FINRA Fines Firm for Research-Report Disclosure Failures
Commentary by Mark Highman
A firm settled FINRA charges for research-report disclosure failures and improper activities by research analysts.
According to the AWC, the firm relied on a defective data feed that failed to flag many foreign issuers, causing required disclosures to be omitted from tens of thousands of research reports. FINRA determined that because the system excluded many foreign issuers, the firm repeatedly issued equity and debt research without noting when it, or an affiliate, expected to receive, or planned to seek, investment-banking compensation.
FINRA also found that the firm used a revenue-based data feed that did not capture clients for whom it had agreed to provide services but had not recently generated revenue. The firm had self-reported that this lapse resulted in roughly 8,000 equity and 800 debt research reports that failed to disclose prior-year client relationships or the services provided. FINRA explained that the firm directed readers of its debt research to a lookup website that returned results only for issuers with equity research coverage, which led to "172 compendium debt reports [with] incomplete ... disclosures."
FINRA said the firm self-identified six transactions in third-party managed accounts in which a research analyst traded a stock in a manner that conflicted with the analyst’s published rating. Further, approximately 1,170 equity and 335 debt research reports were published without disclosing that the analyst owned securities in the subject company. The firm self-reported that it lacked a reasonably designed process to monitor analyst holdings in subject companies held in third-party managed accounts. FINRA added that the firm lacked effective supervisory systems to ensure accurate research disclosures and to oversee analyst trading.
FINRA concluded that the firm violated FINRA Rules 2010 ("Standards of Commercial Honor and Principles of Trade"), 2241 ("Research Analysts and Research Reports"), 2242 ("Debt Research Analysts and Debt Research Reports"), and 3110 ("Supervision").
To settle the charges, the firm consented to (i) a censure, (ii) a $2.5 million fine, and (iii) an undertaking requiring senior management to certify that the firm remediated the issues identified in the AWC and implemented a supervisory system reasonably designed to ensure compliance with FINRA’s research-disclosure rules.
Commentary
This action highlights the importance of (i) accurate programming of data feeds used to generate research disclosures, and (ii) ongoing supervision of those data feeds to ensure the accuracy of those disclosures. Failure to catch errors early may result in repeat violations and significant fines.
Separately, FINRA sanctioned the firm for transactions by a research analyst in "third-party managed accounts" which were inconsistent with the analyst’s stock rating. FINRA Rule 2241 excludes from the definition of a "research analyst account" a "blind trust" account that is controlled by a third party "where neither the research analyst nor a member of the research analyst's household knows of the account's investments or investment transactions." The prohibition on a research analyst entering into securities transactions that are inconsistent with the research analyst's published recommendations applies to transactions conducted in third-party managed accounts unless the research analyst has no knowledge of, and thus no ability to influence, transactions for the account.