Securities

SEC Sanctions Another Entity for Not Following Its Own Procedures

 A continuing focus of SEC enforcement is compliance by entities with their disclosed procedures. The Commission’s latest action in this regard resulted in the payment of nearly $6 million by a Credit Rating Agency that not only failed to comply with its disclosed procedures but lacked the required personnel. In the Matter of DBRS, Inc., Adm. Proc. File No. 3-16922 (October 26, 2015).

DBRS has been a registered NRSRO since 2007. The firm publishes methodologies for its surveillance of outstanding U.S. RMBS ratings. In 2008 the firm published its Surveillance Methodology. It was modified the next year. Under the disclosed methodology the firm stated that analysts would conduct surveillance regarding each outstanding RMBS and re-securitized real estate mortgage investment conduits or Re-REMIC using a three step process. In addition, monthly a surveillance committee would review the ratings and assumptions would be updated to reflect market trends and disclosed on the firm’s website prior to their implementation.

The firm did not follow its disclosed process:

  • • For a two year period beginning in early 2009, only one analyst was employed who was primarily responsible for most of the surveillance of the two groups of securities; the analyst flagged underperforming pools but then waited for the surveillance committee to meet which could be months later;
  • • The analyst did not perform the analysis of individually rated RMBS tranches;
  • • The firm did not monitor on a monthly basis Re-REMICs which were more complex because it lacked the necessary personnel; and
  • • Beginning in early 2009, and for the next two years, the analyst did not complete the entire three step process.

By February 2011 the firm’s executive committee was aware that the disclosed procedures were not being followed.

In July 2009 the firm updated most of its loss severity assumptions for the mortgage pool types and vintages that constituted the collateral for RMBS and Re-REMICs. Although the firm had represented that updates would be disclosed they were not.

The Order alleges violations of Exchange Act Sections 15E(b)(1)(failing to update NRSRO application), 15E(b)(2)((failing to list material changes in annual NRSRO certification), 15E(c)(3)(A)(internal controls), 15E(d)(1)(E)(failure to maintain adequate resources) and 17(a)(books and records).

To resolve the proceeding the firm agreed to implement a series of undertakings including the retention of an independent consultant who was assigned specific duties. DBRS also consented to the entry of a cease and desist order based on the Sections cited in the Order and to a censure. In addition, the firm will pay disgorgement of $2,742,000, prejudgment interest and a penalty of $2,925, 000. Collectively the disgorgement, prejudgment interest and penalty total nearly $6 million.

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