Profiling the Chief Compliance Officer Print E-mail
Written by C. Meyrick Payne, Senior Partner, Management Practice Inc., a business and economic consulting firm   
The requirement that the chief compliance officer be accountable to the mutual fund board may well be the most important evolution in the recent panoply of governance changes to come in the shadow of the late trading and market timing scandal. In a single stoke, mutual fund directors now have a dedicated staff member and the resources to dig deep into complex financial arrangements which have historically been difficult to understand. On the other hand directors now have to take responsibility for a senior executive and will have to reach decisions on issues which are forced to their attention.

This change, in combination with an independent Board Chair, 75% independent Board members and express authority to retain consultants, will substantively change the directors' frame of mind. Gone are the days of go-along to get-along collegiality; the days of investor advocacy have arrived. Mutual fund directors have evolved from monitors, who oversee compliance with laws and regulations, to activists, who strongly pursue investor rights. For many years, mutual fund directors "renewed" the investment advisory contract on terms which were generally prescribed in the prospectus. The emphasis has now clearly shifted to one of "negotiating" the advisory contract. The Chief Compliance Officer is likely to be major player in this evolution.

The change in reporting relationship for the CCO raises many issues, for example:

  1. Age: the new CCO will likely be in their 50s; quite possibly having taken early retirement in another fund family, accounting or law firm or even in the adviser itself.
  2. Experience: the CCO will need to have extensive knowledge of compliance issues either as a securities lawyer or accountant. It is not unlikely that the executive will have had experience at the SEC, NASD or another regulatory or industry association.
  3. Managerial skills: He or she will have line responsibility for numerous compliance departments, scattered throughout the investment manager and its various service providers. In a large complex this could be as many as 100 people. In addition the CCO will have to supervise the compliance personal of numerous service providers, such as transfer agent, custodian, fund accountant, pricing service, distributor, and financial intermediate.
  4. Interpersonal skills: The CCO will have to provide leadership and induce confidence among a diverse group of ambitious executives. Many of whom could see the CCO as a threat to their career path within the organization structure of the management company and its affiliates.
  5. Enquiring mind: The CCO principal personal task will be to discretely, but thoroughly, pursue the most likely areas of abuse. He or she will also have to decide how to differentiate the proverbial mountain from a mole hill.
  6. Career stage: the CCO will likely have reached the pinnacle of their career. It is hard to imagine that he or she will advance further up the corporate ladder after serving in this watchdog capacity and being removed from the line reporting structure.
  7. Income: the CCO is definitely a very senior position and will command a salary in the $150,000 to $600,000 range. He or she is unlikely to participate in the investment manager's bonus pool and their salary will in part be determined by the fund board. This will be a new experience for the Board as well since fund boards have typically had little experience in attracting, motivating and retaining executives. The Board is also the final determinant in firing the CCO and as a result could be thrown into the midst of a very difficult personnel evaluation with far reaching implication for the fund group.

On the subject of liability for breakdowns in compliance, the CCO will certainly be a target for SEC and States' Attorney General enforcement actions. As a result, the CCO will want to negotiate that he or she is fully indemnified by the fund's assets and covered by insurance. It seems certain that the typical Directors' and Officers' Insurance will have to be supplemented for CCO coverage. The CCO will also want to negotiate a multi year contract with the funds. If terminated by the Board, it is hard to imagine that he or she will get another job, so income protection is reasonable.

Early discussions with fund directors indicate that the CCO is likely to fill many staff functions for the Board, which often govern many funds, sometimes over 100. As a result there is a real need for professional, independent analysis and follow through. The most important topics for this include contract renewal, peer group selection, trustee compensation, best execution, portfolio stress analysis, market-timing, late trading and soft dollar creation/redemption. These just add to an already full plate for the CCO. Conplicating the task is the fact that he or she now has multiple bosses.

The candidate for the CCO position will seem to have much the same profile has that of a candidate for the Board. Former accounting firm partners are in demand to fill the Audit Committee Expert role, especially in the smaller complexes. As a result the real difference is whether the individual involved wants to work full-time for a sizable income or part-time for a lower, but still nice-to-have, income stream.

One complex has recently come up with an intelligent solution; to create a new position known as President of the Funds as a full time employee of the Board. This person reports solely to the Board and fills all their governance needs. In addition he will take immediate supervisory responsibility for the CCO. The person involved is the former partner in charge of the investment practice at a major accounting firm. In this way the Board has gained an invaluable full time resource without disrupting the career path of the existing CCO. Furthermore the cost of this new position can be allocated to the Funds as a necessary governance expense, which makes the entire Board more effective.

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