Current Fund Operations Issues for Directors

Transcription

1 Current Fund Operations Issues for Directors IDC Webinar February 15, :00 pm ET

2 ICI Operations - Presenters Moderator: Donald J. Boteler - Vice President, Operations Panelists: Martin A. Burns - Director, Institutional Operations & Service Diane Butler - Director, Transfer Agency & International Operations Kathleen C. Joaquin - Director, Operations & Distribution Gregory Smith - Director, Fund Accounting 1

3 Current Mutual Fund Operations Issues Selected Developments in Pricing and Disclosure Biennial Transfer Agent Trends & Billing Practices Study Trends Relating to Omnibus Arrangements Implementing New Cost Basis Reporting Requirements 2

4 Selected Developments in Pricing and Disclosure PCAOB SEC FASB 3

5 Selected Developments in Pricing and Disclosure: PCAOB Inspection Findings Audit firm failed to understand methods and assumptions used by independent third-party sources to develop estimates of value Audit firm failed to evaluate significant differences between issuer s estimate of value and estimate provided by independent third-party source Audit firm failed to perform sufficient tests to determine whether issuer s fair value disclosures in conformity with FAS 157 (fair value hierarchy) 4

6 Selected Developments in Pricing and Disclosure: PCAOB Pricing Sources Task Force Purpose to gather relevant information and points of view regarding current practices, existing challenges, and stakeholder expectations with a view toward possible improvements to audit standards Composition Issuers Investor Representatives Auditors Providers of Pricing Information Observers Focus level 2 fixed-income securities 5

7 Selected Developments in Pricing and Disclosure: PCAOB Pricing Sources Task Force discussions have focused on: Processes and controls in place at pricing sources Processes and controls in place at issuers Interaction between pricing sources and issuers Nature and extent of information pricing sources provide to issuers and auditors Discussion of possible changes to audit standards 6

8 Selected Developments in Pricing and Disclosure: PCAOB PCAOB asked pricing vendors on the Task Force to price specified securities in different asset classes Valuation techniques, proprietary nature of models, inputs used Why valuations were similar or different 7

9 Selected Developments in Pricing and Disclosure: PCAOB PCAOB is considering additional guidance or a new standard which would build on the existing audit standard, d Auditing Fair Value Measurements and Disclosures (AU 328) More emphasis on risk assessment in designing and planning audit procedures Level of substantive testing may increase Pi Pricing i sources under increasing i pressure to provide transparency into their models and inputs Issuers may face additional scrutiny from auditors with regard to fair value measurements, controls, and related disclosures 8

10 Selected Developments in Pricing and Disclosure: SEC Recent SEC Staff remarks have supported the PCAOB s initiative by reminding issuers of their obligations under GAAP and the securities laws Management should ensure it has a sufficient understanding of the valuation models, assumptions, and inputs used to estimate the fair value of securities, including those used by pricing sources Obtaining such information from pricing sources may be critical to fulfilling the issuer s disclosure obligations 9

11 Selected Developments in Pricing and Disclosure: SEC Does management have sufficient information about the values provided by pricing services to know that it is complying with GAAP? Has management adequately considered the judgments that have been made by third parties in order to be comfortable with its responsibility for the reasonableness of such judgments? Does management have a sufficient understanding of the sources of information o and the processes used to develop e it to identify risks to reliable financial reporting? Has management identified, documented, and tested controls to adequately address the risks to reliable financial reporting? 10

12 Selected Developments in Pricing and Disclosure: FASB ASU , Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS (Topic 820) Effective for interim and annual periods beginning after December 15, 2011 New financial statement note disclosures for Level 3 fair value measurements 11

13 Selected Developments in Pricing and Disclosure: FASB New Level 3 Disclosures Quantitative information about the significant unobservable inputs used Tabular disclosure by class of financial instrument, indicating for each class: Fair value Valuation technique used General ldescription of fthe types of finputs used Quantitative range for each type of input 12

14 Fair Value at 12/31/X9 Valuation Technique Unobservable Input Range (Weighted Average) Residential MBS 125 Discounted Cash Flow Commercial MBS 50 Discounted Cash Flow CDO 35 Consensus pricing Offered quotes Comparability adjustments Constant 3.5%-5.5% (4.5%) prepayment rate Probability of 5%-50% (10%) default Loss severity 40%-100% (60%) Constant 3.0%-5.0% (4.1%) prepayment rate Probability of 2%-25% (5%) default Loss severity 10%-50% (20%) %-+15% (+5%) Direct VC: energy 32 Discounted cash Weighted avg cost 8%-12% (11.1%) flow of capital LT revenue growth rate LT pre-tax operating margin Discount not marketable Control premium 3%-5.5% (4.2%) 7.5%-13% (9.2%) 5%-20% (10%) 10%-20% (12%) Market comparables EBIDTA multiple Revenue multiple Discount not marketable (9.5) (2.0) 5%-20% (10%) Control premium 10%-20% (12%) 13

15 FASB New Level 3 Disclosures Narrative description of the sensitivity of Level 3 fair value measurements to changes in unobservable inputs, if a change in those inputs to a different amount might result in significantly higher or lower fair value measurement The significant unobservable inputs in the fair value measurement of residential mortgage-backed securities are prepayment rates, probability of default, and loss severity in the event of default. Significant increases (decreases) in any of those inputs in isolation would result in a significantly lower (higher) fair value measurement. Generally, a change in the assumption used for the probability of default is accompanied by a directionally similar change in the assumption used for the loss severity and a directionally opposite change in the assumption used for prepayment rates. 14

16 FASB New Level 3 Disclosures A description of the valuation processes for Level 3 fair value measurements Description of the group responsible for valuation policies and procedures, to whom that group reports, the internal reporting procedures in place (e.g., how pricing, risk management, or audit committees discuss and assess the measurements) The frequency and methods for calibration, back testing, and other testing procedures of pricing models The process for analyzing changes in fair value measurements from period to period The methods used to develop and substantiate the unobservable inputs used in a fair value measurement 15

17 Biennial Transfer Agent Trends & Billing Practices Study PricewaterhouseCoopers (PwC) assists ICI with questionnaire, sample selection, review and analysis of data and creating the reports Study provides participating ICI members with data on: Fees billed to a fund for shareholder servicing and recordkeeping functions Trends in the structure of TA servicing arrangements and billing methodologies Shareholder servicing arrangements where recordkeeping is done away from the primary TA by a subaccounting partner 16

18 Biennial Transfer Agent Trends & Billing Practices Study Results are aggregated to provide averages across funds that participate Used as a reference when discussing transfer agency contracts and arrangements Represents an indicator of billing practices and trends but not an absolute measure because business models differ from one complex to another At its option, a fund complex can arrange with PwC to compare its transfer agency fees billed to aggregate data for a group of similar complexes 17

19 Biennial Transfer Agent Trends & Billing Practices Study For 2011, 76 fund complexes are participating, with the survey sample including 525 individual funds chosen from 65 of the 76 participants Target date for release of the 2011 study results is June 2012 Directors can confirm their fund complex s participation in the study by contacting Marty Burns at mburns@ici.org 18

20 Trends Relating to Omnibus Arrangements Current Environment Movement to broker level omnibus account registrations accelerating Retirement plan omnibus accounts continue to increase in size and numbers DTCC operating infrastructure evolving for omnibus account environment Impact Accounts become less transparent to funds New tools needed for funds to monitor omnibus accounts and intermediaries Collaboration w/ intermediaries i to meet regulatory compliance obligations 19

21 Trends Relating to Omnibus Arrangements Addressing Transparency & Operational Efficiencies for Omnibus Accounts Brokerage omnibus account information through DTCC s Omni/SERV functionality Transparency - underlying transaction & position data Reconciliation files to assist reconciling omnibus account balances Invoicing - Phase I - 12b-1, CDSC, short-term redemption and miscellaneous fees Phase II subaccounting and recordkeeping fees 20

22 Trends Relating to Omnibus Arrangements Retirement Industry Information Sharing (RIIS) Project Grappling with compliance, risk assessment, attribution and compensation questions Created ICI working group of funds, record keepers and dbroker-dealers to develop a standardized, di d costeffective data exchange through DTCC Funds benefit from: Satisfy monitoring needs Insight into use of funds at a plan level 21

23 Trends Relating to Omnibus Arrangements Transparency files Used for sales reporting, 22c-2 surveillance, trade monitoring i and attribution ti Back office site visits and/or assessments Omnibus attestation engagement Third party attestation framework to assess intermediary controls Developed by ICI task force of member and audit firm representatives Conducted under professional audit standards 22

24 Implementing New Cost Basis Reporting Requirements New Information Reporting Rules Cost Basis Reporting for RIC shares (open-end funds, closed-end funds, and certain ETFs) acquired on or after January 1, 2012 ( covered shares ) Transfer Statement Reporting for ALL RIC shares (covered and noncovered) beginning on January 1, 2012 Corporate Action Reporting for ALL RIC shares beginning on January 1,

25 Implementing New Cost Basis Reporting Requirements Information Reporting Penalties Increased penalties for failures to file or for providing incorrect or incomplete information on Forms 1099-B, transfer statements, and issuer statements, among others Filings with IRS: Maximum $100 per form up to $1.5M per reporting entity Payee and Transfer Statements: Maximum $100 per form up to $1.5M per reporting entity New total maximum per reporting entity = $3M Reduced penalties for small business (gross receipts < $5M) Total maximum penalty reduced to $1M 24

26 Implementing New Cost Basis Reporting Requirements Update on IRS/Treasury Relief and Open Issues Interim Relief Permits shareholder h to change from broker default of average cost by earlier of (i) one year (or longer, at broker s discretion), or (ii) first redemption or other disposition ICI July Comment Letter Eliminate in-writing requirement for average cost elections, revocations, and changes; proposed broker confirmation of customer request instead Clarification requested on permissible fund default methods, issues regarding gifted and inherited shares, and RIC liquidating distributions 25

27 Implementing New Cost Basis Reporting Requirements Summary of Considerations Cost Basis Transfers Must occur on covered securities and account types subject to 1099-B reporting Occur within 15 calendar days after settlement of the transfer Subject to corrected reporting for 18 months Specific data points that must be reported for transfer statement to be considered official Required even when only non-covered shares are involved Penalties for non-compliance with reporting requirement or when ignoring the timing requirement 26

28 Implementing New Cost Basis Reporting Requirements DTCC Solutions Cost Basis Reporting Service Data transfer facility for all financial intermediaries subject to IRS regulations Does not support cost basis calculation Cross-functional industry group defines requirements so system is useful to a diverse range of firms for multiple security types including mutual funds Provides industry with a common hub and a secure, automated t standard for passing cost basis information 27

29 Implementing New Cost Basis Reporting Requirements ICI Task Force Paper: Shareholder Communications for Cost Basis Reporting April 2011 Focus on customer communications to educate and inform shareholders h about cost basis reporting rules, fund cost basis reporting policies and customer options for cost basis reporting 28

30 Implementing New Cost Basis Reporting Requirements CBR Concepts to Communicate to Shareholders The impact of CBR regulations on shareholders Fund policies for cost basis reporting Fund default method for cost basis reporting Shareholder elections for cost basis reporting Selecting a cost basis method Changing cost basis methods Selecting lots when requesting a redemption Complex aspects of cost basis reporting Gifted and inherited shares 1099-B Reporting 29

31 Implementing New Cost Basis Reporting Requirements Fund TA Preparations to Support Shareholder CBR Communications Review servicing structure dedicated CBR team or all service staff Employee training on cost basis s reporting Phone scripts and other employee resources Updated forms for shareholders New account application Preparing for challenges Providing shareholder service without providing tax advice Average cost in writing requirement 30

32 Implementing New Cost Basis Reporting Requirements ICI Website Resource Page: reporting Final CBR regulations IRS forms Link to DTCC Cost Basis Reporting Service (CBRS) information Materials from past webinars and workshops ICI Contacts 31

33 Current Fund Operations Issues for Directors Questions??? 32