the Division of Investment Management jointly
continued to conduct the Outreach Program, which seeks to encourage
strong industry compliance practices by providing information to
adviser and mutual fund compliance professionals. The staff conducted a
national seminar at SEC headquarters that was attended by approximately
500 adviser and fund compliance officers and transmitted via web cast
to many more. The seminar covered a range of topics that are critical
to compliance officers in administering their firms' compliance
programs. In addition, during the summer of FY 2006, examination staff
from the SEC's field offices conducted 27 regional seminars attended by
about 1,750 adviser and fund chief compliance officers. The primary
focus of discussions during these regional seminars was the
identification of compliance risks, which is the starting point for
constructing a comprehensive and effective compliance program.
Examinations of investment advisers and investment companies:
The examination staff completed routine inspections of 650 advisers
with higher risk profiles and 328 lower-risk advisers that were
randomly selected from lower-risk firms. These routine inspections
focused on firms' compliance programs and areas where compliance
procedures were found to be weak or non-existent. Examiners also
conducted 368 inspections of advisers that either appeared to have
specific issues needing further scrutiny or that were part of a risk
targeted examination sweep. For example, OCIE initiated a sweep to
review procedures that firms use to prevent identity theft.
Advisers inspected had assets under management of $10.9 trillion, which
was about 40 percent of the total assets under management of all
registered advisers at the beginning of FY 2006. As part of these
inspections, staff examined 344 registered fund groups, including
mutual fund transfer agents, and reviewed about 750 privately-offered
investment funds. Overall, 80 percent of examinations revealed some
type of deficiency or control weakness, and 6 percent of adviser and
registered fund inspections were referred to enforcement staff for
further review. Importantly, most examinations resulted in corrective
action and improved compliance or risk management by the firms
examined.
Exhibit 1.3:
Investment Advisers and Investment Companies Examined:
Description: To conduct oversight of investment companies and advisers,
the staff conducts a risk-based program of routine examinations, cause
inspections to follow up on tips and complaints, and special
inspections to probe emerging risk areas. Growth in the industry and
severe compliance issues caused changes in the SEC's oversight of
investment companies and advisers in 2003-2004.
Investment advisors;
FY02: 1,570;
FY03: 1,556;
FY04: 1,543;
FY05: 1,530;
FY06: 1,346.
Investment Companies;
FY02: 304;
FY03: 318;
FY04: 783;
FY05: 582;
FY06: 344.
Examinations of investment advisers and investment companies completed
in FY 2006 are lower than in previous years, for a variety of reasons.
These include: an increase in the complexity of registrants'
operations, including the need to review the activities of private
funds in conjunction with examination of the funds' advisers (e.g., in
FY 2006, about 750 privately-offered investment funds were also
reviewed); a substantial increase in the time needed during routine
examinations to evaluate the effectiveness of the compliance programs
that advisers and funds were required to maintain beginning in FY 2005;
an increase in examination scope in order to review advisers' and
funds' compliance with other new regulatory requirements; a decrease in
the number of targeted special examinations conducted (which are
generally of shorter duration than routine exams); the dedication of
staff resources to new proactive initiatives designed to improve
compliance, including Outreach and the monitoring of large advisory
groups; and a decrease in resources.
Examinations of broker-dealers:
In its FY 2006 examinations of broker-dealers, OCIE focused on areas of
significant compliance and financial risks, including: sales practices
to retail investors, including the suitability of various products;
business continuity planning; anti-money laundering; suitability
focusing on various products; misuse of non-public information
concerning trading activities of institutional investors; execution
practices in equities and debt, including markups; compliance with net
capital and customer reserve obligations; and branch office
supervision. OCIE conducted special risk-targeted examinations on
topics such as sales and marketing to senior citizens, short sales, day
trading, sales of periodic payment plans, and fee-based accounts, among
other areas. Special examinations were also conducted of large firms'
internal controls.
Examiners found some type of deficiency or control weakness in about 90
percent of inspections, and about 25 percent of the exams resulted in
referrals to the enforcement staff or a self-regulatory organization
for further review. Importantly, most examinations resulted in remedial
action and improvements in the firms' compliance or risk management
programs.
Examinations of self-regulatory organizations and the Public Company
Accounting Oversight Board:
OCIE conducted risk based and routine inspections of the self-
regulatory organizations' surveillance, examination, disciplinary,
arbitration, customer communication, and listing programs. These
inspections resulted in improvements in regulatory programs conducted
by the securities exchanges. Together with the SEC's Office of the
Chief Accountant, OCIE also completed the first inspection of the
Public Company Accounting Oversight Board (PCAOB).
Improving Disclosure for Investors:
The SEC worked to improve the quality, reliability, and timeliness of
disclosure to investors by undertaking the following actions.
Enhanced executive compensation disclosure. The SEC adopted far-
reaching amendments to the disclosure requirements relating to
executive and director compensation, related party transactions,
director independence, and other corporate governance matters. The
amendments require companies to present this information in plain
English and in a tabular format useful to shareholders, analysts,
journalists, and the investing public. For the first time, companies
must present all elements of compensation as a single total dollar
amount for each executive. Companies must also discuss and analyze
their compensation policies and decisions. In addition, companies must
disclose certain compensation information on a realtime basis in
current reports on Form 8-K.
Global accounting standards. Last year, the SEC staff published a
"roadmap" of the milestones necessary to permit foreign private issuers
to file financial statements prepared under International Financial
Reporting Standards (IFRS), without reconciling them to U.S. generally
accepted accounting principles. The roadmap involves, among other
things, a detailed analysis of the faithfulness and consistency of the
application, interpretation, and enforcement of IFRS in financial
statements across companies and jurisdictions, and continued progress
in the convergence work now being conducted by the International
Accounting Standards Board and the Financial Accounting Standards
Board. The SEC staff has been working with other regulators, including
through IOSCO and the Committee of European Securities Regulators
(CESR), to help reach some of these milestones. For example, the SEC
staff and CESR finalized a work plan in 2006 to share information about
IFRS implementation.
Disclosure review. The Divisions of Corporation Finance and Investment
Management continue to improve their disclosure review programs to
comply with the review requirements of the Sarbanes-Oxley Act of 2002.
In FY 2006, the SEC staff reviewed the filings of 4,485 public
companies and 4,151 mutual funds.
Exhibit 1.4:
Percentage of Reporting Companies and Investment Companies with
Disclosures Reviewed by the SEC:
Description: The Sarbanes-Oxley Act requires that the SEC review the
disclosures of all reporting companies and investment company
portfolios at least once every three years. These reviews help improve
the information available to Investors and can uncover serious
violations of the securities laws.
Corporations;
FY03: 23%;
FY04: 22%;
FY05: 50%;
FY06: 33%.
Investment Companies;
FY03: 10%;
FY04: 54%;
FY05: 37%;
FY06: 36%.
FY 2005 marked the completion of the first three-year cycle under the
Sarbanes-Oxley Act; and in FY 2006, the SEC remained on track to review
every reporting company and investment company at least once every
three years. The Division of Corporation Finance continued to release
filing review correspondence through the EDGAR system in order to
increase the transparency of its review process.
Given the increased global nature of public company operations, in its
review of public company filings, the Division of Corporation Finance
considered whether each company's disclosure indicated material
contacts with countries the State Department has identified as sponsors
of terrorism and sought enhanced disclosure as appropriate.
Interactive data. In April 2005, the Commission established a voluntary
program to permit registrants to submit required financial disclosures
using eXtensible Business Reporting Language (XBRL). The interactive
format transforms this financial data so that investors, analysts, and
other market participants, as well as the SEC itself, can analyze and
personalize the information in ways best suited for their purposes. It
will be easier for the public to retrieve financial ratios, written
disclosures, mutual fund expenses, and other information critical to
their investments.
In January 2006, the SEC offered companies expedited reviews of their
registration statements and annual reports if they submit their
disclosures using XBRL and share their experiences with the agency. So
far, more than 20 major companies are now participating in the program.
In June 2006, the Commission also conducted the first in a series of
interactive data roundtable discussions to explore ways to further
expand the use of technologies like XBRL.
Exhibit 1.5:
Percentage of Forms and Submissions Filed Electronically and in a
Structured Format:
Description: The SEC is continuing to emphasize electronic filing to
make information available to the public in a format that can be easily
obtained and analyzed. The SEC currently has over 100 forms that must
be filed with the agency, which annually generate hundreds of thousands
of filings. The agency is redesigning its form filing capabilities to
rely on more structured formats (e.g., information is captured in a
comma delimited, XML, XBRL, or other format). This measure gauges the
percentage of forms that are available to be filed in a structured
format and the percentage of resulting filings that are received in the
structured format. In addition, this measure identifies the overall
percentage of forms that are in electronic format and the overall
percentage of resulting filings that are received electronically by the
SEC.
Forms: Structured format;
FY03: 4%;
FY04: 4%;
FY05: 5%;
FY06: 8%.
Forms: Another electronic format;
FY03: 68%;
FY04: 68%;
FY05: 67%;
FY06: 62%.
Forms: Total Percentage in electronic format;
FY03: 72%;
FY04: 72%;
FY05: 72%;
FY06: 70%.
Filings received: Structured format;
FY03: 21%;
FY04: 36%;
FY05: 35%;
FY06: 35%.
Filings received: Another electronic format;
FY03: 55%;
FY04: 52%;
FY05: 54%;
FY06: 55%.
Filings received: Total percentage in electronic format;
FY03: 76%;
FY04: 88%;
FY05: 89%;
FY06: 90%.
[End of table]
The percentage of the forms that are electronic declined slightly in FY
2006; however, that was due to consolidation or elimination of a small
number of electronic forms rather than an increase in paper forms.
Meanwhile, the overall number of electronic filings versus paper
filings continued to increase. The proportion of forms filed with the
SEC that are in structured formats such as XBRL increased in FY 2006.
However, the overall number of structured filings declined slightly in
FY 2005 and 2006, due to various market dynamics that resulted in fewer
being filed in those years. The SEC will continue to work toward its
goal of substantially increasing the percentage of forms and
submissions in structured format, as well as converting 100 percent of
all filings and submissions into electronic format.
Promoting an Effective and Flexible Regulatory Environment:
Through a variety of rulemaking and other initiatives, the SEC
continued to modernize and refine its regulations in order to
facilitate innovation and competition while protecting the interests of
investors.
Implementation of Section 404 internal control requirements. The SEC
and the Public Company Accounting Oversight Board hosted a roundtable
discussion on second-year experiences with implementing the internal
control requirements under Section 404 of the Sarbanes-Oxley Act of
2002. Following the roundtable, the SEC announced that it would develop
and issue guidance for management to follow in assessing internal
controls over financial reporting and would oversee the PCAOB's
revision of its related audit standard, as well as the PCAOB's
implementation of those revisions. The SEC also announced that, in
order for companies and auditors to have the benefit of these efforts,
it would delay required implementation of the internal control
requirements for certain smaller public companies.
Evaluated the needs of smaller companies. The SEC began its review of
the recommendations of the SEC Advisory Committee on Smaller Public
Companies. The Advisory Committee's recommendations relate to a broad
range of topics, including capital formation, on-going corporate
reporting, and internal control over financial reporting. Consistent
with a recommendation of the Advisory Committee, the SEC delayed
implementation of the management reports required under Section 404 of
the Sarbanes-Oxley Act until the 2007 fiscal year, and delayed the
auditor attestation requirement for certain foreign private issuers
with market capitalization between $75 million and $700 million until
the 2007 fiscal year. The SEC also proposed delaying the auditor
attestation requirement until the 2008 fiscal year for certain public
companies with less than $75 million in market capitalization.
Interpretive release on soft dollars. The SEC issued a final
interpretive release relating to the scope of the soft dollar safe
harbor under Section 28(e) of the Securities Exchange Act of 1934. The
release clarifies the eligibility criteria for brokerage and research
services and the circumstances under which money managers may use
client commissions to pay for those services. The release also provides
guidance to money managers and broker-dealers on the arrangements that
managers may use to obtain brokerage and research services under the
safe harbor.
Equal payments in tender offers. The SEC proposed amendments to its
tender offer "best-price rule" to adapt the rule to recent judicial
developments and reinforce its basic purpose-ensuring that all
shareholders who tender their securities in an offer receive the same
consideration. The Commission adopted final rule amendments in October
2006.
Deregistration by foreign issuers. In response to the concerns of
foreign companies, the SEC proposed rule changes that would make it
easier for foreign companies with little U.S. market interest to
terminate their reporting obligations. In recognition of the
information needs of investors, the Commission also proposed rules that
would provide U.S. investors with ready access through the Internet to
material information about a foreign company that maintains its
reporting exemption after it has ceased filing reports with the SEC.
Proposal for investors to receive proxy statements over the Internet.
The Commission proposed rules that would allow companies to use the
Internet to satisfy the delivery requirements for proxy materials.
Shareholders would continue to have the option of receiving paper
copies. The proposed rules could substantially reduce the expense of
complying with the proxy rules, provide investors with a user-friendly
means of obtaining and reviewing proxy materials, and provide persons
other than the company with a more cost-effective means to undertake
their own proxy solicitations.
Increased flexibility and transparency for funds of funds. The SEC
adopted rules that expand current Investment Company Act exemptions
relating to certain fund of funds arrangements, including a rule to
allow funds to sweep their cash overnight into money market funds. To
increase the transparency of expenses in these arrangements, the SEC
adopted requirements that a fund that invests in other funds disclose
in its fee table the cumulative amount of expenses charged by the fund
and the funds in which it invests. These initiatives removed
unnecessary regulatory burdens, while maintaining investor protections.
Investment adviser/broker-dealer study. The SEC awarded a contract to
conduct factual research and analysis for a major study comparing how
the different regulatory systems that apply to broker-dealers and
investment advisers affect individual investors. Broker-dealers are
regulated under the Securities Exchange Act of 1934, while investment
advisers are under the authority of the Investment Advisers Act of
1940. The study will examine how these different regimes affect
investors and assist the Commission in assessing the current legal and
regulatory environment. The study will involve collecting,
categorizing, and analyzing data from a variety of sources, including
marketing, sales, and delivery data about the financial products,
accounts, programs, and services offered to individual investors.
Regulation B. Since the enactment of the Gramm-Leach-Bliley Act in
1999, the SEC has extended the effective date for the bank broker
provisions several times. Most recently, the Commission granted banks a
temporary exemption from broker registration until January 2007. In
June 2004, the Commission proposed Regulation B, which would implement
the bank securities activities exceptions from the definition of
"broker" in the Securities Exchange Act of 1934. In 2006, the Chairman
met on a regular basis with senior representatives from the federal
banking agencies to discuss ways to implement the bank broker
exceptions in a way that will support investor protection while
minimizing compliance costs and disruption with respect to banks'
exisitng business practices. In October 2006, new legislation was
signed that provides that the SEC and the Board of Governors of the
Federal Reserve System must jointly propose rules implementing the bank
broker exceptions within 180 days.
Facilitating Changes in Market Structure and Cross-Border Cooperation:
Approval of NASDAQ exchange application. In January 2006, the SEC
approved the Nasdaq Stock Market's application to become a registered
national securities exchange. The conditions to its operating as an
exchange included Nasdaq's individual participation in various national
market system plans; the implementation of certain regulatory plans
that will permit Nasdaq to fulfill its self-regulatory obligations; and
the ability of the NASD, which has controlled Nasdaq since 1971, to
satisfy its own statutory obligations independently from Nasdaq. Nasdaq
is currently working to fulfill these conditions.
NYSE hybrid market proposal. The SEC approved the New York Stock
Exchange's proposal to alter fundamentally its market structure by
converting from a traditional floor-based auction market with limited
automated access to liquidity, to a largely automated market with some
manual order interaction. The NYSE plans to implement this "Hybrid
Market" structure in five phases by the end of 2006.
NYSE/Archipelago merger. The SEC approved rule proposals from the NYSE
and the Pacific Exchange (now known as NYSE Arca) necessary to permit a
merger to combine their businesses under one publicly-traded holding
company. The merger was completed, and the NYSE Group common stock
began trading in March 2006. As a result of the transaction, NYSE Group
owns two registered exchanges, the New York Stock Exchange and NYSE
Arca. Through this transaction, the NYSE demutualized, separating
equity ownership in the NYSE from trading privileges on the exchange.
Implementation of Regulation NMS. The SEC addressed important issues of
equity market structure as the individual markets transformed to meet
the desires of their customers for more efficient, automated trading
and to comply with automated trading provisions of Regulation NMS.
Regulation NMS sets the terms for competing markets to access and
interact with each other and is intended to strengthen competition in
the national market system. Nine of the ten national securities
exchanges are either adopting new automated trading systems or
substantially modifying their existing trading systems to respond to
these competitive challenges. The SEC worked closely with the exchanges
and securities industry throughout FY 2006 to promote a non- disruptive
and cost-effective rollout of the new trading systems and
implementation of Regulation NMS.
Cross-border exchange affiliations. The SEC has undertaken to
articulate its preliminary views on the potential regulatory
implications arising from an affiliation between U.S. and non-U.S.
securities exchanges. In addition, the SEC has initiated a dialogue to
discuss the regulatory aspects of potential cross-border exchange
mergers with its regulatory counterparts in other jurisdictions. During
the past several months, Nasdaq has acquired a 25 percent stake in the
London Stock Exchange, and the NYSE has entered into a combination
agreement with Euronext, which includes the U.K. derivatives exchange
Liffe. The SEC and the College of Euronext Regulators are currently
taking the necessary steps regarding the regulatory approval processes
for the proposed combination of NYSE and Euronext.
Oversight of globally active firms and exchanges. The SEC entered into
a Memorandum of Understanding with the U.K. Financial Services
Authority to increase cooperation in market oversight and supervision.
This comprehensive arrangement created a framework for regulatory
consultation and the exchange of supervisory information with respect
to financial firms and investment banking groups that operate both in
the United States and the United Kingdom. The MOU promotes cooperation
on inspections of dually registered firms in order to use resources
efficiently and minimize duplicative efforts.
Interagency statement on sound practices concerning complex structured
finance activities. In May 2006, the SEC, together with the Office of
the Comptroller of the Currency, the Office of Thrift Supervision, the
Board of Governors of the Federal Reserve System, and the Federal
Deposit Insurance Corporation, requested comment on a revised statement
to provide guidance that may help financial institutions identify,
manage, and address the heightened reputational and legal risks that
may arise from certain complex structured finance transactions. The
agencies focused on those transactions that may pose heightened levels
of legal or reputational risk to different financial institutions.
SEC technical assistance program. The SEC drew record numbers of
regulators from emerging and developed markets to the Commission's
International Institute for Securities Market Development in April
2006, including 147 delegates from 70 countries. Additionally,
securities commissions and stock exchanges are increasingly requesting
the expertise and experience of SEC staff in dealing with insider
trading, market manipulation, corporate governance, inspections and
compliance, and a host of other market development and enforcement
issues. Vietnam, Kuwait, and Iraq sought the SEC's assistance in
drafting new securities laws. The SEC staff also conducted or
substantially participated in regional or bilateral training programs
in China, India, Malaysia, Philippines, Thailand, Vietnam, Ecuador,
Peru, Trinidad and Tobago, Bahrain, and Saudi Arabia.
Bilateral regulatory dialogues. The SEC also enhanced collaboration on
regulatory issues by entering into dialogues with the China Securities
Regulatory Commission, the Japan Financial Services Agency, and the
Korea Financial Supervisory Commission. The objectives of the dialogues
are to identify and discuss common regulatory concerns in the context
of promoting converged approaches to regulatory issues, and to improve
cooperation and the exchange of information in cross-border securities
enforcement matters.
Focusing on the Individual Investor:
Protecting retirees and elderly investors. In 2006, at Chairman Cox's
direction, the SEC launched an initiative to focus on the protection of
senior investors from investment fraud and the sales of unsuitable
securities. The SEC held the first-ever "Seniors Summit" among federal
and state regulators and other interested groups to examine how
regulators and others can better coordinate efforts to protect older
Americans from investment fraud and abusive sales practices. To further
this effort, the SEC partnered with the North American Securities
Administrators Association in a three-part strategy involving investor
education, targeted examinations, and enforcement actions. The SEC's
Office of Investor Education and Assistance (OIEA) and staff in
regional/district offices participated in numerous educational events
targeted to seniors, and issued numerous investor alerts and
publications aimed at senior investors. OIEA created a special web page
to provide seniors and their caregivers with high-quality, unbiased
investor education materials with information on investments commonly
marketed to seniors, such as variable annuities, equity-indexed
annuities, and promissory notes, as well as tips for detecting and
avoiding fraud. Examination staff in OCIE launched an examination sweep
of more than 65 broker-dealers and advisers that sponsor "free lunch"
sales seminars targeted to seniors, along with state securities
regulators and the NASD and the New York Stock Exchange. The SEC has
already brought several enforcement actions against fraudsters who
would prey on seniors.
Plain English-the new language of the SEC. In his testimony before the
U.S. Senate Committee on Banking, Housing, and Urban Affairs, Chairman
Cox identified plain English as one of four key initiatives to improve
the quality and usefulness of disclosure for individual investors. As
discussed above, the SEC has adopted rule changes to improve the
quality of executive compensation disclosure and require that companies
present that disclosure in plain English, rather than boilerplate or
legalese.
Searchable text on EDGAR. In FY 2006, the SEC enhanced the search
capabilities of EDGAR by adding a full-text search feature that allows
the public to search the complete text of EDGAR filings from the past
two years on the SEC website. Users now can search by any keyword or
concept, within specified date ranges, form types, or company names.
The public also now will be able to retrieve mutual fund filings more
easily by fund or share class.
Point of sale disclosure. As part of a continuing effort to strengthen
disclosures to investors, the staff continued to gather information to
help the Commission finalize its point of sale disclosure proposal.
Unlike the confirmation, which comes after the trade is executed, the
"point of sale" document would be delivered to investors at the time
they are making their investment decisions. The proposal would require
broker-dealers to disclose to their customers the costs and conflicts
of interest that arise from the distribution of mutual funds, variable
annuities, and 529 college savings plans. In light of comments
received, the staff is considering how best to incorporate new
technologies into disclosure requirements in away that will benefit a
wide range of retail investors.
Managing the SEC More Effectively:
Improved budget process. In July, 2006 the SEC implemented the initial
phase of the Budget and Program Performance Analysis System (BPPAS), an
activity-based costing and performance-based budgeting system, which
will significantly enhance the SEC's capabilities to report and analyze
its financial planning, budgeting, cost-assignment, and operations
performance. BPPAS is an important tool for managers and staff,
providing a detailed picture of the Commission's operations and
effectiveness. In addition, BPPAS has further strengthened the budget
process by providing more auditable and transparent budget formulation
and execution processes. The SEC also applied additional resources to
its budget processes and enhanced its long-range planning in the
administrative and facilities areas.
Strengthened internal controls. The SEC made substantial progress in
strengthening its agency-wide internal controls. The agency resolved
each of the three material weaknesses identified in prior year
financial statement audits, and laid the groundwork for further
improvements in FY 2007. The SEC's planned actions in these areas are
designed to address the reportable conditions identified by the
Government Accountability Office (GAO) during its FY 2006 financial
audit. For a more complete discussion of the SEC's ongoing efforts to
strengthen internal controls, see the Challenges and Management
Controls and Compliance with Laws and Regulations sections.
Information technology investments. The SEC continued to build upon a
voluntary program initiated in FY 2005 that allows registrants to use
eXtensible Business Reporting Language in their financial disclosure
filings. In early 2006, an interactive data test group was launched to
explore how new Internet-based reporting technologies can improve the
financial reporting process for investors, financial intermediaries,
the SEC, and companies themselves. The pilot program enables
participant companies to determine the benefits of using interactive
data and provide feedback to the SEC, and enables investors and
analysts to assess new technologies for analyzing interactive data
reports submitted to the SEC in XBRL format.
The SEC's examination program spends a great deal of time analyzing the
quantitative information obtained from regulated entities during the
course of inspections, in areas such as trading activity, securities
holdings, and other details of the business conducted. The new
prototype Data Analysis and Reporting Tool (DART) provides OCIE
automated analysis capabilities that will enable examiners to more
quickly identify compliance issues and conduct inspections in a more
efficient and timely manner.
During FY 2006, the SEC initiated several projects to increase
productivity; measure, analyze and improve organizational performance;
and improve the quality of services supporting the Commission's
divisions and offices. These initiatives included upgrading and
automating back office operations in the areas of capital planning and
investment control; budget formulation and financial management; and
procurement and contracting. The new Strategic Acquisition Management
(SAM) system will provide accurate and timely procurement information
that will help the SEC reduce costs, leverage its spending power,
manage expenditures, and measure supplier performance.
Exhibit 1.6: Milestones for Major IT Projects:
Modify EDGAR to accommodate interactive data in XBRL format for
financial reports;
FY05: Initiated;
FY06: In Progress.
Transition EDGAR system management to new contract;
FY05: Initiated;
FY06: In Progress.
Enhance SEC.gov to improve EDGAR data searches and accessibility for
investors;
FY05: Initiated;
FY06: In Progress.
Image backlog for paper-based discovery documents;
FY05: In Progress;
FY06: In Progress.
Provide fully automated processing of options trade records in support
of enforcement investigations;
FY05: In progress;
FY06: Completed.
Redesign the enforcement case management system to improve management
of penalties and disgorgement;
FY05: Initiated;
FY06: In Progress.
Upgrade analytical tools available to examiners;
FY05: Initiated;
FY06: In progress.
Implement new systems to support expansion telework;
FY05: In progress;
FY06: Completed.
Migrate to alternate data center;
FY05: Completed;
FY06: [Empty].
Certify and accredit major systems for information security risk;
FY05: In progress;
FY06: Completed.
Implement Homeland Security presidential Directive 12 for personnel
identity verification and access control;
FY05: Initiated;
FY06: In progress.
[End of table]
Expanded telework program. The SEC has dramatically increased its
telework participation rate in the past year. Currently, 34 percent of
SEC employees telework. This statistic is particularly notable since
the SEC is one of the few federal agencies that do not exclude certain
job functions or groups of employees from telework. In FY 2006 the SEC
purchased and deployed new technology that allows employees to access
their files via the Internet at any time or location, thereby
facilitating more telework without compromising the security of the
SEC's information. Also, the SEC continued its pilot "virtual
workforce" project in the Division of Corporation Finance, in which an
initial group of 10 employees works from home full-time. The SEC is
exploring options for expanding the program to other parts of the
agency.
Completed building projects. The Chairman successfully restructured the
FY 2006 budget to cover all of the build-out costs related to the
agency's new Washington, New York, and Boston offices up front, rather
than spreading them out over several years. As a result, the SEC
avoided spending millions of dollars on unnecessary financing costs.
These three construction projects were completed in spring 2006, and
the Office of Administrative Services successfully moved nearly 1,400
staff into the new facilities.
Challenges:
The SEC undertook a variety of actions in FY 2006 to address the
challenges highlighted in last year's Performance and Accountability
Report, as well as new issues that have emerged. The following section
discusses the SEC's key challenges and the steps the agency is taking
to meet them.
Strengthening Internal Controls:
The SEC aims to set the standard for internal controls against which
federal agencies are measured. In FY 2006, the agency resolved each of
the three material weaknesses identified by the Government
Accountability Office in their financial audits for FY 2004 and FY
2005. The SEC will continue to evaluate and strengthen its controls in
all operational areas during FY 2007, to ensure reliability of
financial reporting, soundness of its operations, and public confidence
in the agency's mission.
Financial statement preparation process. The SEC made substantial
improvements in its financial reporting procedures during FY 2006, the
agency's third year of preparing audited financial statements. Among
other initiatives, the Office of Financial Management: (i) completed
documentation of a comprehensive set of policies and procedures for
financial reporting; (ii) improved documentation of the audit trail
between general ledger accounts and the financial statements; (iii)
prepared interim financial statement notes for review by senior
management; and (iv) added key staff with expertise in governmental
financial reporting. In addition, the SEC formalized the membership,
procedures, and responsibilities of the Financial Management Oversight
Committee, which has oversight responsibility with respect to all
aspects of the SEC's financial management, including financial
reporting and internal controls. The Committee is comprised of the
Director of Corporation Finance, the Director of Enforcement, the
General Counsel, the Chief Accountant, the Executive Director, and the
Chief Financial Officer, and chaired by the Chairman.
In FY 2007, the SEC will seek to build on these improvements by, among
other things: (i) further educating staff throughout the SEC on the
agency's internal controls over financial reporting; (ii) strengthening
controls over the recording of property and equipment and payroll
expenses; (iii) utilizing new information systems to facilitate the
preparation of financial statements; and (iv) introducing new
procedures for management's assessment of internal controls, to ensure
compliance with the requirements of OMB Circular A-123 on Management's
Responsibility for Internal Control.
Recording and reporting of disgorgement and penalties. During FY 2006,
the SEC took a number of important steps to ensure the integrity of
enforcement-related disgorgement and penalty data. To address
inaccuracies in the existing database, the Division of Enforcement
completed a comprehensive Delinquent Debt Project, which involved
verifying the recorded data with respect to all outstanding enforcement
debts and taking appropriate steps regarding the collection of those
debts. The Division also conducted an internal audit of year-end
enforcement receivables. To ensure the quality of new data going
forward, the SEC introduced new controls over the recording of
enforcement receivables. These controls involve the participation of
the Office of the Secretary and the Office of Financial Management, in
addition to the Division of Enforcement, and they are designed to make
certain that the disgorgement and penalty data recorded and reported on
the SEC's financial statements are accurate, timely, and complete. The
agency also completed the design of a new financial management
information system for tracking disgorgement and penalties that will
replace the financial portion of Enforcement's existing case tracking
database.
In FY 2007, the SEC will continue to strengthen the financial
management of all aspects of the enforcement program. The SEC's planned
actions are designed to address the reportable conditions in this area
identified during GAO's FY 2006 financial audit. The Office of
Information Technology (OIT) expects to roll out the new financial
management system for disgorgement and penalties by the second quarter,
and OIT will be working on additional systems improvements to enhance
the tracking and management of money ordered in enforcement cases. The
Division of Enforcement will continue its efforts to educate all
enforcement attorneys about the additional steps necessary to maintain
strong internal controls at the SEC and to ensure transparency and
uniformity in the agency's approach to monetary sanctions. Another
priority for the SEC, as discussed in the following section, is to
achieve greater efficiencies in the management and distribution to
harmed investors of fair funds and other distribution funds.
Information security. During the past year, the SEC implemented a wide
variety of new policies and procedures governing the assessment and
management of information security risk. These procedures include
comprehensive approaches for identifying security risk; configuring,
testing, and monitoring information systems; incident response;
remedial action tracking; and many other areas. The SEC also completed
the certification and accreditation of its major systems, and conducted
awareness training for 99 percent of SEC staff. In addition, the agency
also established and tested its disaster recovery and business
continuity plans in accordance with recommendations from previous
years.
The SEC will refine and extend the procedures and management controls
put in place during FY 2006 to reduce the residual risk. The most
important of these will be improvements in the processes for
controlling changes to the technical environment, strengthening the
management of user accounts and passwords, and measures to tighten the
physical perimeter around sensitive areas of the SEC's premises. In
addition, the agency will remediate a number of specific technical
issues in such areas as patch management, data security, and intrusion
detection systems. The SEC's planned actions with respect to
information security are designed to address the reportable conditions
in this area identified during GAO's FY 2006 financial audit.
Recording and reporting of property and equipment. The SEC's asset
balances for property and equipment have increased substantially as a
result of the growth and relocation of the agency's staff in recent
years. The GAO audit found inaccuracies in recording of acquisition
costs and dates and capitalization of internal use software. To address
these issues, the agency's property management policies will be updated
in FY 2007 to reflect the current organizational structure and revised
business processes. To enhance data integrity and maximize the
integration of the agency's financial systems, the SEC has begun to
prepare requirements to replace the agency's current outdated asset
management system. While replacement of the management information
system will likely be a multi-year effort, the program will be
strengthened in FY 2007 to ensure data integrity and timeliness by
updating the policies, training staff on the new policies, and
increasing quality checks throughout the year.
Efficiently Distributing Funds to Investors:
Another high priority challenge for the SEC is improving the
administration and distribution of fair funds and other distribution
funds for the benefit of victims of securities law violations. The fair
funds provision of the Sarbanes-Oxley Act of 2002 authorizes the SEC,
in certain circumstances, to take penalties collected in enforcement
cases and add them to disgorgement funds, making it possible to provide
greater recovery to harmed investors. Fair funds and other distribution
funds are collected by the SEC; and prior to distribution to harmed
investors, these monies are generally held by the SEC in administrative
cases and held by courts in civil cases.
Since 2002, the SEC has collected approximately $8 billion for
distribution to harmed investors. The agency is continuing to meet the
challenges of developing and administering distribution plans for this
money, in what are often complex cases involving hundreds of thousands
of injured investors. These challenges include: determining what
classes of investors, during what time period, were harmed, and the
relative harm to each particular class of investor; evaluating the
potential tax consequences and other costs of a particular
distribution; and managing the mechanics of a distribution, which
involves locating and sending checks to what are often large numbers of
investors. In recent years, the SEC has come up a steep learning curve
with respect to these issues, and is now using that learning to speed
the distribution of these funds.
During FY 2006, approximately $700 million of these funds were
distributed to investors, including significant distributions related
to the Global Research Analysts, NYSE specialists, and Bristol-Myers
Squib enforcement matters. Also, the SEC staff regularly held
conference calls with all of the Independent Distribution Consultants
appointed to assist in distribution of the 26 fair funds established in
the recent market timing and late trading mutual fund scandals, as well
as engaged in one-on-one consultations with the IDCs. These calls
assisted in working through the many issues arising in those cases and
have added consistency to the agency's approach in these distributions.
Additionally, the staff worked closely with representatives of the IRS
and the Department of Labor on issues within their respective expertise
related to these complex distributions.
In FY 2007, the SEC expects to distribute a significant amount of the
approximately $3.3 billion dollars collected for distribution in those
26 mutual fund cases. In addition, the agency expects the distributions
of $750 million from the WorldCom fair fund and $300 million from the
Time-Warner AOL fair fund to commence in the first half of FY 2007.
The SEC has also taken several steps to increase the amounts returned
to harmed investors. In particular, in administrative orders, the SEC
now generally requires settling respondents to pay the costs of
distributions. The SEC also seeks to consolidate funds from related
cases, where appropriate. This step can save investors hundreds of
thousands of dollars in separate, duplicative distribution actions.
Similarly, where appropriate, the SEC seeks to save costs by
distributing funds together with related private class actions. In such
cases, the agency always ensures that no SEC recoveries are used to pay
private class action lawyer fees. Finally, the SEC seeks to ensure that
fair fund monies held by the SEC pending distribution are earning
interest. To this end, the SEC has established an agreement with the
Bureau of the Public Debt, pursuant to which nearly all disgorgement
and penalty funds collected in administrative proceedings are invested
in short-term Treasury securities, pending their distribution to
injured investors.
Going forward, the SEC will continue to look for ways to streamline the
distribution process so that monies are returned to harmed investors
efficiently and in a timely manner.
Leveraging Information Technology:
The SEC continues to make significant investments in information
technology to support its business processes and improve the agency's
performance of its mission; however, a number of important challenges
remain to be addressed in the coming years.
Investor disclosure. While the SEC disseminates over 700,000 documents
annually to the public, most of those filings are in text-based formats
that can be difficult to efficiently search and analyze. The SEC has
embarked on a major "interactive data" initiative to make the
information much more easy to use, leveraging modern software
technologies and data interchange formats such as eXtensible Business
Reporting Language (XBRL).
Enforcement and examination management. The enforcement and examination
programs comprise over 1,900 staff, and are critical to the SEC's
investor protection mission. The management information systems used to
oversee these programs, however, are antiquated and do not provide the
kind of high-quality information capture and reporting that is required
for such large programs. The SEC began a multiyear initiative to
upgrade or replace these systems in 2006 beginning with a new system
for tracking disgorgements and penalties, and plans to upgrade or
replace the other key systems over the next two years.
Back office and financial systems. The SEC has historically not
invested sufficiently in its administrative systems infrastructure,
which has been a contributing factor to the internal controls issues
discussed elsewhere in this report. The agency began to address these
issues in 2006 with an upgrade to the core accounting system and other
investments in procurement and budgeting systems; over the next three
years, additional upgrades are planned.
Enhancing Risk Assessment:
The SEC seeks to target its resources toward the fraudulent, illegal,
or questionable practices that pose the greatest risks to investors and
the markets. During FY 2006, under the leadership of the Office of Risk
Assessment, the SEC worked to fully integrate risk assessment practices
into its operations, particularly in the enforcement, examination, and
disclosure review programs. For example, the SEC's examination program
has employed techniques such as risk profiling and deploying monitoring
teams at large advisory firms to better assist in risk assessment and
detection and prioritize inspections. In addition, the agency piloted
an IT system that will help SEC staff identify, prioritize, and manage
the risks within each program area. As noted in the Inspector General's
Summary of Management Challenges, in Section 3, the SEC plans to
enhance further its risk assessment capabilities, by thinking
strategically, identifying and prioritizing emerging issues, and
coordinating agency resources and activities accordingly.
Human Capital Management:
The SEC was proud to be named one of the top five places to work in the
federal government, according to a survey conducted by U.S. News &
World Report and the Partnership for Public Service. This honor is a
testament to the agency's efforts over the last several years to
improve its human capital management practices. However, more work
remains to be done in this area, as the SEC continues to work in a
challenging human capital environment and has been experiencing a
rising attrition rate.
The Office of Human Resources (OHR) has adopted a set of strategic
initiatives and a plan to organize its staff in alignment with the
Human Capital Assessment and Accountability Framework developed by the
Office of Management and Budget, the Office of Personnel Management,
and the Government Accountability Office. OHR developed a strategy map
and balanced scorecard to support effective execution of its strategy.
However, the SEC still must work to complete implementation of its
balanced scorecard in 2007, so it can be used to gauge the SEC's
progress on its human capital goals and refine the agency's strategies
and initiatives as appropriate.
Using this underlying framework, the SEC then must work to improve some
important facets of its human capital planning. In the coming months,
the agency will develop the framework for a comprehensive knowledge
management program, establish a leadership curriculum to address
succession planning needs, and use competency gap data to improve its
training needs assessment system. In addition, the SEC will focus its
attention on integrating all of its human capital systems, including
those for performance management, selection, leadership and knowledge
management, and succession planning. This integration should improve
the coordination and information flow among the systems, which will
improve the agency's human capital decision making.
Management Controls And Compliance With Laws And Regulations:
SEC management is responsible for the fair presentation of the
principal financial statements in conformity with U.S. generally
accepted accounting principles and the requirements of OMB Circular A-
136, Financial Reporting Requirements. Management is also responsible
for the fair presentation of the SEC's performance measures in
accordance with OMB requirements. The quality of the SEC's internal
control rests with management, as does the responsibility for
identifying and complying with pertinent laws and regulations.
Chairman's Assurance Statement:
Management controls in effect during FY 2006 provided reasonable
assurance that, taken as a whole, the SEC's system of internal controls
is achieving its objectives under Sections 2 and 4 of the Federal
Managers' Financial Integrity Act.
Signed by:
Christopher Cox:
Chairman:
Federal Managers' Financial Integrity Act:
The Federal Managers' Financial Integrity Act of 1982 (FMFIA) requires
agencies to establish management controls over their programs and
financial systems. Specifically, Section 2 of the Act requires an
annual assessment of internal controls necessary to ensure compliance
with applicable laws; protect against loss from waste, fraud, and
abuse; and ensure receivables and expenditures are properly recorded.
Section 4 requires an assessment of conformance with government-wide
financial system requirements.
In accordance with guidance issued by the SEC's Office of the Executive
Director, 28 office heads conducted reviews of their financial,
administrative, and program management controls. The offices range in
size from 6 to 602 positions, with an average of 131 positions at the
end of FY 2006. This segmentation ensures comprehensive coverage of all
SEC offices.
Each office head prepared an annual assurance statement that identified
any control deficiencies that merit the attention of the Chairman.
These statements were based on information gathered from various
sources, including, among other things:
* Management's personal knowledge gained from the daily operation of
the office;
* Management reviews and dashboard reports (which are monthly reports
used to track the progress on operational, budgetary, and staffing
objectives, and to adjust processes and resources as necessary);
* Government Accountability Office and Office of Inspector General
reports;
* Self-assessments;
* Annual performance plans and reports;
* Audits of the agency's financial statements;
* Reports and other information from Congress, the Office of Management
and Budget, the Office of Personnel Management, or similar agencies;
and:
* Other reviews relating to the office's operations. Upon evaluation of
the Section 2 and 4 submissions, recommendations from the Office of the
Inspector General, and other supplemental sources of information, the
agency's Financial Management Oversight Committee advised the Chairman
whether the SEC had any management control deficiencies serious enough
to be reported as a material weakness or nonconformance.
To be considered a material weakness in management control for FMFIA
reporting purposes, the deficiency should be significant enough that it
meets one or more of the FMFIA material weakness criteria.
The accompanying chart describes the criteria that the SEC uses for the
FMFIA review.
Material Weakness Criteria:
* Significantly impairs the fulfillment of the SEC's mission:
* Deprives the public of needed services.
* Violates statutory or regulatory requirements.
* Significantly weakens established safeguards against waste, loss,
unauthorized use or misappropriation of funds, property, other assets.
* Results In financial or program Information that Is significantly in
error, or incomplete.
* Results in conflict of interest.
* Merits the attention of the Chairman, the President, or a relevant
Congressional oversight committee.
* Of a nature that omission from the report could reflect adversely on
the SEC's management integrity.
Management concluded that controls in effect during FY 2006 provided
reasonable assurance that the SEC's system of internal controls is
achieving its objectives under Sections 2 and 4 of the FMFIA, and that
the SEC has no material weaknesses in internal controls. As described
below, the SEC fully resolved the four material weaknesses reported as
a result of last year's FMFIA review process.
Other Reviews:
Also during the year, the Office of Inspector General and the Office of
Information Technology conducted a combined total of 22 alternative
reviews. More than half of all Commission offices were reviewed.
Several offices underwent multiple reviews.
Further, the Office of Information Technology certified and accredited
eight major applications; recertified the agency's accounting and
general support systems because of major upgrades; and completed 14
electronic authentication risk assessments. E-authentication is a
review process at the transaction level designed to help agencies
ensure that authentication processes provide the appropriate level of
assurance.
Finally, GAO audited the Commission's financial statements. GAO's
procedures included audits of the FY 2006 financial statements,
internal controls over the financial systems and operating procedures
affecting the statements, the SEC's compliance with selected provisions
of law and regulations applicable to the management of financial
resources, and actions taken in response to prior GAO audit
recommendations.
Status of Internal Controls over Financial Reporting:
In FY 2006 the SEC focused substantial effort on resolving three
material weaknesses in internal controls over financial reporting.
Those efforts were successful and, as confirmed in the auditor's
report, the SEC now has no material weaknesses in internal controls.
Plans for FY 2007 will address reportable conditions identified by GAO
in the FY 2006 financial audit.
The following is a summary of the status of the SEC's efforts in these
areas, which are also discussed in the Challenges section.
Financial statement preparation process:
Description. In FY 2005, the SEC had a material weakness related to its
preparation of financial statements, due, among other things, to
incomplete documentation of policies and procedures, weaknesses in the
audit trail between general ledger accounts and the financial
statements, and insufficient staff.
Corrective actions taken. The SEC made substantial improvements in its
financial reporting procedures during FY 2006, resolving the material
weakness. Among other initiatives, the Office of Financial Management:
completed documentation of key policies and procedures for financial
reporting; improved documentation of the audit trail between general
ledger accounts and the financial statements; prepared interim
financial statement notes; and added key staff. In addition, the SEC
formalized the membership, procedures, and responsibilities of the
Financial Management Oversight Committee.
Further actions planned. In FY 2007, the SEC will seek to build on
these improvements by, among other things: further educating staff
about internal controls; strengthening controls over the recording of
property and equipment and payroll expenses; utilizing new information
systems to facilitate the preparation of financial statements; and
introducing new procedures for management's assessment of internal
controls, to ensure compliance with the requirements of OMB Circular A-
123 on Management's Responsibility for Internal Control.
Reporting and recording of disgorgement and penalties:
Description. In FY 2005, the SEC had a material weakness related to its
recording and reporting of disgorgement and penalties ordered as a
result of SEC enforcement actions. Limitations in the database used to
track and record disgorgement and penalty activity, inadequate
coordination between different SEC offices, and incomplete policies and
procedures had resulted in financial data inaccuracies.
Corrective actions taken. During FY 2006, the SEC took a number of
important steps to ensure the integrity of enforcement-related
disgorgement and penalty data: the Division of Enforcement completed a
comprehensive Delinquent Debt Project; the agency introduced new
controls over the recording of enforcement receivables; and the agency
completed the design of a new financial management information system
for tracking disgorgement and penalties that will replace the financial
portion of Enforcement's existing case tracking database.
Further actions planned. In FY 2007, the SEC will continue to
strengthen the financial management of all aspects of the enforcement
program: OIT expects to roll out the new financial management system
for disgorgement and penalties by the second quarter; Enforcement will
continue its efforts to educate all enforcement attorneys about the
additional steps necessary to maintain strong internal controls; and
the agency will continue to seek greater efficiencies in the management
and distribution to investors of fair funds and other distribution
funds.
Information security:
Description. Effective information system controls are required to
provide assurance that financial information is adequately protected
from misuse, fraud, improper disclosure, or destruction. These controls
take the form of technical safeguards, such as firewalls and
application design, as well as procedural controls, such as access
management and segregation of duties. The SEC has previously reported a
material weakness related to its information systems and security
controls. These issues stemmed from the historical lack of a
comprehensive agency program to manage information security, as well as
a number of specific technical weaknesses.
The GAO audit for FY 2006 revealed notable progress on all fronts. In
particular, the auditors noted significant improvements in the overall
management of the information security program, and found that 51 of
the 65 open findings from the previous two years' audit cycles had been
resolved In addition, they noted strong improvements in logical access
controls (e.g., password management, database controls) and business
continuity planning. The auditors also identified areas where further
progress is needed; these include ensuring proper controls over changes
to systems, securing physical access to systems and sensitive areas,
and appropriately segregating duties and roles within information
systems. As a result of the progress made over the last year, GAO
determined that while these security gaps still constitute a reportable
condition that risk no longer constitutes a material weakness in
internal controls.
Corrective actions taken. During the past year, the SEC implemented a
wide variety of new policies and procedures governing the assessment
and management of information security risk. These procedures include
comprehensive approaches for identifying security risk; configuring,
testing, and monitoring information systems; incident response;
remedial action tracking; and many other areas. The SEC also completed
the certification and accreditation of its major systems, and conducted
awareness training for 99 percent of SEC staff. The SEC also
established and tested its disaster recovery and business continuity
plans in accordance with recommendations from previous years.
Further actions planned. The SEC will refine and extend the procedures
and management controls put in place during FY 2006 to reduce the
residual risk. The most important of these will be improvements in the
processes for controlling changes to the technical environment,
strengthening the management of user accounts and passwords, and
measures to tighten the physical perimeter around sensitive areas of
the SEC's premises. In addition, the agency will remediate a number of
specific technical issues in such areas as patch management, data
security, and intrusion detection systems.
Status of Controls over Budget Planning:
Description. In May 2005, the SEC disclosed that it underfunded the
construction and build-out of the agency's new facilities in
Washington, New York, and Boston by about $48 million. Although the SEC
remedied the error by paying all of these expenses upfront, saving
taxpayers millions in financing costs, this event also revealed an
underlying weakness in the agency's budget planning and facilities
management processes, which was described in last year's Performance
and Accountability Report. A GAO study found that the SEC should, among
other things, establish accountability at both the staff and management
levels for the reasonableness of budget estimates, establish regular
managerial review procedures related to these and future facilities
projects, and add new budgeting and facilities management positions to
the Office of Administrative Services and Office of Financial
Management. In FY 2006, the SEC finished implementing the GAO
recommendations and has now fully resolved this weakness.
Corrective actions taken. In July 2006, the SEC implemented the initial
phase of the BPPAS system, an activity-based costing and performance-
based budgeting system, which will significantly enhance the SEC's
capabilities to report and analyze its financial planning, budgeting,
cost-assignment, and operations performance. BPPAS has further
strengthened the budget process by providing more auditable and
transparent budget formulation and execution processes. In addition,
extensive consultations took place among SEC management, facilities and
budgeting staff, the Office of Information Technology, and the agency's
program offices to ensure that all offices' needs were addressed in
both the construction and the budget for these projects. As a result of
such efforts, the agency successfully completed all three facilities in
spring 2006, and achieved $5 million in combined savings on these
projects. The SEC also added staff resources to operate the new BPPAS
system, conduct detailed analyses of funding requests, and enhance the
agency's facilities management function. With these and other steps
completed, the SEC has fully addressed GAO's recommendations.
Further actions planned The SEC will continue to strengthen its
budgeting and facilities management programs. The agency will further
integrate the new BPPAS system into its operations, offering agency
managers more detailed analyses than ever before about the costs of
their programs. Also, the SEC will continue enhancing its long-range
planning for the agency's facilities and other administrative costs.
Financial Management Systems:
Although the SEC is not required to report under the Federal Financial
Management Improvement Act, the agency assesses its financial systems
annually, and engages in continuous efforts to strengthen and integrate
financial management systems. An analysis of options for upgrading the
accounting system will be initiated in early FY 2007.
Federal Information Security Management Act:
FISMA requires federal agencies to conduct an annual self-assessment of
their IT security programs, to develop and implement remediation
efforts for identified security weaknesses and vulnerabilities, and to
report compliance to OMB. The SEC's Inspector General and Chief
Information Officer performed a joint review of the agency's compliance
with FISMA requirements, and submitted the report to OMB in late
September. The report showed that the SEC had successfully eliminated
six of the seven significant deficiencies identified during the 2005
FISMA review, with the seventh downgraded to a reportable condition.
The report also identified five new reportable conditions, where the
agency has opportunities to further improve its controls by
strengthening risk assessment processes, improving the rigor of the
certification and accreditation process, and conducting privacy impact
assessments on key systems.
Prompt Payment Act:
The Prompt Payment Act requires federal agencies to report on their
efforts to make timely payments to vendors, including interest
penalties for late payments. In FY 2006 the SEC did not incur interest
penalties on 95 percent of the 14,228 vendor invoices processed,
representing payments of approximately $247 million. Of the invoices
that were not processed in a timely manner, the SEC was required to pay
interest penalties on 769 invoices, but was not required to pay
interest penalties on 776 invoices where the interest was calculated at
less than $1. In FY 2006, the SEC paid approximately $69,000 in
interest penalties, or $278 in interest penalties for every million
dollars of vendor payments.
Improper Payments Information Act:
The Improper Payments Information Act requires federal agencies to
review annually all programs and activities they administer, identify
those which may be susceptible to significant erroneous payments and
the extent of the erroneous payments in its programs, and report the
actions it is taking to reduce erroneous payments. During FY 2006, the
SEC had controls in place to identify and correct erroneous payments
which, in total, did not exceed the $10 million threshold.
Debt Collection Improvement Act:
The Debt Collection Improvement Act prescribes standards for the
administration, collection, compromise, suspension, and termination of
federal agency collection actions and referral to the proper agency for
litigation. In FY 2006, the SEC referred approximately $148 million to
the Department of the Treasury for collection. Collections of
delinquent debt by Treasury for the same period were approximately
$244,000.
Performance Measures Summary:
FY 2006 marks the third year that the SEC has reported program
performance in its annual Performance and Accountability Report.
The SEC's performance measures were developed by a Government
Performance and Results Act team consisting of dedicated staff from
throughout the agency. The team strived to craft meaningful performance
measures that best reflect the SEC's progress in achieving the goals
laid out in its five-year strategic plan.
In general, these measures gauge how much activity the SEC conducts in
a given fiscal year, how quickly it accomplishes its tasks, and what
effects these activities have on the markets and investors. Of these
three components, measuring effectiveness is the most challenging for
the SEC, as is the case for many regulatory and law enforcement
agencies. In many instances, the agency's impact can only be indirectly
assessed. The agency will continue to explore ways to improve these
measures, and this effort will be aided by the SEC's new activity-based
costing and performance-based budgeting system, which was implemented
in FY 2006.
This fiscal year, the Commission worked diligently to meet or exceed
performance targets. Of the 21 performance goals the Commission is
reporting on in FY 2006, the SEC met or exceeded 15 goals.
A summary of the SEC's major performance measures, organized by goal,
is presented in Exhibit 1.7.
Exhibit 1.7: Performance Results Summary:
[See PDF for Image]
[End of Table]
Financial Highlights:
The SEC's financial statements present the financial position, net cost
of operations, changes in net position, budgetary resources, financing,
and custodial and fiduciary activities of the SEC's core business
activities as of and for the fiscal years ended September 30, 2006 and
2005.
Overview:
The SEC's financial statements were prepared in conformity with U.S.
generally accepted accounting principles and OMB Circular A-136,
Financial Reporting Requirements. The financial statements, footnotes,
and auditor's opinion appear in Section 3 of this Performance and
Accountability Report. A summary of the SEC's major financial
activities in FY 2006 and 2005 is presented below.
Assets:
The SEC's assets are classified as either "entity assets" or "non-
entity" assets. Entity assets belong to the agency, and can be used to
fund SEC's operations to the extent authorized by Congress. The SEC
earns revenues through the collections of transaction fees from
securities exchanges and registration fees from issuers. These amounts
can be used by the agency only to the extent of spending limits enacted
by Congress. Amounts collected in excess of such spending limits are
considered restricted entity assets, and can be used only when
subsequently authorized by Congress.
Non-entity assets are assets that are held by the SEC on behalf of
another federal agency or other third party. The SEC's non-entity
assets primarily relate to disgorgement and penalties ordered in
enforcement proceedings against securities law violators. The SEC
records receivables when such amounts are payable directly to the SEC,
but not when they are payable to a court, receiver, or other third
party. Once collected, these amounts are either sent to the General
Fund of the Treasury or held for distribution to harmed investors.
Amounts held pending distribution to investors are generally invested
in short-term Treasury securities.
Exhibit 1.8: Assets at September 30, 2006 and 2005:
(Dollars In Thousands)
September 30, 2006: Fund balance with Treasury;
Entity assets: $353,913;
Entity assets restricted: $4,752,856;
Non-entity assets: $72,124;
Total: $5,178,893.
September 30, 2006: Cash;
Entity assets: [Empty];
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: [Empty].
September 30, 2006: Investments;
Entity assets: [Empty];
Entity assets restricted: [empty];
Non-entity assets: 3,674,528;
Total: 3,674,528.
September 30, 2006: Account receivable- Federal agencies;
Entity assets: 131;
Entity assets restricted: [Empty];
Non-entity assets: 154,375;
Total: 154,506.
September 30, 2006: Accounts receivable- Public;
Entity assets: 105,946;
Entity assets restricted: [Empty];
Non-entity assets: 71,545;
Total: 177,491.
September 30, 2006: Advances and Prepayments;
Entity assets: 947;
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: 974.
September 30, 2006: property and Equipment, Net;
Entity assets: 103,631;
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: 103,631.
September 30, 2006: Total Assets- FY 2006;
Entity assets: $564,595;
Entity assets restricted: 4,752,856;
Non-entity assets: $3,972,572;
Total: $9,290,023.
September 30, 2005: Fund balance with Treasury;
Entity assets: $371,798;
Entity assets restricted: $3,703,675;
Non-entity assets: $273,463;
Total: $4,348,936.
September 30, 2005: Cash;
Entity assets: 9;
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: 9.
September 30, 2005: Investments;
Entity assets: [Empty];
Entity assets restricted: [empty];
Non-entity assets: 1,768,024;
Total: 1,768,024.
September 30, 2005: Account receivable- Federal agencies;
Entity assets: 194;
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: 194.
September 30, 2005: Accounts receivable- Public;
Entity assets: 126,889;
Entity assets restricted: [Empty];
Non-entity assets: 95,512;
Total: 222,401.
September 30, 2005: Advances and Prepayments;
Entity assets: 657;
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: 657.
September 30, 200: property and Equipment, Net;
Entity assets: 73,309;
Entity assets restricted: [Empty];
Non-entity assets: [Empty];
Total: 73,309.
September 30, 2005: Total Assets- FY 2005;
Entity assets: $572,856;
Entity assets restricted: $3,703,675;
Non-entity assets: $2,136,999;
Total: $6,413,530.
[End of table]
Fund Balance With Treasury:
Fund Balance With Treasury includes the following assets: (1)
restricted balances that cannot be used without further authorization
by Congress; (2) unrestricted balances available to finance
expenditures; (3) uninvested fiduciary assets, consisting of
disgorgement, penalties, and interest held by the SEC pending
distribution to harmed investors or remittance to the General Fund of
the Treasury; and (4) registrant deposits, representing excess filing
fees paid by registrants.
At September 30, 2006 and 2005, Fund Balance With Treasury was $5,178.9
million (representing 55.7 percent of total assets) and $4,348.9
million (representing 67.8 percent of total assets), respectively. The
increase at fiscal year-end 2006 was due mainly to an increase in
restricted entity assets, representing transaction and registration fee
revenues, offset in part by a reduction in uninvested fiduciary assets.
Exhibit 1.9: Fund Balance With Treasury at Year-End (Dollars In
Thousands):
[See PDF for image]
[End of figure]
As presented in Exhibit 1.9, restricted funds are the bulk of the SEC's
Fund Balance With Treasury. These funds represent primarily the
cumulative amount of transaction and registration fees paid to the SEC
since 1991 in excess of what the agency has been authorized by Congress
to use to fund its annual operations.
Investments:
Exhibit 1.10: Fiduciary Investments (Dollars In Thousands):
[See PDF for image]
[End of figure]
The SEC's Investments balance totaled $3,674.5 million and $1,768.0
million at September 30, 2006 and 2005, respectively. These investments
consisted entirely of disgorgement and penalties collected from
securities law violators (and interest earned thereon), which are held
by the SEC pending future distribution to harmed investors. The SEC
invests these funds in overnight and short-term market-based Treasury
bills issued through the Treasury Department's Bureau of Public Debt.
The increase in the investment balance at fiscal year-end 2006
represents an increase in funds collected from securities law
violators, as well as the transfer to SEC custody of certain amounts
that were previously being held with third party escrow agents.
The SEC expects to distribute to investors during FY 2007 a substantial
portion of the amounts held for investment at fiscal year-end 2006.
Accounts Receivable:
Exhibit 1.11: Accounts Receivable (Dollars In Thousands):
[See PDF for Image]
[End of Figure]
At September 30, 2006 and 2005, the SEC's net accounts receivable
totaled $332.0 million and $222.6 million, respectively. These amounts
consisted of gross accounts receivable of $508.1 million and $1,491.7
million, respectively, offset by an estimated allowance for doubtful
accounts of $176.1 million and $1,269.1 million, respectively.
The largest portion of the SEC's gross accounts receivable relates to
disgorgement and penalties assessed against securities law violators in
enforcement proceedings. As noted above, the SEC records receivables
when such amounts are payable directly to the SEC, but not when they
are payable to a court, receiver, or other third party. The SEC also
records receivables in the event that amounts collected by a court or
third party are transferred to the SEC, pursuant to a Commission or
court order. At September 30, 2006, accounts receivables included
approximately $154.4 million due from a district court, which will be
combined with existing fair funds in the SEC's custody for distribution
to harmed investors.
The SEC's allowance for doubtful accounts is the agency's estimate of
how much of the gross accounts receivable are uncollectible. The
overall allowance is based on an analysis of certain large individual
accounts receivable and historical collection activity that is applied
to the balance of the accounts receivable.
Effective June 30, 2006, the SEC implemented a new method for writing
off debts that are two or more years old. The new write-off method
calls for the SEC to write off debts that are two or more years old by
removing the amount of the debts from the gross accounts receivable and
any related allowance for doubtful accounts. This write-off policy is
consistent with prior SEC policy on the calculation of the allowance
for doubtful accounts, which called for a 100 percent reserve of any
debt that was two or more years old. By implementing the new method,
the SEC removed $1,081 million of debts as well as the corresponding
allowance for doubtful accounts. The effect of this change in
accounting method is seen in the September 30, 2006 balance of gross
accounts receivable and the related allowance for disgorgements and
penalties. The write-off policy does not affect the enforceability of
the debts or agency's efforts to collect delinquent debts.
Property and Equipment:
The SEC's property and equipment consists of software and general
purpose equipment used by the agency; capital improvements made to
buildings leased by the SEC for office space; and internal use software
development costs for projects in development. The net cost of the
SEC's property and equipment for the last two years is summarized in
Exhibit 1.12.
Exhibit 1.12: Property and Equipment, Net of Accumulated Depreciation
(Dollars In Thousands):
[See PDF for Image]
[End of Figure]
The significant increase in leasehold improvements relates primarily to
the fact that the SEC occupied new office space in Washington, D.C.,
New York, and Boston during FY 2006.
Liabilities:
The SEC's liabilities consist of routine operating accounts payable,
accrued payroll and benefits, registrant deposit accounts, and
fiduciary and custodial liabilities associated with disgorgement and
penalties assessed against securities law violators.
The SEC records a custodial liability for the net amount of enforcement-
related receivables, after taking into account the estimated allowance
for doubtful accounts. Upon collection, these amounts will either be
transferred to the fiduciary accounts or transferred to the General
Fund of the Treasury.
The SEC's largest liability is the fiduciary liability associated with
amounts collected by the SEC in enforcement proceedings and held for
future distribution to harmed investors. When collected, these receipts
are held as fiduciary assets in Fund Balance With Treasury or
Investments, pending distribution to investors, and this equal and
offsetting liability is reported on the balance sheet. The increase in
fiduciary liability from $1,975.6 million at September 30, 2005 to
$3,834.7 million at September 30, 2006 reflects an increase in funds
collected from securities law violators, as well as the transfer to SEC
custody of certain amounts that were previously being held with third
party escrow agents.
Exhibit 1.13: Liabilities at September 30, 2006 and 2005: (Dollars In
Thousands)
[See PDF for Image]
[End of table]
Federal liabilities are classified as either Funded by Budgetary
Resources or Not Funded by Budgetary Resources. Nearly all of the SEC's
liabilities are covered by budgetary resources, indicating that no
further Congressional appropriation is necessary for the SEC to settle
these liabilities. Annual leave balances at the end of a fiscal year
are by definition unfunded since this leave will be paid out of current
year funds at the time the leave is used by the employee.
Revenues and Costs:
For FY 2006 and FY 2005, the SEC's net income from operations totaled
$993.7 million and $827.5 million, respectively. These net amounts
reflected exchange revenues of $1,882.6 million and $1,745.1 million,
respectively, for FY 2006 and FY 2005, offset by costs of operations of
$888.9 million and $917.7 million, respectively.
The SEC's exchange revenues are reported on the Statement of Net Cost.
Exchange revenue is defined as revenues that are generated from arm's
length transactions. The SEC earns revenues from fees paid pursuant to
the Securities Act of 1933 and the Securities Exchange Act of 1934.
Thus, the SEC's exchange revenues consist mainly of securities
transaction fees paid by securities exchanges, and securities
registration, tender offer, merger, and other fees paid by issuers.
These fees are used to fund SEC programs and operations up to the
limits established through appropriations.
Non-exchange revenues are not reported on the Statement of Net Cost.
Non-exchange revenues are defined as revenues that arise from the
government's ability to demand payment. The SEC's non-exchange revenues
consist of amounts collected in enforcement proceedings from violators
of securities laws. These revenues are reflected in the Statement of
Custodial Activity and are discussed separately below. Exhibit 1.14
shows a breakdown of the SEC's exchange revenues for FY 2006 and FY
2005.
Exhibit 1.14: Exchange Revenue (Dollars In Thousands):
The SEC's costs of operations are reflected in the Statement of Net
Cost and are allocated across the agency's six major program areas:
Compliance Inspections and Examinations; Corporation Finance;
Enforcement; Investment Management; Market Regulation; and Other
Offices. The category Other Offices includes smaller program offices
such as the Office of the General Counsel, the Office of the Chief
Accountant, the Office of International Affairs, and the Office of
Economic Analysis. Costs associated with the administration and
management of the SEC have been allocated across program areas. Exhibit
1.15 illustrates the breakdown of costs of operations for FY 2006 and
FY 2005.
Exhibit 1.15:
[See PDF for image]
[End of figure]
Budgetary Resources:
As discussed above, the SEC receives its funding from fee revenue
earned, which must be appropriated by Congress before it can be used by
the SEC. The Statement of Budgetary Resources provides information on
the budgetary resources that were made available to the SEC for the
fiscal year and the status of those resources at the end of the fiscal
year. For FY 2006 and FY 2005, the SEC had budgetary resources of
$5,775.5 million and $4,801.9 million, respectively, which included
amounts collected in current and prior years in excess of amounts the
agency was authorized to spend. For FY 2006 and FY 2005, the SEC
incurred obligations of $896.9 million and $960.8 million,
respectively.
The SEC had unobligated balances of $3,840.6 million at the beginning
of FY 2006 and $3,049.3 million at the beginning of FY 2005. These
balances reflect amounts collected in prior years by the SEC in excess
of amounts it has been authorized to spend. Current year collections
were $1,903.6 million in FY 2006 and $1,665.6 million in FY 2005, and
are reflected in Spending Authority from Offsetting Collections.
Custodial Activity:
The Statement of Custodial Activity reflects collections by the SEC of
disgorgement and penalty amounts from securities laws violators. These
collections constitute non-exchange revenue, because they arise from
the SEC's authority to demand payment from violators of the law.
Custodial collections totaled $1,804.1 million and $1,606.5 million for
FY 2006 and FY 2005, respectively.
The Statement of Custodial Activity also reflects the disposition of
custodial collections. Once collected, disgorgement and penalty amounts
are either transferred to the General Fund of the Treasury, held in the
SEC's fiduciary fund pending distribution to harmed investors (or a
determination whether such distribution is practicable), or distributed
to harmed investors. Exhibit 1.16 shows the breakdown of distribution
of custodial collection for FY 2006 and FY 2005.
Exhibit 1.16: Distribution of Custodial Collections (Dollars In
Thousands):
[See PDF for Image]
[End of Figure]
FY 2006 distributions included $122.0 million transferred to the
General Fund of the Treasury, $108.5 million distributed to harmed
investors, and $1,573.6 million held in SEC fiduciary accounts at the
Treasury pending distribution. FY 2005 distributions included $207.0
million transferred to the General Fund of the Treasury, $302.0 million
distributed to investors, and $1,097.6 million held pending future
distribution.
Limitations:
The SEC has prepared its FY 2006 financial statements in accordance
with the requirements of OMB Circular A-136, Financial Reporting
Requirements. This document incorporates the concepts and standards
contained in the Statements of Federal Financial Accounting Concepts
and the Statements of Federal Financial Accounting Standards (SFFAS)
recommended by the Federal Accounting Standards Advisory Board (FASAB)
and approved by the Secretary of the Treasury, the Director of the OMB,
and the Comptroller General.
In 1999, the American Institute of Certified Public Accountants Council
designated the FASAB as the accounting standards-setting body for
federal government entities. Therefore, the SFFAS constitute generally
accepted accounting principles for the federal government. These
concepts and standards have been set by FASAB to help Federal agencies
comply with the requirements of the Chief Financial Officers' Act of
1990, as amended by the Government Management Reform Act of 1994. Among
other things, these two acts demand financial accountability from
federal agencies and require the integration of accounting, financial
management, and cost accounting systems.
The financial data in this report and the financial statements that
follow have been prepared from the accounting records of the SEC, in
conformity with accounting principles generally accepted in the United
States for the federal government. The SEC's financial statements
consist of the Balance Sheet, the Statement of Net Cost, the Statement
of Changes in Net Position, the Statement of Budgetary Resources, the
Statement of Financing, and the Statement of Custodial Activities. The
financial statements were prepared pursuant to the requirements of 31
U.S.C. 3515 (b). The following limitations apply to the preparation of
the financial statements:
* While the statements are prepared from books and records in
accordance with the formats prescribed by OMB, the statements are in
addition to the financial reports used to monitor and control budgetary
resources, which are prepared from the same books and records.
* The statements should be read with the realization that the SEC is a
component of the U.S. Government, a sovereign entity. One implication
is that unfunded liabilities cannot be liquidated without legislation
that provides resources to do so.
In addition, certain information contained in this financial discussion
and analysis and in other parts of this Performance and Accountability
Report may be deemed forward-looking statements regarding events and
financial trends that may affect future operating results and financial
position. Such statements may be identified by words such as
"estimate," "project," "plan," "intend," "believe," "expect,"
"anticipate," or variations or negatives thereof or by similar or
comparable words or phrases. Prospective statements are subject to
risks and uncertainties that could cause actual results to differ
materially from those expressed in the statements. Such risks and
uncertainties include, but are not limited to, the following: changes
in U.S. or global economic conditions; the availability, hiring and
retention of qualified staff employees; government regulations;
disputes with labor organizations; and deployment of new technologies.
The SEC undertakes no obligation to publicly update these financial
statements to reflect events or circumstances after the date hereof, or
to reflect the occurrence of unanticipated events.
[End of section]
Financial Statements:
Balance Sheets;
Section 3: Financial Section:
U.S. Securities And Exchange Commission:
Balance Sheets:
As of September 30, 2006 and 2005(Dollars In Thousands)
[see PDF for Image]
The accompanying notes are an integral part of these financial
statements.
[End of table]
Statements of Net Cost:
U.S. Securities And Exchange Commission:
Statements of Net Cost:
For the years ended September 30, 2006 and 2005:
(Dollars In Thousands)
[See PDF for Image]
The accompanying notes are an integral part of these financial
statements.
[End of table]
Statements of Changes in Net Position:
U.S. Securities And Exchange Commission:
Statements of Changes in Net Position:
For The Years Ended September 30, 2006 And 2005:
(Dollars In Thousands)
The accompanying notes are an integral part of these financial
statements.
[End of table]
Statements of Budgetary Resources:
U.S. Securities And Exchange Commission:
Statements of Budgetary Resources:
For the years ended September 30, 2006 and 2005:
(Dollars In Thousands)
[See PDF for Image]
The accompanying notes are an integral part of these financial
statements.
[End of table]
Statements of Financing:
U.S. Securities And Exchange Commission:
Statements of Financing:
For the years ended September 30, 2006 and 2005:
(Dollars In Thousands)
The accompanying notes are an integral part of these financial
statements.
[End of table]
Statements of Custodial Activity:
U.S. Securities And Exchange Commission:
Statements of Custodial Activity:
For the years ended September 30, 2006 and 2005:
(Dollars In Thousands)
[See PDF for Image]
The accompanying notes are an integral part of these financial
statements.
[End of table]
Notes to the Financial Statements:
Note 1. Summary of Significant Accounting Policies:
A. Reporting Entity:
The United States Securities and Exchange Commission (SEC) is an
independent agency of the United States established pursuant to the
Securities Exchange Act of 1934. The SEC's mission is to protect
investors; maintain fair, orderly, and efficient securities markets;
and facilitate capital formation. The SEC works with the Congress,
other Executive Branch departments and agencies, self-regulatory
organizations (SROs) (e.g., stock exchanges and the National
Association of Securities Dealers), the Public Company Accounting
Oversight Board, state securities regulators, and many other
organizations in support of the agency's mission.
These financial statements report on the SEC's six major program areas:
Compliance Inspections and Examinations; Corporation Finance;
Enforcement; Investment Management; Market Regulation; and Other
Offices. These programs promote the public interest by, among other
activities: promoting compliance through inspections and examinations
of regulated entities; facilitating capital formation through full
disclosure; enforcing the federal securities laws; regulating
investment companies and investment advisors; overseeing the operations
of the nation's securities markets and participants; promoting
technological innovation in the securities markets; encouraging
international regulatory and enforcement cooperation; and educating and
assisting investors.
B. Fund Accounting Structure:
These financial statements present the SEC's individual funds and
accounts. The SEC is classified in the Other Independent Agencies
section of the federal budget. The SEC's financial activities are
accounted for by Treasury account fund symbol, summarized as follows:
* Special Fund Receipts (X0100) include the appropriated general funds
used to carry out the SEC's missions and functions for fiscal years
(FY) 2006 and 2005 and revenues collected by the SEC in excess of
appropriated funds (See Note 2. Fund Balance With Treasury).
* Salaries and Expenses (0100) include the appropriated general funds
used to carry out the SEC's missions and functions for FY 2001 through
2004.
* Deposit Funds (X6563, F3875 and F3880) account for disgorgement,
penalties, and interest collected and held on behalf of harmed
investors, registrant monies held temporarily until earned by the SEC,
and collections awaiting disposition or reclassification.
* Miscellaneous Receipt Accounts (1099 and 3220) hold non-entity
receipts and accounts receivable from SEC custodial activities that
cannot be deposited into funds under SEC control. These include amounts
received pursuant to enforcement cases that are to be sent to the
Treasury.
The SEC does not have lending or borrowing authority, except as
discussed in Note 20. Commitments and Contingencies. The SEC does have
custodial and fiduciary responsibilities, as described in Note 18.
Custodial Revenues and Liabilities and Note 19. Fiduciary Assets and
Liabilities.
C. Intra-and Inter Agency Relationships:
The SEC does not transact business among its own operating units, and
therefore, intra-entity eliminations are not necessary. The SEC does
have certain oversight responsibilities with respect to the Financial
Accounting Standards Board (FASB); the Securities Investor Protection
Corporation (SIPC) (See Note 20. Commitments and Contingencies); and
the Public Company Accounting Oversight Board.
These entities have been excluded from the SEC reporting unit and the
accompanying financial statements.
D. Basis of Presentation:
The accompanying financial statements present the financial position,
net cost of operations, changes in net position, budgetary resources,
financing, and custodial and fiduciary activities of the SEC's core
business activities in conformity with accounting principles generally
accepted in the United States and Office of Management and Budget (OMB)
Circular A-136, Financial Reporting Requirements. They may differ from
other financial reports submitted pursuant to OMB directives for the
purpose of monitoring and controlling the use of SEC budgetary
resources. The SEC's books and records serve as the source of the
information presented in the accompanying financial statements. Assets,
liabilities, revenues, and costs have been classified in these
financial statements according to the type of entity associated with
the transactions. Intragovernmental assets and liabilities are those
from or to other federal entities. Intragovernmental earned revenues
are collections or accruals of revenue from other federal entities, and
intragovernmental costs are payments or accruals to other federal
entities. In addition, certain information is presented differently
than the SEC's FY 2005 Performance and Accountability Report to conform
to new reporting requirements in OMB A-136.
E. Change in Accounting Method:
Effective June 30, 2006, the SEC implemented a new method for writing
off debts that are two or more years old. This method is intended to
incorporate additional requirements contained in OMB Circular A-129,
Policies for Federal Credit Programs and Non-Tax Receivables, into the
SEC's existing policy that called for reserving 100 percent of amounts
more than two years old. The new write-off method calls for the SEC to
write off debts that are two or more years old by removing the amount
of the debts from the gross accounts receivable and any related
allowance for doubtful accounts. This write-off policy is consistent
with prior SEC policy on the calculation of the allowance for doubtful
accounts, which called for a 100 percent reserve of any debt that was
two or more years old, as discussed in Note 1. M. Accounts Receivable
and Allowance for Uncollectible Accounts.
The effect of the new write-off method did not impact the net accounts
receivable balance presented in the Balance Sheet because the prior
policy on the calculation of the allowance for doubtful accounts
resulted in the same net accounts receivable balance as the new method.
By implementing the new method, the SEC removed $1,081 million of debts
as well as the corresponding allowance for doubtful accounts. The
effect of this change in accounting method is seen in the September 30,
2006 balance of gross accounts receivable and the related allowance for
disgorgements and penalties shown in Note 6. Accounts Receivable, Net.
F. Basis of Accounting:
Transactions are recorded on the accrual and budgetary bases of
accounting. Accrual accounting requires revenue to be recognized when
earned and expenses to be recognized when goods or services are
received without regard to the receipt or payment of cash. Budgetary
accounting facilitates compliance with the requirements for and
controls over the use of federal funds.
The accompanying financial statements are presented in conformity with
accounting principles generally accepted in the United States. The
accounting principles and standards applied in preparing these
financial statements are in accordance with the accounting policies and
practices summarized in this note and the following hierarchy of
accounting principles:
* Federal Accounting Standards Advisory Board (FASAB) Statements and
Interpretations, and American Institute of Certified Public Accountants
(AICPA) and FASB pronouncements, if made applicable to federal
governmental entities by a FASAB Statement or Interpretation;
* FASAB Technical Bulletins and the following pronouncements, if
specifically made applicable to federal government entities by the
AICPA and cleared by the FASAB: AICPA Industry Audit and Accounting
Guides and AICPA Statements of Position;
* AICPA Accounting Standards Executive Committee Practice Bulletins, if
specifically made applicable to federal governmental entities and
cleared by the FASAB and Technical Releases of the Accounting and
Auditing Policy Committee of the FASAB;
* Implementation guides published by the FASAB staff and practices that
are widely recognized and prevalent in the federal government; and:
* Other accounting literature published by authoritative standard-
setting bodies and other authoritative sources (a) in the absence of
other guidance in the first four parts of this hierarchy, and (b) if
the use of such accounting principles improves the meaningfulness of
the financial statements.
G. Budgets and Budgetary Accounting:
The SEC collects a variety of fees pursuant to the Securities Act of
1933 and the Securities Exchange Act of 1934, which the agency can use
to offset its appropriated funds. These include securities transaction
fees paid by the exchanges, and securities registration, tender offer,
merger, and other fees paid by issuers. The National Securities Market
Improvement Act of 1996 provided for reductions in pre-existing fee
rates, and required future annual reductions in fee rates. The Investor
and Capital Markets Fee Relief Act of 2002 requires the SEC to adjust
fee rates each year through FY 2011, and to make a final adjustment to
fix the fee rates for FY 2012 and beyond.
The SEC is subject to certain restrictions on its use of statutory
fees. All fee revenues are deposited in a special fund receipt account
at the United States Department of the Treasury. However, the SEC may
use funds from this account only as authorized by Congress, made
available by OMB apportionment, and upon issuance of a Treasury
warrant. Revenue collected in excess of appropriated amounts is
restricted for use by the SEC.
Fees other than the restricted excess fees can be used for SEC
operations subject to an annual congressional limitation of $888.7
million and $913.6 million for the budget FY 2006 and 2005,
respectively. Funds appropriated but not used in a given fiscal year
are held in the special fund receipt account for use in future periods,
as appropriated by the Congress.
Each fiscal year, the SEC receives its appropriation through Category A
apportionments, which are quarterly distributions of budgetary
resources made by OMB. The SEC also receives a small amount of Category
B funds, which are exempt from quarterly apportionment.
H. Use of Estimates:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management
to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from estimates contained in the accompanying
financial statements.
I. Revenue and Other Financing Sources:
The SEC's revenue and financing sources include exchange revenues,
which are generated from arm's length transactions, and non-exchange
revenues, which arise from the government's ability to demand payment.
The SEC's exchange revenues consist of mainly fees collected from SROs
and registrants. The SEC's non-exchange revenues consist of amounts
collected in enforcement proceedings from violators of securities laws.
The SEC's funding is through primarily the collection of securities
transaction fees from SROs, and securities registration, tender offer,
merger, and other fees from registrants. The SEC's fee rates are
established by law and are applied to volumes of activity reported by
SROs or to filings submitted by registrants. When received, these fees
are recorded as exchange revenue. The SEC is permitted by law to
include these amounts in its obligational authority or to offset its
expenditures and liabilities upon collection up to authorized limits.
All amounts remitted by registrants in excess of the fees for specific
filings are recorded as liabilities in deposit accounts until earned by
the SEC from registrant filings or returned to the registrant pursuant
to SEC policy, which calls for the return of registrant deposits when
an account is dormant for six months.
The SEC also recognizes revenue from enforcement proceedings that
result in the assessment of disgorgement, penalties, and interest
against violators of federal securities laws. This activity is
recognized as non-exchange revenue and presented on the Statement of
Custodial Activity. When the SEC collects this revenue, it is either
transferred to the Treasury or it is held by the SEC in a fiduciary
capacity on behalf of harmed investors to whom the SEC intends to
return the funds. An equal and offsetting liability for the fiduciary
assets held by the SEC is reported on the Balance Sheet. The SEC does
not record fiduciary assessments collected and held by another
government entity, such as a court registry, or a non-government
entity, such as a receiver.
In addition, the SEC's share of the cost to the federal government for
providing pension and other post-retirement benefits to eligible SEC
employees is recognized as an imputed financing source, as discussed
further in Note 11. Imputed Financing. The SEC may also receive some
gifts-in-kind that are used for primarily official travel to further
the SEC's mission and objectives.
J. Entity/Non-Entity Assets:
Assets that an agency is authorized to use in its operations are entity
assets. Assets that are held by the SEC on behalf of another federal
agency or a third party, and are not available for the agency's use,
are non-entity assets. The SEC's non-entity assets include the
following: (i) fiduciary assets, representing disgorgement, penalties,
and interest collected and held or invested by the SEC pending
distribution to harmed investors; (ii) custodial accounts receivable in
respect of disgorgement, penalties, and interest owed by securities law
violators; and (iii) registrant deposits, representing excess filing
fees remitted by registrants.
K. Fund Balance With Treasury:
Fund Balance With Treasury includes unrestricted balances that are
available to finance the SEC's expenditures and restricted balances
that cannot be used without further authorization by the United States
Congress and apportionment by OMB.
Fund Balance With Treasury also includes certain funds held on behalf
of third parties. These include registrant deposits, representing
excess filing fees remitted by registrants, and uninvested fiduciary
assets, representing disgorgement, penalties, and interest held by the
SEC pending distribution to harmed investors.
All SEC banking activity is conducted in accordance with directives
issued by the Treasury, Financial Management Service (FMS). All revenue
and receipts are deposited in commercial bank accounts maintained by
the FMS or wired directly to a Federal Reserve Bank. The Treasury
processes all disbursements made by the SEC. All moneys maintained in
commercial bank accounts are transferred to the Federal Reserve Bank on
the next business day following the day of deposit.
L. Investments:
The SEC's policy is to invest fiduciary assets in short-term Treasury
securities, whenever practicable. These assets include disgorgement,
penalties, and interest amounts that are collected from securities law
violators and held for future distribution to harmed investors. Once
these funds are collected, they are generally transferred to the SEC's
deposit fund account and invested in short-term market-based Treasury
bills through a facility provided by the Treasury, Bureau of the Public
Debt (BPD), pending their distribution to investors. Interest earned is
added to the funds available for distribution to investors.
M. Accounts Receivable and Allowance for Uncollectible Accounts:
Entity and non-entity accounts receivable consist of amounts due
primarily from the public.
Entity accounts receivable are amounts that will be retained by the SEC
upon collection. These generally include claims arising from: (i)
securities transaction fees paid by exchanges; (ii) filing fees paid by
registrants; (iii) goods or services that the SEC has provided to
another federal agency pursuant to an inter-agency agreement; (iv) host
reimbursement of SEC employee travel; and (v) other employee-related
debt. Entity accounts receivable represent a small portion of the SEC's
business activities because agency fee legislation generally requires
payment of filing fees at the time of filing, and SRO transaction fees
are payable to the SEC twice a year-in March for the period September
through December, and in September for the period January through
August. Accordingly, the year-end accounts receivable generally
represent only fees payable by the SROs to the SEC for activity during
the month of September.
Non-entity accounts receivable are amounts that will not be retained by
the SEC upon collection. These mainly include disgorgement, penalties,
and interest assessed against violators of federal securities laws.
These accounts receivable are recognized when the SEC is designated in
an order of the Commission or a court to collect the assessed
disgorgement, penalties, and interest. SEC maintains a custodial
responsibility over these non-entity accounts receivable. When
collected, these funds are either transferred to the Treasury, or they
are held for future distribution to harmed investors.
The SEC is also party to orders directing the court or a receiver to
collect the disgorgement, penalties, and interest assessed against
violators of federal securities laws. These orders are not recognized
as accounts receivable by the SEC because the debts are payable to
another party. However, these debts are subject to change based on
future orders issued by the presiding court that could result in the
SEC recognizing a receivable at a later date. The SEC's policy is to
record a receivable in those cases at the point in time when the debtor
is required, as a result of a court order or other legally binding
instrument, to remit funds to SEC.
Beginning June 30, 2006, the SEC implemented a new accounting method
governing the write-off of debts that are two or more years old, as
discussed in Note 1. E. Change in Accounting Method.
For FY 2006, the allowance for uncollectible amounts and the related
provision for estimated losses for disgorgement and penalties and FOIA
accounts receivable is based on an analysis of the collectibility of
individual account balances for the largest debts and on historical
collection data to determine on a percentage basis the value of gross
accounts receivable that are likely to be collected by the SEC. This
percentage is applied to the remaining disgorgement and penalties and
FOIA accounts receivable to reflect the balances at their estimated net
realizable value. The allowance for uncollectible amounts and the
related provision for estimated losses for Filing Fees and other
accounts receivable is based on historical collection data to determine
on a percentage basis the value of gross accounts receivable that are
likely to be collected by the SEC; and no allowance for uncollectible
amounts and the related provision for estimated losses has been
established for Due for Reimbursable Agreements and Exchange Fees, as
these gross accounts receivable are deemed to represent their net
realizable value. In addition, the SEC does not recognize interest as
accounts receivable, unless a court or administrative order specifies
the amount of pre-and post-judgment interest.
The SEC's policy on the allowance for uncollectible amounts and the
related provision for estimated losses is the same for FY 2005, except
the SEC has reserved 100 percent of the disgorgement and penalties and
FOIA accounts receivable amounts that are two or more years old rather
than removing these debts and corresponding allowance balances in
accordance with the new write-off method in effect for FY 2006.
N. Advances and Prepayments:
The SEC may advance funds to its personnel for travel costs, and these
amounts are expensed when the travel takes place. The SEC may also
prepay amounts in anticipation of receiving future benefits. These
payments are expensed when the goods have been received or services
have been performed.
O. Cash:
The SEC's cash balance consists of petty cash funds maintained to
reimburse personnel for minor expenses.
P. Property and Equipment:
The SEC's property and equipment consist of software and general
purpose equipment used by the agency; capital improvements made to
buildings leased by the SEC for office space; and internal-use software
development costs for projects in development. Property and equipment
purchases and additions are stated at cost. Property and equipment
acquisitions that do not meet the capitalization criteria, normal
repairs, and maintenance are charged to expense as received or incurred
by the SEC.
Property and equipment are depreciated over their estimated useful
lives using the straight-line method of depreciation. Contractor costs
for developing custom internal use software are capitalized when
incurred for the design, coding, and testing of the software. Software
in progress is not amortized until placed in service. The table on the
following page summarizes the major classes of depreciable property and
the SEC's capitalization policies.
Class of property and Equipment: Equipment;
Capitalization threshold for individual purchases: $15 thousand or
greater;
capitalization threshold for bulk purchases: $500 thousand or greater.
Class of property and Equipment: Furniture;
Capitalization threshold for individual purchases: $15 thousand or
greater;
capitalization threshold for bulk purchases: $50 thousand or greater.
Class of property and Equipment: Software;
Capitalization threshold for individual purchases: $300 thousand or
greater;
capitalization threshold for bulk purchases: $300 thousand or greater.
Class of property and Equipment: Software in progress;
Capitalization threshold for individual purchases: $300 thousand or
greater;
capitalization threshold for bulk purchases: Not applicable.
Class of property and Equipment: leasehold improvements;
Capitalization threshold for individual purchases: $300 thousand or
greater;
capitalization threshold for bulk purchases: Not applicable.
[End of table]
All classes of property and equipment, except software in progress, are
removed from the SEC's asset accounts in the period of disposal,
retirement, or removal from service. Any difference between the book
value of the property and equipment and amounts realized is recognized
as a gain or loss in the same period that the asset is removed.
Software in progress is expensed when the project is abandoned because
the SEC has determined that the project will no longer provide value to
the agency.
Q. Liabilities:
The SEC records liabilities for amounts that are likely to be paid as
the result of events that have occurred as of September 30, 2006 and
2005. The SEC's liabilities consist of routine operating accounts
payable, accrued payroll and benefits, registrant deposit accounts, and
fiduciary and custodial liabilities associated with monetary sanctions
imposed on violators of securities laws.
Fiduciary and custodial liabilities represent the largest portion of
the SEC's liabilities. Custodial liabilities arise in respect of
accounts receivable for disgorgement, penalties, and interest assessed
against securities law violators. The SEC records a custodial liability
for the net amount of such receivables, after taking into account the
estimated allowance for doubtful accounts. When the SEC collects this
revenue, it is either transferred to:
the Treasury or it is held by the SEC in a fiduciary capacity on behalf
of harmed investors to whom the SEC intends to return the funds.
Fiduciary liabilities arise when the SEC collects disgorgement,
penalties, and interest from securities law violators which will be
returned to harmed investors. When collected, fiduciary receipts are
held in Fund Balance with Treasury or invested in Treasury securities
pending distribution to harmed investors, and an equal and offsetting
fiduciary liability for assets held by the SEC at the Treasury is
reported as a non-entity liability on the balance sheet.
The SEC considers liabilities covered by three types of resources:
realized budgetary resources; unrealized budgetary resources that
become available without further Congressional action; and cash and
amounts held in Fund Balance With Treasury that do not require the use
of a budgetary resource. Realized budgetary resources include obligated
balances that fund existing liabilities and unobligated balances at
September 30, 2006 and 2005. Unrealized budgetary resources represent
fee collections in excess of amounts appropriated for current fiscal
year spending. These resources are used to cover liabilities when
appropriation language makes these unrealized budgetary resources
available in the fiscal year without further Congressional action.
Fund Balance With Treasury and cash include amounts for liabilities
that will never require the use of a budgetary resource. These
liabilities consist of registrant deposit accounts; accounts receivable
for disgorgement, penalties, and interest assessed against securities
laws violators, and uninvested fiduciary assets held by the SEC on
behalf of harmed investors.
R. Injury and Post-Employment Compensation:
Claims brought by SEC employees for on-the-job injuries fall under the
Federal Employees' Compensation Act (FECA) administered by the United
States Department of Labor (DOL). The DOL bills each agency annually as
its claims are paid, but payment on these bills is deferred for two
years to allow for funding through the budget process. Similarly, SEC
employees who are terminated without cause may receive unemployment
compensation benefits under the unemployment insurance program also
administered by the DOL, which bills each agency quarterly for paid
claims.
S. Annual, Sick, and Other Leave:
Annual leave and compensatory time are accrued as earned and the
accrual is reduced when leave is taken. Each fiscal quarter an
adjustment is made so that the balances in the accrued leave accounts
reflect current leave balances and pay rates. No portion of this
liability has been obligated. Funding will be obtained from future
financing sources to the extent current or prior year funding is not
available to pay for leave earned but not taken. Sick leave and other
types of non-vested leave are expensed as used.
T. Employee Retirement Systems and Benefits:
SEC employees participate in either the Civil Service Retirement System
(CSRS) or the Federal Employees Retirement System (FERS), depending on
when they were hired by the federal government. The FERS was
established by enactment of Public Law 99-335. Pursuant to this law,
the FERS and Social Security automatically cover most employees hired
after December 31, 1983. Employees who are rehired after a break in
service of more than one year and who had five years of federal
civilian service prior to 1987 are placed in the CSRS offset retirement
system or may elect to join the FERS.
The SEC's financial statements do not report CSRS or FERS assets or
accumulated plan benefits that may be applicable to its employees. The
reporting of such liabilities is the responsibility of the United
States Office of Personnel Management (OPM). While the SEC reports no
liability for future payments to employees under these programs, the
federal government is liable for future payments to employees through
the various agencies administering these programs. The SEC does not
fund post-retirement benefits such as the Federal Employees Health
Benefit Program (FEHB) and the Federal Employees Group Life Insurance
Program (FEGLI). The SEC is also not required to fully fund the CSRS
pension liabilities.
Instead, the financial statements of the SEC recognize an imputed
financing source and corresponding expense that represent the SEC's
share of the cost to the federal government of providing pension, post-
retirement health, and life insurance benefits to all eligible SEC
employees. For the fiscal year ended September 30, 2006, the SEC made
contributions based on OPM cost factors equivalent to approximately
6.78 percent and 10.91 percent of the employee's basic pay for those
employees covered by CSRS and FERS, respectively. For the fiscal year
ended September 30, 2005, the SEC made contributions based on OPM cost
factors equivalent to approximately 6.79 percent and 10.85 percent of
the employee's basic pay for those employees covered by CSRS and FERS,
respectively. All employees are eligible to contribute to a thrift
savings plan. For those employees participating in the FERS, a thrift
savings plan is automatically established, and the SEC makes a
mandatory 1 percent contribution to this plan. In addition, the SEC
makes matching contributions ranging from 1 to 4 percent for FERS-
eligible employees who contribute to their thrift savings plans. FERS
participating employees are also covered under the Federal Insurance
Contributions Act (FICA), for which the SEC contributes a matching
amount to the Social Security Administration. No matching contributions
are made to the thrift savings plans for employees participating in the
CSRS.
U. Environmental Cleanup:
The SEC does not have any liabilities for environmental cleanup.
V Custodial Activities:
The Statement of Custodial Activity presents the sources and
disposition of SEC custodial activity that consists of primarily
disgorgement, penalties, and interest assessed against violators of
securities laws. When collected, the funds are either returned to the
Treasury or the funds are held for future distribution to harmed
investors, as discussed in Note 1. M. Accounts Receivable and Allowance
for Uncollectible Accounts.
W. Fiduciary Activities:
Fiduciary activities represent the receipt, management, accounting, and
disposition by the SEC of cash or other assets in which harmed
investors have an ownership interest that the SEC must uphold. The SEC
also recognizes an equal and offsetting liability for these assets.
The SEC's fiduciary assets consist of disgorgement, penalties, and
interest assessed against securities laws violators where the
Commission, an administrative law judge, or, in some cases, a court has
determined that the SEC should return such funds to harmed investors.
The funds are held as fiduciary assets by the SEC pending distribution
to harmed investors pursuant to an approved distribution plan. The SEC
does not record fiduciary asset amounts collected and held by another
government entity, such as a court, or a non-government entity, such as
a receiver.
Note 2. Fund Balance With Treasury:
At September 30, 2006, Fund Balance With Treasury consisted of the
following:
(Dollars In Thousands);
Fund obligated but not disbursed;
Unrestricted funds: $229,971;
Restricted funds: $[Empty];
Total: $229,971.
Funds not obligated;
Unrestricted funds: 123,942;
Restricted funds: 4,752,856;
Total: 4,876,798.
Subtotal entity funds;
Unrestricted funds: 353,913;
Restricted funds: 752,856;
Total: 5,106,769.
Registrant deposits;
Unrestricted funds: 57,464;
Restricted funds: [Empty];
Total: 57,464.
Uninvested fiduciary assets;
Unrestricted funds: 5,759;
Restricted funds: [Empty];
Total: 5,759.
Securities transaction fee refund;
Unrestricted funds: 8,901;
Restricted funds: [Empty];
Total: 8,901.
Sub-total Non-entity funds;
Unrestricted funds: 72,124;
Restricted funds: [Empty];
Total: 72,124.
Total fund balance with Treasury;
Unrestricted funds: $426,037;
Restricted funds: $4,752,856;
Total: $5,178,893.
[End of table]
At September 30, 2005, Fund Balance With Treasury consisted of the
following:
(Dollars In Thousands);
Fund obligated but not disbursed;
Unrestricted funds: $235,499;
Restricted funds: $[Empty];
Total: $235,499.
Funds not obligated;
Unrestricted funds: 136,299;
Restricted funds: 3,703,675;
Total: 3,839,974.
Subtotal entity funds;
Unrestricted funds: 371,798;
Restricted funds: 3,703,675;
Total: 4,075,473.
Registrant deposits;
Unrestricted funds: 65,934;
Restricted funds: [Empty];
Total: 65,934.
Uninvested fiduciary assets;
Unrestricted funds: 207,529;
Restricted funds: [Empty];
Total: 207,529.
Sub-total Non-entity funds;
Unrestricted funds: 273,463;
Restricted funds: [Empty];
Total: 273,463.
Total fund balance with Treasury;
Unrestricted funds: $645,261;
Restricted funds: $3,703,675;
Total: $4,348,936.
[End of table]
Registrant deposit accounts are for filers who maintain a deposit
account at the SEC to facilitate the filing pro-cess. These funds are
drawn down when filers submit filings, and filers can replenish their
deposit account as desired. Account balances with no activity for six
months are returned to the registrant. Funds maintained in registrant
deposit accounts are not available for SEC use until a filing has been
submitted to the SEC, and then the funds are reclassified to entity
funds.
Note 3. Non-Entity Assets:
At September 30, 2006 and 2005, non-entity assets consisted of the
following:
(Dollars In Thousands)
Registrant deposits (Fund balance with Treasury);
FY 2006: $57,464;
FY 2005: $65,934.
Fiduciary assets(Fund balance with Treasury, Investments, and Accounts
receivable);
FY 2006: 3,834,662;
FY 2005: 1,975,553.
Custodial assets(accounts receivable);
FY 2006: 71,545;
FY 2005: 95,512.
Securities Transaction Fee Refund(Fund balance with Treasury);
FY 2006: 8,901;
FY 2005: [Empty].
Total non-entity assets;
FY 2006: $3,972,572;
FY 2005: $2,136,999.
[End of table]
Note 4. Cash:
At September 30, 2005, cash and other monetary assets represented a
petty cash balance of $9 thousand. These petty cash funds were closed
during FY 2006.
Note 5. Investments:
At September 30, 2006, investments consisted of Treasury Special
Overnight Certificates of Indebtedness and Market-Based Treasury Bills,
summarized as follows:
(Dollars In Thousands):
Cost: $3,610,550;
Amoritization method: S/L;
Interest earned: $130,385;
Other adjustments: $(66,407);
Investments, net: $3,674,528.
At September 30, 2005, investments consisted of Treasury Special
Overnight Certificates of Indebtedness and Market-Based Treasury Bills,
summarized as follows:
(Dollars In Thousands):
Cost: $1,746,228;
Amoritization method: S/L;
Interest earned: $30,483;
Other adjustments: $(8,687);
Investments, net: $1,768,024.
As discussed in Note 1. L. Investments and Note 19. Fiduciary Assets
and Liabilities, the investments represent disgorgement, penalties, and
interest collected from securities law violators on behalf of harmed
investors. Invested funds are held by the SEC pending distribution to
harmed investors. The SEC invests these funds in overnight and short-
term market-based Treasury bills through a facility provided by the
BPD. The market value for these investments is the same as the net
value stated above. Other adjustments are disbursements for estimated
income tax payments because these funds are qualified settlement funds
under Section 1.468B of the Internal Revenue Code and fees charged by
the BPD. Unamortized discount on investments at September 30, 2006 and
2005 were $28.0 million and $0.8 million, respectively.
Note 6. Accounts Receivable, Net:
At September 30, 2006, accounts receivable consisted of the following:
[See PDF for Image]
[End of table]
At September 30, 2005, accounts receivable consisted of the following:
[See PDF for Image]
[End of table]
Note 7. Property and Equipment, Net:
At September 30, 2006, property and equipment consisted of the
following:
[See PDF for Image]
[End of table]
At September 30, 2005, property and equipment consisted of the
following:
[See PDF for Image]
[End of table]
Leasehold improvements include costs incurred for new locations in
Washington, D.C., Boston, and New York. The SEC occupied the first of
its new headquarters buildings during FY 2005 and the second building
in FY 2006. Therefore, no amortization expense was recognized in FY
2005 for the leasehold improvements to the second building. During FY
2006, the SEC also occupied new office space in Boston and New York,
and began amortizing the leasehold improvements for those office
locations.
Note 8. Liabilities:
At September 30, 2006 and 2005, liabilities consisted of the following:
(DOLLARS IN THOUSANDS)
[See PDF for Table]
[End of Table]
Note 9. Actuarial FECA Liability:
The FECA provides income and medical cost protection to covered federal
civilian employees harmed on the job and for those who have contracted
a work related occupational disease, and dependents of employees whose
death is attributable to a job-related injury or occupational disease.
Claims incurred for benefits under the FECA for the SEC's employees are
administered by the DOL and, ultimately, are paid by the SEC.
The SEC's estimate is based on the DOL's model for estimating the FECA
actuarial liability for federal agencies not specified in the DOLs FECA
model. The model considers the average amount of benefit payments
incurred by the SEC for the past three fiscal years, multiplied by the
medical and compensation liability to benefits paid (LBP) ratio for the
whole FECA program, estimated at approximately 11 times the annual
payments. To capture variability, the model estimates the liability
using three sets of LBP ratios, summarized as follows:
For FY 2006, the LBP ratios were as follows:
LBP Category: Highest;
Medical: 9.70%;
Compensation: 12.80%.
LBP Category: Overall average;
Medical: 8.00%;
Compensation: 11.90%.
LBP Category: Lowest;
Medical: 7.10%;
Compensation: 11.40%.
For FY 2005, the LBP ratios were as follows:
LBP Category: Highest;
Medical: 9.10%;
Compensation: 13.40%.
LBP Category: Overall average;
Medical: 8.00%;
Compensation: 12.30%.
LBP Category: Lowest;
Medical: 7.00%;
Compensation: 11.40%.
For FY 2006 and 2005, the SEC used the Overall Average LBP ratios to
calculate the $4.8 million and $5.5 million FECA actuarial liabilities
for those years, respectively.
Note 10. Leases:
The SEC has the authority to negotiate long-term leases for office
space. At September 30, 2006, the SEC leased office space at 18
locations under operating lease agreements that expire between 2008 and
2021. The SEC paid $80,958 thousand and $66,538 thousand for rent for
FY 2006 and 2005, respectively. Under existing commitments, the mini-
mum lease payments through FY 2011 and thereafter are as follows:
Fiscal year (Dollars in Thousands): 2007;
Minimum Lease Payments: $82,292.
Fiscal year (Dollars in Thousands): 2008;
Minimum Lease Payments: $78,958.
Fiscal year (Dollars in Thousands): 2009;
Minimum Lease Payments: $76,952.
Fiscal year (Dollars in Thousands): 2010;
Minimum Lease Payments: $75,260.
Fiscal year (Dollars in Thousands): 2011;
Minimum Lease Payments: $75,266.
Fiscal year (Dollars in Thousands): 2012 and thereafter;
Minimum Lease Payments: $470,671.
Fiscal year (Dollars in Thousands): Total Future Minimum Lease
Payments;
Minimum Lease Payments: $859,399.
The total future minimum lease payments summarized above include a
liability the SEC has recognized for office space leased in Washington,
D.C. and New York. During FY 2006, the SEC moved into new office space
and vacated old office space in Washington, D.C. While the SEC is
marketing the old office space for potential tenants, the SEC is
responsible for the remaining $7,448 thousand of lease payments that
end in FY 2008.
During FY 2005, the SEC also entered into a lease agreement for new
office space in New York. With respect to its prior New York office
space, the SEC and U.S. General Services Administration (GSA) entered
into separate agreements with the lessor. The GSA has agreed to rent
the office space from the lessor for the next five years of the SEC's
lease. At that time, the GSA has the option to renew the agreement for
the remaining 15 months of the SEC's lease. As part of the SEC's
agreement with the lessor, the SEC was responsible for the estimated
$18 million difference between its annual lease liability and the
annual lease liability negotiated by the GSA with the lessor.
Fiscal Year (Dollars in Thousands): 2007;
New York: $2,603;
Required Lease Payments Washington, DC: $5,586;
Total: $8,189.
Fiscal Year (Dollars in Thousands): 2008;
New York: $2,722;
Required Lease Payments Washington, DC: $1,862;
Total: $8,189.
Fiscal Year (Dollars in Thousands): 2009;
New York: $2,722;
Required Lease Payments Washington, DC: --;
Total: $2,722.
Fiscal Year (Dollars in Thousands): 2010;
New York: $2,722;
Required Lease Payments Washington, DC: --;
Total: $2,722.
Fiscal Year (Dollars in Thousands): 2011;
New York: $2,469;
Required Lease Payments Washington, DC: --;
Total: $2,469.
Fiscal Year (Dollars in Thousands): 2012;
New York: $1,192;
Required Lease Payments Washington, DC: --;
Total: $1,192.
Total Future Estimated Lease Payments;
New York: $14,430;
Required Lease Payments Washington, DC: $7,448;
Total: $21,878.
In addition, during FY 2005, the SEC moved into temporary office space
in New York because the new office space was under renovation. This
temporary office space was being provided to the SEC for only the
lessor's operating costs, and therefore, the SEC did not pay rent
expense for its New York office for five months of the fiscal year. The
SEC has attributed rent expense on a straight-line basis over the life
of its new lease, and recorded rent expense estimated at $3.6 million
in FY 2005. In FY 2006, the SEC recorded an additional six months of
rent expense totaling approximately $4.4 million and recorded a
reduction to the liability for 6 months totaling $0.3 million. For FY
2006 and 2005, the SEC recognized an unfunded liability of $27.6
million and $21.6 mil-lion, respectively to cover the three lease
obligations (See Note 8. Liabilities).
Note 11. Imputed Financing:
The SEC recognizes an imputed financing source and corresponding
expense to represent its share of the cost to the federal government of
providing pension and post-retirement health and life insurance
benefits (Pension/Other Retirements Benefits (ORB)) to all eligible SEC
employees. For FY 2006 and 2005, the components of the imputed
financing sources and corresponding expenses were as follows:
Pension/ORB Category (Dollars in Thousands): CSRS;
FY2006: $6,956;
FY2005: $6,999.
Pension/ORB Category (Dollars in Thousands): FERS;
FY2006: $1,269;
FY2005: $1,416.
Pension/ORB Category (Dollars in Thousands): FEHB;
FY2006: $18,525;
FY2005: $17,320.
Pension/ORB Category (Dollars in Thousands): FEGLI;
FY2006: $93;
FY2005: $88.
Pension/ORB Category (Dollars in Thousands): Other;
FY2006: $7;
FY2005: $9.
Total Pension/ORB;
FY2006: $26,850;
FY2005: $25,832.
Note 12. Intragovernmental Costs and Exchange Revenue:
Program costs are accumulated by responsibility segment and consist of
costs related directly to the individual program lines and overall
support costs allocated to the program lines. All costs incurred during
FY 2006 and 2005 were assigned to specific program lines, but exchange
revenue is not directly assignable to a specific program, and is
presented in total. For FY 2006 and 2005, total intragovernmental and
public program operating costs are summarized below.
[See PDF for Image]
[End of table]
Note 13. Program Costs by Category:
For FY 2006, program costs by cost category were as follows:
[See PDF for Image]
[End of table]
For FY 2005, program costs by cost category were as follows:
[See PDF for Image]
[End of table]
Note 14. Exchange Revenues:
For FY 2006 and 2005, exchange revenues consisted of the following:
Dollars in Thousands.
Securities Transactions Fees;
FY 2006: $1,382,805;
FY 2005: $1,150.184.
Securities Registration, Tender Offer, and Merger Fees;
FY 2006: $499,236;
FY 2005: $594,685.
Other;
FY 2006: $578;
FY 2005: $242.
Total Exchange Revenues;
FY 2006: $1,882,619;
FY 2005: $1,745,111.
[End of table]
Note 15. Transfers Without Reimbursement:
For FY 2006, transfers of budgetary authority (from) to other SEC funds
consisted of the following:
(Dollars in Thousands.)
To Transfer Canceling Authority;
Indefinite Authority: $7,877;
Intraagency Transfers General Fund: $(7,877);
Net Transfers: $--.
Net Transfers;
Indefinite Authority: $7,877;
Intraagency Transfers General Fund: $(7,877);
Net Transfers: $--.
For FY 2005, transfers of budgetary authority (from) to other SEC funds
consisted of the following:
(Dollars In Thousands)
To Fund Current Year Operations;
Indefinite Authority: $57,000;
Intraagency Transfers General Fund: $(57,000);
Net Transfers: $--.
To Transfer canceling authority;
Indefinite Authority: $5,232;
Intraagency Transfers General Fund: $(5,232);
Net Transfers: $--.
Net Transfers;
Indefinite Authority: $62,232;
Intraagency Transfers General Fund: $(62,232);
Net Transfers: $--.
Intra-agency transfers represent funding from prior years unobligated
balances to fund the current year appropriation level or to transfer
canceling unobligated balances to indefinite authority.
Note 16. Status of Budgetary Resources:
A. Apportionment Categories of Obligations Incurred:
For FY 2006 and 2005, obligations incurred as reported on the Statement
of Budgetary Resources consisted of the following:
(Dollars In Thousands)
Obligations Incurred: Direct Obligations Category A;
FY 2006: $896,911;
FY 2005: $960,753.
Obligations Incurred: Total Direct Obligations;
FY 2006: $898,911;
FY 2005: $960,753.
Obligations Incurred: Reimbursable Obligations Category B;
FY 2006: $519;
FY 2005: $580.
Obligations Incurred: Total Reimbursable Obligations;
FY 2006: $519;
FY 2005: $580.
Obligations Incurred: Total Obligations Incurred;
FY 2006: $897,430;
FY 2005: $961,333.
[End of table]
The amounts of budgetary resources obligated for undelivered orders
were $140,595 thousand and $162,080 thousand as of September 30, 2006
and 2005, respectively.
B. Explanation of Differences between the Statement of Budgetary
Resources and the Budget of the United States Government:
The distinction between Category A and B funds is that Category A funds
are subject to quarterly apportionment by the OMB, while Category B
funds are available for use by the agency without being subject to
apportionment. For FY 2005, there were no mate-rial differences between
the Statement of Budgetary Resources and the Budget of the United
States Government. In addition, a comparison between the Statements of
Budgetary Resources and the actual FY 2006 data in the President's
Budget cannot be performed as the FY 2008 President's Budget is not yet
available.
Note 17. Components Requiring or Generating Resources in Future
Periods:
The relationship between the amounts reported as liabilities not
covered by budgetary resources on the Balance Sheets, as shown in Note
8. Liabilities, and the amounts reported as components requiring or
generating resources in future periods on the Statements of Financing
was analyzed. The changes in accrued leave, lease liability, and
unfunded FECA liability are reported in the Statements of Financing.
These changes represent the increases/decreases in liabilities not
covered by budgetary resources. The other liabilities on the Balance
Sheets are covered by the budgetary resources, therefore, are not part
of the Statements of Financing.
(Dollars In Thousands):
Current Year Liabilities Not Covered by Budgetary Resources;
FY 2006: $66,420;
FY 2005: $60,191.
Prior Year Liabilities That Are Not Component of Current Year Net Cost;
FY 2006: (60,191);
FY 2005: (34,967).
Increase/Decrease in Accrued Leave, Lease Liability, and Unfunded FECA
Liability, As Reported on the Statements of Financing;
FY 2006: $6,229;
FY 2005: $25,224.
[End of table]
Note 18. Custodial Revenues and Liabilities For FY 2006, custodial
revenues consisted of the following:
[See PDF for Image]
[End of table]
Note 19. Fiduciary Assets and Liabilities:
At September 30, 2006 and 2005, the assets held by the SEC in a
fiduciary capacity and its offsetting liability consisted of the
following:
(Dollars In Thousands)
Assets: fund balance with Treasury;
FY 2006: $5,759;
FY 2005: $207,529.
Assets: Investments;
FY 2006: $3,674,528;
FY 2005: $1,768,024.
Assets: Account Receivable;
FY 2006: $154,375;
FY 2005: --.
Assets: Total Assets;
FY 2006: $3,834,662;
FY 2005: $1,975,553.
Liabilities: Liability for Fiduciary Activity;
FY 2006: $3,834,662;
FY 2005: $1,975,553.
Liabilities: Total Liabilities;
FY 2006: $3,834,662;
FY 2005: $1,975,553.
[End of table]
For FY 2006 and 2005, the source and disposition of the SEC's fiduciary
activities consisted of the following:
(Dollars In Thousands)
Fiduciary Activities: Fund Balance with Treasury: Beginning Balance;
FY 2006: $207,529;
FY 2005: $863,167.
Fiduciary Activities: Fund Balance with Treasury: Disgorgement and
Penalties;
FY 2006: $1,639,914;
FY 2005: $1,112,386.
Fiduciary Activities: Fund Balance with Treasury: Transfer to
Investments;
FY 2006: (1,841,684);
FY 2005: (1,768,024).
Fiduciary Activities: Total Fund Balance with Treasury;
FY 2006: $5,759;
FY 2005: $207,529.
Fiduciary Activities: Investments: Beginning balance;
FY 2006: $1,768,024;
FY 2005: $--.
Fiduciary Activities: Investments: Net Investments--Disgorgement and
Penalties;
FY 2006: $1,906,504;
FY 2005: $1,768,024.
Fiduciary Activities: Total Investments;
FY 2006: $3,674,528;
FY 2005: $1,768,024.
Fiduciary Activities: Account Receivable: beginning balance;
FY 2006: $--;
FY 2005: $--.
Fiduciary Activities: Accounts Receivable: net Activity- Accounts
Receivable;
FY 2006: $154,375;
FY 2005: $--.
Fiduciary Activities: Total accounts receivable;
FY 2006: $154,375;
FY 2005: --.
Fiduciary Activities: Total assets;
FY 2006: $3,834,662;
FY 2005: $1,975,553.
Fiduciary Activities: Liability for Fiduciary Activity: Beginning
balance;
FY 2006: $1,975,553;
FY 2005: $863,167.
Fiduciary Activities: Liability for Fiduciary Activity: Disgorgement
and Penalties;
FY 2006: $1,859,109;
FY 2005: $1,112,386.
Fiduciary Activities: total Liabilities;
FY 2006: $3,834,662;
FY 2005: $1,975,553.
[End of table]
A. Commitments:
The Securities Investor Protection Act of 1970, as amended (SIPA)
created the SIPC to provide certain financial protections to customers
of insolvent registered securities brokers, dealers, firms, and members
of national securities exchanges for up to $500,000 per customer. The
SIPA authorizes the SIPC to create a fund to maintain all moneys
received and disbursed by the SIPC. The SIPA also gives the SIPC the
authority to borrow funds from the SEC in an amount not to exceed in
the aggregate $1 billion in the event that the SIPC fund is or may
appear insufficient for purposes of the SIPA. If necessary, these funds
would be made available to the SEC through the purchase by the Treasury
of notes or other obligating instruments issued by the SEC. Such notes
or other obligating instruments would bear interest at a rate
determined by the Secretary of the Treasury. As of September 30, 2006
and 2005, the SEC had not loaned any funds to the SIPC, and there are
no outstanding notes or other obligating instruments issued by the SEC.
In addition to the future lease commitments dis-cussed in Note 10.
Leases, the SEC is obligated for the purchase of goods and services
that have been ordered, but not yet received. For FY 2006, net
obligations for all of the SEC's activities were $229,308 thousand and
of this amount $89,507 thousand were delivered and unpaid. For FY 2005,
net obligations for all of the SEC's activities were $235,508 thousand
and of this amount $73,622 thousand were delivered and unpaid.
B. Contingencies:
The SEC is party to various routine administrative proceedings, legal
actions, and claims brought by or against it, including threatened or
pending litigation involving labor relations claims, some of which may
ultimately result in settlements or decisions against the federal
government. As of September 30, 2006, SEC management does not expect to
owe for claims. As of September 30, 2005, SEC management expected that
approximately $700 thousand was owed for Equal Access to justice
matters.
[End of Section]
Appendix I: Comments from the Securities and Exchange Commission:
Christopher Cox:
Chairman:
Headquarters:
100 F Street, NE:
Washington, DC 20549:
United States Securities And Exchange Commission:
Regional Offices: New York, Chicago, Los Angeles, Denver, Miami:
District Offices: Boston, Philadelphia, Atlanta, Fort Worth, Salt Lake
City, San Francisco:
November 8, 2006:
The Honorable David M. Walker:
Comptroller General of the United States:
Government Accountability Office:
441 G Street, N.W.
Washington, D.C. 20548:
Dear Mr. Walker:
Thank you for the opportunity to respond to the Government
Accountability Office's draft report entitled Financial Audit:
Securities and Exchange Commission's Financial Statements for Fiscal
Years 2006 and 2005. 1 would like to acknowledge and commend you and
the GAO staff for your efforts and dedication in working with the SEC
again this year to meet the reporting deadline for our audited
financial statements.
I am pleased that the audit found that the statements and notes are
presented fairly, in all material respects, and in conformity with U.S.
generally accepted accounting principles; that the SEC had effective
internal controls over financial reporting and compliance with laws and
regulations, although certain controls should be improved; and that
there were no instances of reportable noncompliance with laws and
regulations tested by GAO.
The SEC made substantial progress in strengthening its internal
controls over financial reporting during fiscal 2006. I am pleased that
we were successful in resolving each of the three material weaknesses
identified in last year's financial audit. As your draft report
indicates, further improvements are needed in controls over
disgorgement and penalties, information security, and property and
equipment. Under the guidance of our Financial Management Oversight
Committee, the SEC staff has designed and planned actions to address
each of these areas, and we intend to fully remediate all three
reportable conditions before the end of fiscal 2007.
We will continue our efforts to evaluate and improve the SEC's controls
over the recording and reporting of disgorgement and penalties assessed
in enforcement proceedings. During fiscal 2006, the agency took a
number of important steps to ensure the integrity of enforcement-
related financial data: the Division of Enforcement completed a
comprehensive Delinquent Debt Project, which involved verifying the
recorded data with respect to all outstanding enforcement debts; we
introduced new controls over the recording of enforcement receivables;
and we completed the design of a new financial management system for
tracking disgorgement and penalties that will replace the financial
portion of Enforcement's existing case tracking database. In fiscal
2007, we will further strengthen the financial management of all
aspects of the enforcement program. The Office of Information
Technology expects to roll out the new financial management system by
the second quarter, and we are already working on the next steps toward
building out a fully- integrated case tracking and financial management
system. The SEC will also continue to seek greater efficiencies and to
strengthen controls in the management and distribution to investors of
fair funds and other distribution funds.
With respect to information security, we will build on the
accomplishments of this past year to further enhance the agency's
security environment. During fiscal 2006, the SEC implemented a wide
variety of new policies and procedures governing the assessment and
management of information security risk. These include comprehensive
approaches for identifying security risk; configuring, testing, and
monitoring information systems; incident response; and remedial action
tracking. The SEC also completed the certification and accreditation of
its major systems, and conducted awareness training for 99 percent of
SEC staff. In addition, we established and tested its disaster recovery
and business continuity plans in accordance with recommendations from
previous years. In fiscal 2007, the SEC will refine and extend the
procedures and management controls to reduce the residual risk. The
most important of these will be improvements in the processes for
controlling changes to the technical environment, strengthening the
management of user accounts and passwords, and measures to tighten the
physical perimeter around sensitive areas of the SEC's premises. In
addition, the agency will remediate a number of specific technical
issues in areas such as patch management, data security, and intrusion
detection systems.
Finally, the SEC will make improvements in our processes for reporting
on property and equipment. We will update our property management
policies to reflect revised business processes, strengthen controls
over the recognition of property, and incorporate additional quality
checks throughout the year. In addition, we will initiate the process
of replacing the SEC's current outdated asset management system to
enhance data integrity and maximize the integration of the agency's
financial systems.
As Chairman, I am committed to enhancing the SEC's controls in all
operational areas, to ensure reliability of financial reporting,
soundness of operations, and public confidence in the agency's mission.
It is my firm belief that the SEC must lead by example when it comes to
compliance with the internal control requirements of the federal and
private sectors. I appreciate your support of those efforts, and look
forward to continuing our productive dialogue on the issues addressed
in the fiscal 2006 audit.
If you have any questions relating to our response, please contact
Margaret Carpenter, Chief Financial Officer, at (202) 551-7854.
Sincerely,
Signed by:
Christopher Cox:
Chairman:
cc: Jeanette M. Franzel:
Director, Financial Management and Assurance:
Government Accountability Office:
[End of Section]
(194571):
FOOTNOTES
[1] Material weaknesses in internal control are reportable conditions
in which the design or operation of the internal control does not
reduce to a relatively low level the risk that errors, fraud, or
noncompliance in amounts that would be material in relation to the
financial statements being audited may occur and not be detected within
a timely period by employees in the normal course of performing their
assigned functions.
[2] A disgorgement is the repayment of illegally gained profits (or
avoided losses) for distribution to harmed investors whenever feasible.
[3] A penalty is a monetary payment from a violator of securities law
that SEC obtains pursuant to statutory authority. A penalty is
fundamentally a punitive measure, although penalties occasionally can
be used to compensate harmed investors.
[4] GAO, Financial Audit: Securities and Exchange Commission's
Financial Statements for Fiscal Years 2005 and 2004, GAO-06-239
(Washington, D.C.: Nov. 15, 2005); Internal Control: Improvements
Needed in SEC's Accounting and Financial Reporting Procedures, GAO-06-
459R (Washington, D.C.: Apr. 21, 2006); and Information Security:
Securities and Exchange Commission Needs to Continue to Improve Its
Program, GAO-06-408 (Washington, D.C.: Mar. 31, 2006).
[5] Fiduciary activities represent the moneys collected from federal
securities law violators and maintained by SEC to be distributed to
harmed investors. Custodial activities represent the moneys collected
by SEC from violators of federal securities laws that are returned to
the Treasury, as nonfederal individuals or entities do not have an
ownership interest in these revenues.
[6] GAO/AIMD-00-21.3.1 (Washington, D.C.: November 1999).
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