The GIPS Standards for Verifiers
Anyone who works with, complies with, or is thinking about complying with GIPS can benefit from reading the “chapter” GIPS Standards for Verifiers 2020. Verification is often an integral part of compliance, and the proposed changes to verification impact both verifiers and those they verify.
The GIPS Standards for Verifiers is the third chapter of the 2020 GIPS standards. This chapter replaces the existing guidance statements on verifications and performance examinations. It does not include the verifier independence guidance statement, which will be released at a future date.
In this section, we focus on important changes to the Standards for verifiers as well as how these changes may affect the verification process. If you’re interested in learning more about verification and composite examination - including a brief history of verification, how we currently conduct a verification, and why verification is important - please contact The Spaulding Group to obtain a copy of The Ultimate Guide to the 2020 GIPS Standards - Part II, which we published in March, 2019.
OVERVIEW OF CHANGES
Required verification procedures - significantly expanded and more detailed
The first big change is the fact that the procedures document that verifiers are required to follow is approximately five times longer. Don’t worry - this doesn’t necessarily mean the verification process will take five times longer to complete, but it’s important to note that existing testing procedures have been updated to reflect best practices, so the revised document is very detailed on those existing procedures. Plus, there are several new testing procedures.
Verification report language
The second change relates to the language in the verification report.
A statement indicating that the verifier is independent from the firm is now required. Verifiers must now create their own policies for maintaining independence, and verification clients must “gain an understanding” of that policy. How are clients supposed to do this? It is likely that verifiers will include their policy on verifier independence in the engagement letter. Additionally, for each engagement, verifiers must communicate their “assessment” of independence to their clients. Consequently, verifiers must conduct this assessment: reflecting on independence vis-à-vis the particular client, as well as documenting the assessment, so the client can see it.
Another addition to the verification report is a statement that verification provides no assurance on the operating effectiveness of the firm’s controls for complying with the Standards.
Scope of verification
The third change relates to the scope of verification. While the scope of verification hasn’t changed, the Standards now explicitly state that verifiers do not test every requirement contained in the Standards. That’s an important reminder that verification doesn’t mean that verifiers have confirmed complete compliance with the Standards.
Terms of engagement
The fourth big change is that the Standards now specify that verifiers must include in their engagement letters a statement about the inherent limitations of verification as well as some other provisions relating to the objective and scope of the engagement and the firm’s and verifier’s responsibilities.
CHANGES IN THE VERIFICATION PROCESS FOR FIRMS
Existing testing procedures are more detailed
As mentioned, the level of detail around each existing testing procedure has increased significantly. Under current practice, the procedures for the most part leave it up to verifiers to figure out how to determine that requirements were being met. The revised procedures specify several steps that verifiers must take to confirm certain calculations. For example, currently the procedures simply state that verifiers must determine that total firm assets were appropriately calculated, and leave it to the verifier to figure out how to do it. Now they specify several steps that verifiers will have to take to confirm the calculation.
How these changes affect the verification process will vary depending upon the verifier. At The Spaulding Group, we have already been doing most of the procedures that are now spelled out, so we don’t expect our verification process to change all that much.
The increased detail around testing procedures is in response to feedback that the GIPS standard setters have received over the years that some verifiers are not performing sufficient testing procedures and that the quality of the verification work across verification firms is uneven. If your verifier has been performing the minimum level of testing, more work may be required of you as your verifier complies with the new testing procedure roadmap.
New testing procedures
There are several new required testing procedures for verifiers.
Verifiers must now select a sample of marketing materials and test included GIPS reports and GIPS advertisements. Verifiers will also need to test for improper references to the GIPS standards.
Verifiers must also check a firm’s list of errors and assess whether material errors have been properly handled in accordance with the firm’s policies and procedures. Interestingly, when there is a material error, the firm must now provide the corrected GIPS report to any former verifiers that received the erroneous report.
Verifiers will also need to test that returns calculated using model fees are equal to or lower than those that would have been calculated using actual fees.
Verifiers must test a firm’s distribution of GIPS reports - specifically, that the firm has made every reasonable effort to provide the appropriate GIPS report to prospects. The requirement to test a firm’s distribution of GIPS reports isn’t in the 2010 Handbook, but is currently required under interpretive guidance that was subsequently issued. One of the goals of 2020 GIPS is to consolidate the Standards that have expanded through interpretive guidance issued since 2010, and this is one example of that approach. Having the requirements lurking in different places creates a risk that not everyone was aware of and complying with them.
Verifiers are now required to check that performance is based on actual assets, so your verifier is likely to ask for custodial records or fund accounting, or client subscription and redemption notifications.
Other new required testing areas include recordkeeping, outliers, testing benchmark returns (to determine that they are consistent with what has been published by the index provider), and that the firm has notified the CFA Institute of its claim of compliance.
Most of these new requirements have been a part of the verification practice at The Spaulding Group for several years. So, these new procedures probably won’t change our approach significantly, but that may not be the case for other verifiers.