DoD Financial Improvement and Audit Readiness

You can’t build a castle without a solid foundation. Similarly, you can’t expect the Department of Defense (DoD) to achieve audit readiness without first implementing effective policy management, or the Department of Veterans Affairs (VA) to implement an electronic health record system without first improving internal policies and practices.

In the 2012 U.S. Department of Defense (DoD) Financial Report, agency leadership recognized 35 material weaknesses and stated, “many of our systems are old and handle or exchange information in ways that do not readily support strong financial management.”

In her recently published update on the defense financial improvement and audit readiness, Beth McGrath, the DoD’s deputy chief management officer, stated, “People are our most critical asset. So, it’s not just the responsibility of the comptroller, for example, to achieve audit readiness. It’s everybody has to play.”

Only about half (54%) of DoD employees responding to the Office of Personnel Management (OPM) Federal Employee Viewpoint Survey indicated that they were part of a results-oriented performance culture.

The federal government has used taxpayer dollars to deploy a number of resources to oversee federal programs that could be leveraged to foster a high-performance culture, including:

– Office of Personnel Management (OPM) Federal Employee Viewpoint Survey

– Office of Special Counsel (OSC) E-Filing System



– Federal Code of Conduct

Within most federal agencies, human capital is woefully underutilized. In the aggregate, mismanagement leaves billions of dollars on the table in expenses that could have been saved – underscoring the need to link existing federal resources to ensure that federal programs have the actionable intelligence they need to spend taxpayer dollars effectively, treat employees fairly, and hold middle-managers accountable for meeting performance targets.

Write your representatives in Washington today asking them to join with other members of the U.S. Congress to champion a legislative proposal to strengthen the foundation of the federal government by linking existing federal resources to ensure that federal programs have the actionable intelligence they need to spend taxpayer dollars effectively, treat employees fairly, and hold leaders accountable for meeting performance targets.


SEC Budget Crisis Prompts Plea for Public Record System

zEthics plans to create a public record system that will improve transparency and accountability into the SEC in response to criticism regarding the agency’s ability to act in the interests of shareholders and for the protection of investors.

The recent debate surrounding the U.S. Securities and Exchange Commission (SEC) budget crisis has raised doubts regarding the agency’s abilty to act in the interests of shareholders and for the protection of investors.

The debate begins with criticism from House Subcommittee Chairman Jo Ann Emerson, “There’s some skepticism among my colleagues that the SEC can actually do its job.”

Although the efforts of organizations such as, Consumer Federation Of America, and the Council of Institutional Investors to encourage individuals to write their representatives in Washington to support an increase in budget for the SEC is admirable, questions still remain about the integrity and efficacy of the agency.

The SEC missed the Bernie Madoff’s decades-long Ponzi scheme and Allen Stanford’s alleged $8 billion scam.

A recent report by SEC’s inspector general shows that the investigation of Bernard L. Madoff was not the only one to go badly awry. “The inspector general, H. David Kotz, raised significant concerns about how the SEC conducted itself in its investigation of Allied Capital. The report made available by The Washington Post gives a fairly damning picture of the SEC staff ignoring serious allegations of corporate misconduct while different offices failed to communicate about the subject matter of the investigation,” (Peter J. Henning, New York Times, March 24, 2010)

Some critics contend that the SEC is too cozy with Wall Street.

“The SEC repeatedly has promised to get serious about enforcement and protecting the interests of investors, but the agency’s support of dismantling one of the few investor protection reforms in recent years shows that its interests are ultimately more aligned with Wall Street than individual investors,” (Jacob Zamansky, iStockAnalyst, March 23, 2010).

The Wall Street Journal reported in March 2010 that the SEC is supporting Wall Street’s efforts to dismantle the provisions of a 2003 global settlement designed to ensure the integrity of Wall Street’s research; i.e, provisions that prevent research analysts from talking to their firm’s investment bankers without a compliance officer being present.

Then there’s the question of whether the SEC should publicize details of its probes of banks, which came into sharp focus after a federal judge challenged the agency’s handling of its lawsuit accusing Bank of America of lying to investors. The SEC had accused the bank of concealing plans to pay billions of dollars in bonuses to employees of Merrill Lynch, the Wall Street firm it was buying. In its settlement with Bank of America, the agency issued a cursory overview of the allegations and set a $33 million fine. The bank denied wrongdoing, saying it agreed to the settlement to avoid a costly tussle with one of its key regulators.

The judge in the case, Jed S. Rakoff of the Southern District of New York, initially rejected the settlement. “This case suggests a rather cynical relationship between the parties: the SEC gets to claim that it is exposing wrongdoing on the part of the Bank of America in a high-profile merger; the Bank’s management gets to claim that they have been coerced into an onerous settlement by overzealous regulators,” he wrote at the time. “And all this is done at the expense, not only of the shareholders, but also of the truth.”

Then there’s the incident with the SEC whistleblower Gary Aguirre who was vindicated in June 2010 for his pursuit of John Mack.

While he worked at the SEC, Aguirre had pursued a testimony from John Mack, whom he suspected had leaked information to Pequot Capital.  Aguirre suspected that Pequot had illegally profited from trading on information from Mack, who used to work at Pequot.  Aguirre was fired, he suspected, for blowing the whistle on Mack, who would soon become CEO of Morgan Stanley.  His suspicions were dismissed until years later; they re-surfaced in a separate accusation of insider trading at Pequot having to do with Microsoft.

Then there’s the FINRA fiasco under Mary Schapiro.

Suspicions remain as to whether FINRA may have potential massive conflicts of interests in its dealing with its internal investment portfolio. A clear example is FINRA’s behavior with its Auction Rate Securities. Evidence suggests FINRA sold its Auction Rate Securities months before the market collapsed.  Was it insider information or really good luck?

Going into 2007, FINRA had $647 million dollars of ARSs.  It was holding ARSs as the credit markets started to freeze in mid 2007.  FINRA says it did nothing nefarious when it sold its ARSs. But that fails the smell test.  It sold its ARS holdings before the markets collapsed. Meanwhile, investors got stuck with approximately $150 billion of ARSs.

One would have to be exceptionally naïve to think FINRA officials did not have material, nonpublic information on the ARS market before it decided to sell its holdings. Having information about the securities and acting on it without that information being available to the public would potentially qualify as front-running and insider trading.

In 2008, FINRA paid Mary Schapiro, who’s now the head of the SEC, almost $9 million ($8,985,334.02 to be exact), on par with Wall Street executives.  For comparison, $9 million is what Lloyd Blankfein made in 2009.

Then there’s the recent report from the Government Accountability Office (GAO) regarding internal control failures at the SEC.

At the end of 2010, the GAO issued its report on the government’s financial statement. Among many other things, the report revealed that the very agency responsible for monitoring financial statements and reports from the country’s public companies has made a mess of its own books.

As The New York Times reported in early February 2011, the GAO has faulted the SEC’s financial statements for seven years running – particularly the agency’s failure to track income from fines, fees and “the return of ill-gotten profit.” The continuing problems with basic accounting, according to the auditor, mean that a material misstatement of the agency’s financial position is not only possible, but also that it would go undetected for a significant period.

On the other side of the debate is a strong plea for increasing the SEC’s budget.

At a House Appropriations Subcommittee on Financial Services and General Government hearing on February 10, 2011, the Securities and Exchange Commission (SEC) Inspector General (IG) told members that if the SEC’s budget is pared back to 2008 funding levels, some 600 SEC staff would need to be cut from its ranks.
SEC IG David Kotz said that while the SEC has had problems in the recent past, including missing the Bernard Madoff and Allen Stanford ponzi schemes, he does not believe that there are “600 people in the SEC that are not providing value.”

When asked “Do you have the staff and budget to protect investors?” SEC Chair Mary Schapiro responded, “ We clearly don’t in order to do the job I want to be done. We are 3,800 people total, and we regulate 35,000 public entities: 12,000 public companies for their disclosure, 11,300 investment advisers, 8,000 mutual funds, 5,000 broker-dealers, 600 transfer agents, exchanges, clearinghouses.”

Tracy Stewart, executive director,, said: “The House-proposed budget cuts for 2011 and what is under discussion for 2012 are an invitation to disaster in terms of financial market integrity and efforts to restore investor confidence. Given the need for the SEC and Commodities Future Trading Commission (CFTC) to oversee the most sweeping financial reforms since the Great Depression, it is absolutely essential to all Americans that the Senate and the Administration insist that the agencies that protect our financial well-being and the health of the economy be adequately funded to perform their crucial work. We urge all concerned investors to speak out and let Congress know that these cuts will cost Americans much more than they appear to save. They must not gut these agencies in the midst of critical reforms.”

Barbara Roper, director of investor protection, Consumer Federation of America, said: “With the release of their 2011 continuing resolution, House Republicans have removed any remaining ambiguity about their intent to defund regulators whose role is to rein in Wall Street excess. The cuts proposed for the SEC and CFTC are immaterial in the context of the overall federal budget, but they would be harmful to the SEC and nothing short of crippling for the CFTC. If adopted, they would put the retirement savings of American workers, the integrity of U.S. capital markets, and the stability of the U.S. economy at risk. American markets have flourished precisely because investors trust that they will receive fair treatment there, and American businesses have reaped the rewards with the lowest cost of capital in the world. With the economy still fragile, this is no time to further undercut badly shaken investor confidence by defunding the regulatory agencies they rely on to ensure that their interests are protected.”

Jeff Mahoney, general counsel, Council of Institutional Investors, said: “While regulatory failures were a contributing cause of the financial crisis, the solution is not to cut the funding of the SEC and the CFTC. Rather, the solution should include providing the SEC and CFTC with the resources necessary to improve their effectiveness and better fulfill their important missions—missions, which have now been significantly and appropriately expanded by Dodd-Frank. The bottom line is that under-funding the SEC and CFTC will likely guarantee weak enforcement of our securities laws and lax oversight of our financial markets, a result that should concern investors and all Americans.”

What will it take to restore our confidence in the SEC?

In the interests of shareholders and for the protection of investors, zEthics plans to create a public record system by conducting an external risk assessment on a consistent and regular basis that will improve transparency and accountability of the SEC.

The intent is to ensure that the SEC receive adequate funding by monitoring their performance; identifying and reporting on material weaknesses in internal controls, compliance and reporting; and, holding leadership accountable for strategic accomplishments.

After a second financial crisis in a decade, and a lost decade for investors, the public and investors alike need greater transparency and accountability of the agency tasked with enforcement of our securities laws.

Introducing EERM – Enterprise & External Risk Management

At the Ad Hoc Risk Management Committee meeting of the California Public Employee’s Retirement System (CalPERS) on February 15, 2011, the Interim Chief Risk Officer indicated to the Board of Administration that the problem with Enterprise Risk Management (ERM) solutions is that they provide an internal view of risk only.  A holistic view of risk must include an external view of risk.

As we’ve seen on Wall Street in recent years, employees can put corporations at risk when they make decisions that maximize their incentive based compensation.  And these risks can ripple through the supply chain and partner organizations.  These “black swans” come with little warning, and no time to prepare an appropriate response.

The other problem with ERM, as pointed out by the consultant from Deloitte & Touche LLP that is supporting CalPERS’ newly created Office of Enterprise Risk Management (OERM), is that risk assessments are subjective.

To solve these problems, zEthics has introduced a cloud computing application for External Risk Assessment that integrates with existing ERM solutions to provide Corporations, Investment Companies as well as Federal and State agencies a holistic view of risk, creating the first and only solution for Enterprise and External Risk Management (EERM).

CalPERS plans to transform its culture into a risk intelligent organization, and the Board of Administration firmly believes that it is on track to become the industry leading enterprise risk management organization.  They recognize that risk will be complex to manage, that ERM is theory based, and that the C-Suite and Board must have a 360-degree view of risk to be successful.

It was even suggested by one of the Board members that CalPERS implement a Risk Helpline to compliment their recently implemented Ethics Helpline.

zEthics is one step ahead, offering an integrated Ethics/Risk Helpline at

The Open Compliance & Ethics Group (OCEG) recently held a webinar to provide risk managers guidance on what to do when their ERM and Governance, Risk & Compliance (GRC) solutions break down.  In yet another webinar, OCEG provides guidance on aligning risk and performance with GRC intelligence.

Again, zEthics is one step ahead of OCEG, providing a cloud computing application that integrates internal with external risk assessments, and provides the diagnostic tools to align risk and performance to create a risk intelligent organization.

Sustaining an Ethical Corporate Culture,

For the second time in a decade we’ve witnessed some spectacular corporate failures.

Most corporations and investment companies are successful at operating robust internal compliance programs to maintain high ethical standards and compliance with applicable laws and regulations.  However, due to recent corporate culture failures at a number of corporations and investment companies, the U.S. Congress has passed the Dodd-Frank Wall Street Reform and Consumer Protection Act.

In the interest of shareholders and for the protection of investors, the U.S. Securities and Exchange Commission has recently proposed rules to implement the Whistleblower Bounty provisions of the Dodd-Frank Act.

In response, the National Association of Corporate Directors (NACD) has submitted a comment letter to the SEC requesting substantial revisions to the proposed rule, stating that such rules could jeopardize robust internal compliance programs.

In the meantime, attorneys are running advertisements at Manhattan movie theatres to entice Wall Street employees to file whistleblower complaints to report securities violations in hope of sharing the rewards for blowing the whistle on their employers.

In the center of this perfect storm are corporations and investment companies trying to navigate through one of worst recessions since the great depression.

So what’s the secret formula for sustaining an ethical corporate culture during tough economic times and new regulations?

The simplest answer is to actively engage employees in the process of sustaining an ethical corporate culture.  To engage employees in the process, you need a culture based on honesty, loyalty, mutual trust and respect.

The mere existence of a Code of Conduct or Ethics Code is no longer sufficient to demonstrate to organizational stakeholders that an ethical corporate culture exists or is effective.  Sustained ethical corporate culture can be achieved with a continual and systemized process to monitor, evaluate, and internally adjudicate those who engage in risk behavior that does not conform to the defined risk appetite and risk tolerance of the organization. 

Boards and Directors must identify, quantify, and mitigate cultural risk and play an active role in accepting or rejecting individual or group behaviors.  With respect to stakeholder relations, Boards and Directors must also consider how to substantiate their commitment to an ethical corporate culture by disclosing the method of measure and findings, and how results compare with other companies within their industry.

Many corporations and investment companies may have to turn to independent 3rd parties to provide the mechanisms to engage employees in the process, as a number of employees are hesitant to utilize the company’s Ethics Helpline.

It’s unfortunate that the masses have to pay for the transgressions of a few, yet there are options available to corporations and investment companies that did not exist just a few years ago.  Online diagnostic tools and new knowledge sources are now available to aid management in engaging employees to sustain an ethical corporate culture.

Wikileaks and Whistleblowers Cause Nightmares for General Counsel

On December 6, 2010, three pharmaceutical manufacturers agreed to pay more than $421 million to settle allegations from the U.S. Department Justice that the companies inflated prices for numerous products.  The Justice Department now has recovered more than $1.8 billion from pharmaceutical companies arising from similar unlawful drug-pricing schemes.

In the settlements, Abbott Laboratories Inc. agreed to pay $126.5 million, B. Braun Medical Inc. will pay just over $14.7 million and Roxane Laboratories Inc. agreed to pay $280 million.

The companies allegedly led the government to believe their drugs sold at higher prices than what they actually sold for.  Doctors and druggists were able to obtain the drugs at one price, be reimbursed by the government at an inflated price and pocket the difference.  This scheme then guaranteed massive profits to physicians and pharmacies that prescribed and administered products to their patients.

All three companies denied wrongdoing and said they only settled to end what each described as costly litigation with the federal government.

“The company at all times complied with laws, regulations and customary industry practices,” (Roxane Labs).

“We continue to believe that we have complied with all laws and regulations and have entered into this agreement to eliminate the uncertainty associated with continued litigation,” (Abbott Labs).

The company “complies with government laws and regulations and operates under a robust compliance program to ensure continual compliance,” (B. Braun).  As such, B. Braun “was not required to enter into a corporate integrity agreement as part of the settlement.”

Their common theme – we complied with all laws, regulations and industry practices.

That bothers me. I want to work for a company that has a reputation for being open and honest with its shareholders, employees and stakeholders.

A fundamental role of the General Counsel of any company is to stay on top of all of laws, rules and regulations to make sure their company is in compliance.

For the second time in a decade we find ourselves in the middle of another financial crisis, with investors losing trust in the financial markets and the public losing trust in Corporate America.  Millions of Americans lost their jobs and remain unemployed.

What happened in the latest financial crisis?  The short answer is that there was corruption, collusion and concealment at the very top levels of management, which made it very hard for outside directors to detect.  As a practical matter, even diligent oversight can be evaded if management deliberately sets out to do so. In other words, the integrity of the CEO and senior management is everything.

How do large corporations with far-flung operations and lots of employees ensure compliance with the letter, as well as the spirit, of the law?

One possible solution is to step back to see the forest through the trees.  The General Counsel can hire an independent third party to determine whether corporate internal compliance programs are working as intended.

Whistleblower websites could play an important role in preventing another economic crisis.

Whistleblowing of corporate fraud is a major concern of general counsel and boards of directors.  When reports of malfeasance lead to investigations by the Securities and Exchange Commission (SEC), Department of Justice (DOJ), Commodities Futures Trading Commission (CFTC), or state attorney general, the results can include high legal fees, monetary sanctions, and reputational damage.

zEthics addresses a number of shortcomings in the market place to help corporations stay in compliance with applicable laws, rules and regulations – monitoring the effectiveness of internal compliance programs to prevent fraud and corruption.  Culture benchmarks allow the General Counsel and internal compliance functions to readily identify key areas of vulnerability and seize opportunities for employees to be more engaged and productive.

Could Wikileaks Threaten Corporate Compliance Programs?

 As authorities conduct an extensive criminal probe of Wall Street, is there a better way for investors and the public to find out about fraud and corruption inside a company?

1. From a compliance perspective, is there too much emphasis placed on systems and processes and not enough emphasis placed on the people risks within an organization?

2. Do you think that moral and ethical values of employees are relevant factors to assure the integrity of compliance programs?

3. Would it be beneficial to accurately measure and monitor the moral and ethical values of employees (i.e., measure the soft controls that define the corporate culture)?

4. Do you think there is value in using a common set of metrics to compare the moral and ethical values of employees to mitigate the risk of misconduct, fraud and corruption – minimizing the risk of information surfacing on Wikeleaks?

The U.S. Securities and Exchange Commission (SEC) has long had a whistleblower program for insider trading. The results? According to a Senate report accompanying the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, less than $160,000 has been paid out to five whistleblowers.

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 provides financial incentives for employees to tell regulators about securities fraud and other wrongdoing.  However, the law may increase costs for corporations and undermine internal fraud detection efforts launched under the Sarbanes-Oxley Act of 2002. 

zEthics is an alternative to Wikileaks.  Under proposed rules by the U.S. Securities and Exchange Commission, zEthics strikes a unique balance between employees, corporations, investors and regulators – providing employees protections against retaliation and discrimination by employers; allowing employees to retain their status as providers of original information; while permitting the employer to investigate and self-report to regulators as necessary.

Transparency Initiative – Global Capital Markets

“Virtually everyone on the Street believes there are significant improprieties,” says former New York Gov. Eliot Spitzer.

Do recent events such as the insider-trading probe suggest that it is becoming increasingly more difficult for institutional investors to hire only those investment managers and partners that possess the highest moral and ethical standards?

Is there an over reliance on compliance with applicable laws and regulations to ensure institutional investors hire only those investment managers and partners that possess the highest moral and ethical standards?

Would it make sense to organize a global transparency initiative to provide institutional investors access to a suite of diagnostic tools and new sources of reliable, high-quality information to conduct thorough due diligence of investment managers and partners?

In the interest of shareholders and for the protection of investors, would it make sense for the U.S. Securities and Exchange Commission (SEC), Financial Industry Regulatory Authority (FINRA), and the Public Company Accounting Oversight Board (PCAOB) to work together on a global transparency initiative to improve due diligence in the capital markets?

Americans have pulled $60 billion out of U.S. stock funds this year, according to the Investment Company Institute.  Restoring investors’ confidence may depend on whether they see ample evidence that federal regulators are successfully cracking down on bad behavior.  Would greater transparency into the moral and ethical values of all participants in the capital markets bring small investors back to equities?