a

GAO

United States Government Accountability Office

Report to the Chairman, United States 

Securities and Exchange Commission

November 2006 FINANCIAL AUDIT

Securities and 

Exchange 

Commission’s 

Financial Statements 

for Fiscal Years 2006 

and 2005 

GAO-07-134
What GAO Found

United States Government Accountability Office

Why GAO Did This Study

Highlights

Accountability Integrity Reliability

November 2006

FINANCIAL AUDIT

Securities and Exchange Commission’s 

Financial Statements for Fiscal Years 

2006 and 2005 

Highlights of GAO-07-134, a report to 

Chairman of the Securities and Exchange 

Commission 

Established in 1934 to enforce the

securities laws and protect

investors, the Securities and 

Exchange Commission (SEC) plays 

an important role in maintaining

the integrity of the U.S. securities 

markets. 

Pursuant to the Accountability of 

Tax Dollars Act of 2002, the SEC is 

required to prepare and submit to

Congress and the Office of 

Management and Budget audited 

financial statements. GAO agreed, 

under its audit authority, to

perform the audit of SEC’s 

financial statements. GAO’s audit 

was done to determine whether, in 

all material respects, (1) SEC’s 

fiscal year 2006 financial

statements were reliable and (2) 

SEC’s management maintained

effective internal control over 

financial reporting and compliance 

with laws and regulations. GAO 

also tested SEC’s compliance with 

certain laws and regulations. 

In GAO’s opinion, SEC’s fiscal year 2006 and 2005 financial statements were

fairly presented in all material respects. A notable achievement during fiscal 

year 2006 was the significant efforts SEC made in addressing the material 

weaknesses reported in GAO’s previous years’ financial statement audits of 

SEC. As a result, GAO concluded that, although certain controls should be 

improved, SEC had effective internal control over financial reporting and 

compliance with laws and regulations. GAO did not find reportable instances 

of noncompliance with the laws and regulations it tested. 

In its 2005 report, GAO identified material weaknesses in the areas of SEC’s

(1) reporting of disgorgements and penalties, (2) information systems 

controls, and (3) financial reporting process. Based on SEC’s efforts to 

address concerns with controls over disgorgements and penalties and with 

information systems, and based on improvements GAO found in these areas 

during its fiscal year 2006 audit, GAO has concluded that these two 

previously reported weaknesses are no longer material. Because many of 

these efforts represent compensating controls rather than permanent 

systemic solutions, deficiencies in the design and operation of internal 

control in these areas remain and could adversely affect SEC’s recording and 

reporting of disgorgements and penalties and its information security. 

Therefore GAO considered these areas to still be reportable conditions. In 

addition to reportable conditions over reporting of disgorgements and 

penalties and information systems controls, during this year’s audit, GAO 

identified a new reportable condition concerning SEC’s controls over 

recording property and equipment. 

It is important that SEC sustain its commitment to strengthening internal 

controls to reduce the risks of inaccurate or incomplete reported 

disgorgements and penalties amounts. SEC also needs to implement key 

elements of its agencywide information security program to remediate 

existing weaknesses and have sufficient assurance that financial information 

and financial assets are adequately safeguarded from inadvertent or 

deliberate misuse, fraudulent use, improper disclosure, or destruction. 

Finally, SEC needs to improve controls over the recording of property and 

equipment transactions in order to have sufficient assurance over the

accuracy and completeness of these reported balances. 

In commenting on a draft of this report, SEC’s Chairman emphasized his 

commitment to further enhancing internal controls to ensure reliability of 

financial reporting, soundness of operations, and public confidence in the 

agency’s mission. 

www.gao.gov/cgi-bin/getrpt?GAO-07-134.

To view the full product, including the scope 

and methodology, click on the link above. 

For more information, contact Jeanette 

Franzel, 202-512-9471, franzelj@gao.gov. 
Page i GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Contents

Letter 1

Auditor’s Report 3

Opinion on Financial Statements 3

Opinion on Internal Control 3

Compliance with Laws and Regulations 5

Consistency of Other Information 5

Objectives, Scope, and Methodology 5

SEC Comments and Our Evaluation 12

Management’s 

Discussion and 

Analysis

13

Financial Statements 50

Balance Sheets 50

Statements of Net Cost 51

Statements of Changes in Net Position 52

Statements of Budgetary Resources 53

Statements of Financing 54

Statements of Custodial Activity 55

Notes to the Financial Statements 56

Appendix

Appendix I: Comments from the Securities and Exchange Commission 79

Abbreviations

FMFIA Federal Managers’ Financial Integrity Act 

OMB Office of Management and Budget 

SEC United States Securities and Exchange Commission

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Page 1 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

United States Government Accountability Office

Washington, D.C. 20548

Comptroller General A of the United States

November 15, 2006 Letr

The Honorable Christopher Cox

Chairman

U.S. Securities and Exchange Commission

Dear Mr. Cox:

This report presents our opinion on whether the financial statements of the 

Securities and Exchange Commission (SEC) for the fiscal years ended 

September 30, 2006, and 2005 are presented fairly, in all material respects, 

in conformity with U.S. generally accepted accounting principles. This 

report also presents (1) our opinion on the effectiveness of SEC’s internal 

control over financial reporting and compliance as of September 30, 2006, 

and (2) the results of our evaluation of SEC’s compliance with selected 

laws and regulations during 2006.

The Accountability of Tax Dollars Act of 2002 requires that SEC prepare 

and submit to Congress and the Office of Management and Budget (OMB) 

audited financial statements. We decided, under our audit authority, to 

audit SEC’s financial statements. We conducted this audit in accordance 

with U.S. generally accepted government auditing standards and OMB 

guidance. 

We are sending copies of this report to the Chairman and Ranking Minority 

Members of the Senate Committee on Banking, Housing, and Urban Affairs; 

the Senate Committee on Homeland Security and Governmental Affairs; 

the House Committee on Financial Services; and the House Committee on 

Government Reform. We are also sending copies to the Secretary of the 

Treasury, the Director of the Office of Management and Budget, and other 

interested parties. In addition, this report will be available at no charge on 

our Web site at http://www.gao.gov.

This report was prepared under the direction of Jeanette M. Franzel, 

Director, Financial Management and Assurance, who can be reached at 
Page 2 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

(202) 512-9471 or franzelj@gao.gov. If I can be of further assistance, please 

call me at (202) 512-5500.

Sincerely yours,

David M. Walker

Comptroller General

of the United States
Page 3 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

United States Government Accountability Office

Washington, D.C. 20548

Comptroller General A of the United States

To the Chairman of the United States Securities and Exchange CommissionAudtoRsir’eport

In our audits of the United States Securities and Exchange Commission 

(SEC) for fiscal years 2006 and 2005, we found

• the financial statements as of and for the fiscal years ended September 

30, 2006, and 2005, including the accompanying notes, are presented 

fairly, in all material respects, in conformity with U.S. generally 

accepted accounting principles;

• although certain internal controls should be improved, SEC had 

effective internal control over financial reporting (including 

safeguarding assets) and compliance with laws and regulations as of 

September 30, 2006; and

• no reportable noncompliance with laws and regulations we tested.

The following sections discuss in more detail these conclusions as well as 

our conclusions on Management’s Discussion and Analysis and other 

supplementary information. They also present information on the 

objectives, scope, and methodology of our audit and our discussion of SEC 

management’s comments on a draft of this report. 

Opinion on Financial 

Statements

SEC’s balance sheets as of September 30, 2006, and 2005, and its related 

statements of net cost, changes in net position, budgetary resources, 

financing, and custodial activity, with accompanying notes for the fiscal 

years then ended, are presented fairly, in all material respects, in 

conformity with U.S. generally accepted accounting principles.

Opinion on Internal 

Control

Although certain internal controls should be improved, SEC management 

maintained, in all material respects, effective internal control over financial 

reporting (including safeguarding assets) and compliance as of September 

30, 2006, that provided reasonable assurance that misstatements, losses, or 

noncompliance material in relation to the financial statements would be 

prevented or detected on a timely basis. Our opinion is based on criteria 

established under 31 U.S.C. § 3512 (c), (d) commonly known as the Federal 

Managers’ Financial Integrity Act (FMFIA) and OMB Circular A-123, 

revised June 21, 1995, Management Accountability and Control.
Page 4 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

We identified three reportable conditions which, although not material 

weaknesses,1

 represent significant deficiencies in the design or operation 

of internal control that could adversely affect SEC’s ability to meet its 

internal control objectives. These conditions, described in more detail 

later in this report, concern deficiencies in (1) SEC’s reporting of 

disgorgements2

 and penalties,3 (2) information system controls, and 

(3) property and equipment controls. 

In our 2005 report,4 we identified material weaknesses in the areas of SEC’s 

(1) reporting of disgorgements and penalties, (2) information systems 

controls, and (3) financial reporting process. Based on SEC’s efforts to 

address concerns with controls over disgorgements and penalties and with 

information systems, and based on improvements we found in these areas 

during our fiscal year 2006 audit, we have concluded that these two 

previously reported weaknesses are no longer material. Because many of 

these efforts represent compensating controls rather than permanent 

systemic solutions, deficiencies in the design and operation of internal 

control in these areas remain and could adversely affect SEC’s recording 

and reporting of disgorgements and penalties and its information security. 

Therefore we considered these areas to still be reportable conditions. 

During our fiscal year 2006 audit, we have also concluded that SEC has 

taken sufficient action in the area of controls over the financial reporting 

process such that we no longer consider this issue to be a material 

weakness or reportable condition. 

1

 Material weaknesses in internal control are reportable conditions in which the design or 

operation of the internal control does not reduce to a relatively low level the risk that errors, 

fraud, or noncompliance in amounts that would be material in relation to the financial 

statements being audited may occur and not be detected within a timely period by 

employees in the normal course of performing their assigned functions.

2

 A disgorgement is the repayment of illegally gained profits (or avoided losses) for 

distribution to harmed investors whenever feasible.

3

 A penalty is a monetary payment from a violator of securities law that SEC obtains 

pursuant to statutory authority. A penalty is fundamentally a punitive measure, although 

penalties occasionally can be used to compensate harmed investors.

4

 GAO, Financial Audit: Securities and Exchange Commission’s Financial Statements 

for Fiscal Years 2005 and 2004, GAO-06-239 (Washington, D.C.: Nov. 15, 2005); Internal 

Control: Improvements Needed in SEC’s Accounting and Financial Reporting Procedures, 

GAO-06-459R (Washington, D.C.: Apr. 21, 2006); and Information Security: Securities and 

Exchange Commission Needs to Continue to Improve Its Program, GAO-06-408

(Washington, D.C.: Mar. 31, 2006).
Page 5 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Although the reportable conditions did not materially affect the 2006 

financial statements, misstatements may nevertheless occur in unaudited 

financial information reported by SEC, including performance information, 

as a result of the internal control weaknesses. 

Compliance with Laws 

and Regulations

Our tests for compliance with selected provisions of laws and regulations 

disclosed no instances of noncompliance that would be reportable under 

U.S. generally accepted government auditing standards or OMB audit 

guidance. However, the objective of our audit was not to provide an 

opinion on overall compliance with laws and regulations. Accordingly, we 

do not express such an opinion.

Consistency of Other 

Information

SEC’s Management’s Discussion and Analysis and other accompanying 

information contain a wide range of data, some of which are not directly 

related to the financial statements. We did not audit and do not express an 

opinion on this information. However, we compared this information for 

consistency with the financial statements and discussed the methods of 

measurement and presentation with SEC officials. Based on this limited 

work, we found no material inconsistencies with the financial statements 

or nonconformance with OMB guidance. However, because of the internal 

control weaknesses noted above, misstatements may occur in related 

performance measures.

Objectives, Scope, and 

Methodology

SEC management is responsible for (1) preparing the financial statements 

in conformity with U.S. generally accepted accounting principles; 

(2) establishing, maintaining, and assessing internal control to provide 

reasonable assurance that the broad control objectives of FMFIA are met; 

and (3) complying with applicable laws and regulations.

We are responsible for obtaining reasonable assurance about whether 

(1) the financial statements are presented fairly, in all material respects, in 

conformity with U.S. generally accepted accounting principles; and 

(2) management maintained effective internal control that provides 

reasonable, but not absolute, assurance the following objectives are met:

• Financial reporting: Transactions are properly recorded, processed, and 

summarized to permit the timely and reliable preparation of financial 

statements in conformity with U.S. generally accepted accounting 
Page 6 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

principles, and assets are safeguarded against loss from unauthorized 

acquisition, use, or disposition.

• Compliance with applicable laws and regulations: Transactions are 

executed in accordance with (1) laws governing the use of budgetary 

authority, (2) other laws and regulations that could have a direct and 

material effect on the financial statements, and (3) any other laws, 

regulations, or governmentwide policies identified by OMB audit 

guidance.

We are also responsible for (1) testing compliance with selected provisions 

of laws and regulations that could have a direct and material effect on the 

financial statements and for which OMB audit guidance requires testing 

and (2) performing limited procedures with respect to certain other 

information appearing in SEC’s Performance and Accountability Report. In 

order to fulfill these responsibilities, we

• examined, on a test basis, evidence supporting the amounts and 

disclosures in the financial statements;

• assessed the accounting principles used and significant estimates made 

by SEC management;

• evaluated the overall presentation of the financial statements;

• obtained an understanding of internal control related to financial 

reporting (including safeguarding of assets) and compliance with laws 

and regulations (including execution of transactions in accordance with 

budget authority);

• obtained an understanding of the design of internal controls related to 

the existence and completeness assertions relating to performance 

measures as reported in Management’s Discussion and Analysis, and 

determined whether they have been placed in operation;

• tested relevant internal controls over financial reporting and 

compliance with applicable laws and regulations, and evaluated the 

design and operating effectiveness of internal control;

• considered SEC’s process for evaluating and reporting on internal 

control and financial management systems under FMFIA; and
Page 7 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

• tested compliance with selected provisions of the following laws and 

their related regulations:

• the Securities Exchange Act of 1934, as amended;

• the Securities Act of 1933, as amended;

• the Antideficiency Act;

• laws governing the pay and allowance system for SEC employees; 

and

• the Prompt Payment Act.

We did not evaluate all internal controls relevant to operating objectives as 

broadly defined by FMFIA, such as those controls relevant to preparing 

statistical reports and ensuring efficient operations. We limited our 

internal control testing to controls over financial reporting and compliance. 

Because of inherent limitations in internal control, misstatements due to 

error or fraud, losses, or noncompliance may nevertheless occur and not be 

detected. We also caution that projecting our evaluation to future periods 

is subject to the risk that controls may become inadequate because of 

changes in conditions or that the degree of compliance with controls may 

deteriorate.

We did not test compliance with all laws and regulations applicable to SEC. 

We limited our tests of compliance to those required by OMB audit 

guidance and other laws and regulations that had a direct and material 

effect on, or that we deemed applicable to, SEC’s financial statements for 

the fiscal year ended September 30, 2006. We caution that noncompliance 

may occur and not be detected by these tests and that such testing may not 

be sufficient for other purposes. 

We performed our work in accordance with U.S. generally accepted 

government auditing standards and OMB audit guidance.

SEC’s management provided comments on a draft of this report. They are 

discussed and evaluated in a later section of this report and are reprinted in 

appendix I.
Page 8 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Reportable Conditions We identified three reportable conditions which, although not material 

weaknesses, represent significant deficiencies in the design or operation of 

internal control that could adversely affect SEC’s ability to meet its internal 

control objectives. These conditions concern deficiencies in (1) SEC’s 

reporting of disgorgements and penalties, (2) information system controls, 

and (3) property and equipment controls, which are summarized below.

Additional details surrounding these reportable conditions, along with 

recommendations for corrective action, are being reported separately to 

SEC management. Less significant matters involving SEC’s system of 

internal controls and its operations will also be reported to SEC separately.

Disgorgements and 

Penalties

As part of its enforcement responsibilities, SEC issues and administers 

judgments ordering, among other things, disgorgements, civil monetary 

penalties, and interest against violators of federal securities laws. These 

transactions involve material amounts of collections, and the recording and 

reporting of fiduciary and custodial liability balances on the financial 

statements.5

 

Our audit testing during fiscal year 2006 noted significant management 

oversight and efforts to address weaknesses in the internal controls over 

recording and reporting disgorgement and penalty information. During the 

year, SEC finalized policies and procedures for reporting disgorgement and 

penalty activity; improved reconciliations of disgorgement and penalty 

transactions; established an internal audit function within the Division of 

Enforcement; and had better and more timely coordination between the 

two key SEC units responsible for reporting and recording disgorgements 

and penalties. Of particular note was a comprehensive initiative SEC 

undertook during the year to review and verify all of the outstanding 

disgorgement and penalty debts. Through this project, SEC identified and 

corrected numerous errors in the database used to record and report 

disgorgements and penalties. These errors involved amounts due, 

judgment and due dates, the payees, and status of the cases. This project 

also identified steps needed with respect to collecting or terminating the 

5

Fiduciary activities represent the moneys collected from federal securities law violators 

and maintained by SEC to be distributed to harmed investors. Custodial activities represent 

the moneys collected by SEC from violators of federal securities laws that are returned to 

the Treasury, as nonfederal individuals or entities do not have an ownership interest in these 

revenues.
Page 9 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

debts. Because of the limitations of the current case tracking system for 

disgorgements and penalties, SEC’s efforts far exceeded what would have 

otherwise been necessary to determine the reliability of the data. These 

efforts will most likely continue until SEC improves its financial system for 

recording and reporting disgorgement and penalty information. 

Even with SEC’s increased efforts to address concerns over reporting of 

disgorgements and penalties, our audit work during fiscal year 2006 

continued to identify risks concerning the completeness of the 

disgorgements and penalties receivable amounts. For example, we 

identified a $21 million disgorgement case that was erroneously omitted 

from SEC’s disgorgement receivable balance at June 30, 2006. This is 

largely because SEC’s process for determining its disgorgement and 

penalty receivable balances relies heavily on information being submitted 

to the Office of Financial Management from individual attorneys working 

on each case. To compensate for the risk presented by this process, in 

fiscal year 2006 SEC instituted a compensating control in which the 

Enforcement office heads were asked to certify the completeness and 

accuracy of the recorded disgorgement receivable balances at June 30, 

2006, and at fiscal year end. Through this certification process, a number 

of cases were identified as not having current information related to dollar 

amounts, due dates, and payees, in the case tracking system used to 

establish the amounts receivable at a given date. While none of these 

instances resulted in a significant misstatement to the receivable balance 

reported on the financial statements, relying on a decentralized detective 

control such as this certification process requires significant analysis, data 

gathering, and follow up, and increases the risk that disgorgement and 

penalty debts and related activity may not get recorded in a timely manner 

or in the proper period. 

We are encouraged by SEC’s commitment and management attention to 

strengthening controls over disgorgement and penalty activity to date, as 

well as SEC’s planned future actions in this area. As discussed in it’s 

Management’s Discussion and Analysis, SEC has designed procedures and 

documentation to track disgorgement and penalty actions from the time 

they are approved by the Commission to their recording in the case 

tracking system. Also this past year, SEC has begun training attorneys 

handling the cases on the steps necessary to maintain strong internal 

controls over updating and communicating information that could impact 

financial reporting. In addition, in fiscal year 2006 SEC designed a new 

financial management system for tracking disgorgements and penalties 

that will replace the financial portion of the existing case tracking system. 
Page 10 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

SEC expects these new controls and the new disgorgement financial 

system to be fully operational in fiscal year 2007. Until a permanent and 

systemic process is fully implemented and operational, SEC does not have 

sufficient assurance over the accuracy and completeness of its reporting 

and tracking of disgorgements and penalties.

Information Security SEC relies extensively on computerized information systems to process, 

account for, and report on its financial activities and make payments. In 

order to provide reasonable assurance that financial information and 

financial assets are adequately safeguarded from inadvertent or deliberate 

misuse, fraudulent use, improper disclosure, or destruction, effective 

information security controls are essential. These controls include security 

management, access controls, change management, segregation of duties, 

and continuity planning. Although SEC has made important progress in 

strengthening its controls over financial systems and information and in 

implementing an agencywide information security program, SEC still needs 

to implement key elements of the program to remediate existing 

weaknesses and provide assurance that new weaknesses do not emerge.

SEC has mitigated 51 of 64 control weaknesses that were previously 

reported as unresolved at the time of our prior review. For example, SEC 

completed actions to establish policies and procedures for risk 

management, ensure that all users complete security training, and 

implement an incident response program. SEC also took corrective action 

to improve its systems’ access rights and permissions, user accounts and 

passwords, network security, and auditing and monitoring of securityrelated events. In addition, SEC took immediate steps to address 11 of 15 

new weaknesses related to access controls and segregation of duties that 

we identified during the course of this year’s audit. 

While we have seen important efforts to improve its information security 

program, 17 control weaknesses still exist at SEC. For example, SEC has 

not mitigated weaknesses with user account and password management, 

provided adequate segregation of system administrative functions, or 

effectively protected and controlled physical access to its facilities. As a 

result, sensitive data—including payroll and financial transactions, 

personnel data, and regulatory and other mission-critical information—

remains at risk of unauthorized disclosure, modification, or loss. Until SEC 

consistently implements all key elements of its information security 

program, SEC will not have sufficient assurance that financial information 
Page 11 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

and financial assets are adequately safeguarded from inadvertent or 

deliberate misuse, fraudulent use, improper disclosure, or destruction. 

Property and Equipment SEC’s property and equipment consists of software and general purpose 

equipment used by the agency, capital improvements made to buildings 

leased by SEC for office space, and internal-use software development 

costs for projects in development. The reported book value of property 

and equipment increased from approximately $73 million at September 30, 

2005, to nearly $104 million at September 30, 2006. The significant increase 

in property and equipment is primarily due to SEC occupying new office 

space in Washington, D.C., Boston, and New York during fiscal year 2006. 

During the course of testing fiscal year 2006 additions, we noted numerous 

instances of inaccuracies in recorded acquisition costs and dates for 

furniture and equipment purchases, as well as unrecorded furniture and 

equipment purchases, and errors in amounts capitalized for internal use 

software projects. These systemic errors did not materially affect the 

balances reported for property and equipment or the corresponding 

depreciation/amortization expense amounts in SEC’s financial statements 

for fiscal year 2006; however, these conditions evidence a significant 

deficiency in control over the recording of property and equipment that 

impacts the reliability of its recorded balances for property and equipment. 

Without a process that integrates controls over capitalizing and recording 

property and equipment purchases, SEC does not have sufficient assurance 

over the accuracy and completeness of its reported balances for property 

and equipment.

GAO’s Standards for Internal Control in the Federal Government6 provide 

an overall framework for establishing and maintaining internal control, 

including a discussion of control activities, an example of which is accurate 

and timely recording of transactions. Specifically, transactions should be 

accurately and promptly recorded to maintain their relevance and value to 

management in controlling operations and making decisions. In its 

Management’s Discussion and Analysis, SEC acknowledges the need to 

strengthen control over this area.

6 GAO/AIMD-00-21.3.1 (Washington, D.C.: November 1999).
Page 12 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

SEC Comments and 

Our Evaluation

In commenting on a draft of this report, SEC’s Chairman said he was 

pleased to receive an unqualified opinion on SEC’s financial statements, 

and that there were no material weaknesses in internal control. The 

Chairman acknowledged that further improvements are needed and 

discussed ongoing and planned efforts to improve controls over 

disgorgements and penalties, information security, and property 

management, three areas which we identified as reportable conditions in 

this year’s audit. The Chairman stated that SEC intends to fully remediate 

all three reportable conditions before the end of fiscal year 2007. SEC’s 

commitment to enhancing its internal controls to ensure reliability of 

financial reporting, soundness of operations, and public confidence in the 

agency’s mission is key to the Chairman’s statement that SEC must lead by 

example when it comes to compliance with the internal control 

requirements of the federal and private sectors.

The complete text of SEC’s comments is reprinted in appendix I.

David M. Walker

Comptroller General

of the United States

November 6, 2006
Page 13 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Management’s Discussion and Analysis

SECTION 1

MANAGEMENT’S

DISCUSSION AND ANALYSIS

The Securities and Exchange Commission is the federal agency that 

administers the federal laws governing the U.S. securities markets. As

such, the SEC plays a fundamental role in maintaining the integrity and 

vitality of America’s markets and protecting the interests of investors. The 

following section outlines the agency’s vision, mission, values, and goals, 

as presented in the SEC’s five-year strategic plan, and provides 

management’s discussion and analysis of the SEC’s major accomplishments 

during fiscal year (FY) 2006, upcoming challenges, management controls, 

and financial highlights. This section also includes the results of the SEC’s 

primary performance measures. 

4 MANAGEMENT’S DISCUSSION AND ANALYSIS
Management’s Discussion and Analysis

Page 14 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

5 MANAGEMENT’S DISCUSSION AND ANALYSIS

Vision

The Securities and Exchange Commission aims to be the standard against 

which federal agencies are measured. The SEC’s vision is to strengthen the 

integrity and soundness of U.S. securities markets for the benefit of investors 

and other market participants, and to conduct its work in a manner that is as 

sophisticated, flexible, and dynamic as the securities markets it regulates.

Mission

The mission of the SEC is to protect investors; maintain fair, orderly, and 

efficient markets; and facilitate capital formation.

Values

• Integrity • Resourcefulness

• Accountability • Teamwork

• Fairness • Commitment to Excellence
Management’s Discussion and Analysis

Page 15 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

SECTION HEADER

Enforce compliance with federal securities laws

The Commission seeks to detect problems in the securities markets, prevent and deter violations of federal 

securities laws, and alert investors to possible wrongdoing. When violations occur, the SEC aims to take 

prompt action to halt the misconduct, sanction wrongdoers effectively, and, where possible, return funds to 

harmed investors.

Promote healthy capital markets through an 

effective and flexible regulatory environment

The savings and investments of every American are 

dependent upon healthy capital markets. The 

Commission seeks to sustain an effective and flexible 

regulatory environment that will facilitate innovation, 

competition, and capital formation to ensure that our 

economy can continue to grow and create jobs for our 

nation’s future. Enhancing the productivity of America 

is a key goal that the SEC works to achieve by increasing investor confidence in the capital markets.

Foster informed investment decision making

An educated investing public ultimately provides the 

best defense against fraud and costly mistakes. The 

Commission works to promote informed investment 

decisions through two main approaches: reviewing 

disclosures of companies and mutual funds to ensure 

that clear, complete, and accurate information is available to investors; and implementing a variety of investor 

education initiatives.

Maximize the use of SEC resources

The investing public and the securities markets are 

best served by an efficient, well-managed, and proactive SEC. The Commission strives to improve its 

organizational effectiveness by making sound investments in human capital and new technologies, and by 

enhancing internal controls.

GOALS

6 MANAGEMENT’S DISCUSSION AND ANALYSIS
Management’s Discussion and Analysis

Page 16 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005
Management’s Discussion and Analysis

Page 17 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

8 MANAGEMENT’S DISCUSSION AND ANALYSIS

MAJOR ACCOMPLISHMENTS

FY 2006 was a year of notable achievement in all major program areas. The SEC’s most significant 

accomplishments are discussed below.

Enforcing Compliance with the 

Securities Laws

The SEC continued to improve its efforts to ensure 

compliance with the federal securities laws through 

enforcement activities and the ongoing inspection of 

regulated entities.

Enforcement Program

In FY 2006, the SEC initiated 914 investigations, 

218 civil proceedings, and 356 administrative proceedings, covering a wide range of issues. The major 

areas of enforcement activity were: corporate financial fraud, including abusive backdating of stock 

options; compliance failures at self-regulatory organizations and broker-dealers; and fraud related to 

mutual funds. The Commission prevailed in the 

great majority of the litigated enforcement actions 

decided by district courts and administrative law 

judges, and maintained a balanced distribution of 

cases across the core enforcement areas. The SEC’s 

enforcement cases resulted in a total of more than 

$3.3 billion in disgorgement and penalties ordered 

against securities law violators during FY 2006. 

Whenever practical, the Commission seeks to return 

funds to harmed investors through the “fair fund” 

provision of the Sarbanes-Oxley Act, which allows 

the SEC to use penalties, in addition to disgorgement, to compensate injured investors for their losses. 

The following are some of the notable enforcement 

actions taken by the SEC in FY 2006.

Actions involving financial fraud

The Commission brought numerous cases involving 

financial fraud at public companies. In an effort to 

enhance consistency and transparency in the SEC’s 

practice of sanctioning corporations that have committed fraud, in January 2006 the Commission 

unanimously issued a Statement of the Securities and 

Exchange Commission Concerning Financial Penalties. 

The statement provides a framework for decision making that is designed to ensure that the Commission 

can effectively sanction and deter corporate wrongdoing, while protecting the interests of shareholders 

who own public companies.

In its initial application of the new framework, the 

Commission settled an action against McAfee, Inc., 

alleging that the company improperly inflated its cumulative net revenues by $622 million between 1998 and 

2000 and concealed the fraud from investors. McAfee 

consented to pay a $50 million civil penalty. In a parallel case, the Commission settled an action against 

Applix, Inc., alleging that the company improperly recognized $1.2 million in revenue in 2001 and 2002. The 

company agreed to cease and desist from future fraud 

violations and to take remedial measures to improve its 

internal controls; however, based on an analysis under 

the new framework, the Commission elected not to 

pursue monetary penalties.

Other significant financial fraud actions included 

cases against American International Group, Inc. (AIG), 

Fannie Mae, and Tyco International Ltd. The AIG case 

involved improper accounting relating to sham reinsurance transactions with GenRe Corporation. To resolve 

the SEC’s claims, AIG agreed to pay $800 million in 

disgorgement and penalties, which will be returned to 

investors through a fair fund. The Commission’s case 
Management’s Discussion and Analysis

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9 MANAGEMENT’S DISCUSSION AND ANALYSIS

against Fannie Mae, brought jointly with the Office 

of Federal Housing Enterprise Oversight (OFHEO), 

involved improper smoothing of earnings in violation 

of accounting rules. Fannie Mae agreed to pay a 

$350 million penalty in the SEC’s case, which will be 

used to compensate harmed investors, and an additional $50 million to OFHEO. In the Tyco case, the 

Commission found that the company had utilized 

unlawful accounting practices in a scheme to overstate 

its reported financial results by $1 billion. The company agreed to pay a $50 million civil penalty.

The Commission also brought cases involving the 

fraudulent backdating of stock options. The SEC 

charged three senior officers of Comverse Technology, 

alleging that they engaged in a decade-long scheme to 

grant in-the-money stock options to themselves and 

others by backdating option grants to coincide with 

historically low closing prices of the company’s common stock. 

In a similar action, the Commission filed charges 

against three officers of Brocade Communications 

Systems, alleging that the company routinely backdated stock option grants to give employees favorably 

priced options without recording necessary compensation expenses. These actions concealed millions of 

dollars of expenses from investors and gave investors a 

false portrait of Brocade’s financial condition. They 

also contributed to the restatements of hundreds of 

millions of dollars of Brocade’s financial results from 

1999 through 2004. 

Actions involving self-regulatory 

organizations and broker-dealers

In FY 2006, the SEC brought several important cases 

involving self-regulatory organizations and brokerdealers. In a case against the Philadelphia Stock 

Exchange, the Commission found that the Exchange 

failed to enforce certain trading and order handling 

rules and provided inadequate surveillance measures 

for violations of equities trading rules. As a result of 

the SEC’s action, the Exchange agreed to retain a third 

party auditor to conduct a comprehensive audit of its 

surveillance, examination, investigation, and disciplinary programs.

In a case involving misconduct in the $200 billion 

auction rate securities market, the Commission found 

that 15 broker-dealers, including Bear Stearns, Citigroup 

Global Markets, and Goldman Sachs, engaged in violative practices in the sale of auction rate securities. As a 

result of the Commission’s action, the firms consented 

to pay more than $13 million in penalties.

In an illegal trading case, the Commission charged a 

former Merrill Lynch broker and former day traders and 

managers from A.B. Watley with participating in a 

fraudulent scheme to obtain confidential information 

about institutional customer order flow from major brokerage firms by compensating brokers with commissiongenerating trades and secret cash payments. 

The SEC brought its first-ever enforcement action 

under the provisions of the USA Patriot Act that seek 

to protect the U.S. financial system from money laundering and terrorist financing. The Commission 

charged broker-dealer Crowell, Weedon with failing 

to comply with the record-keeping provisions of the 

Bank Secrecy Act, as amended by the USA Patriot Act, 

and the firm agreed to cease and desist from committing future violations.

Actions related to mutual funds

In FY 2006, the SEC continued to address abuses relating to the market timing of mutual funds. The 

Commission brought several notable cases against traders and brokers who carried out market timing schemes 

to the detriment of mutual fund shareholders. In a case 

against Millennium Partners, the Commission found 

that the firm fraudulently timed mutual funds by 

concealing its identity and thereby circumventing 

restrictions that the mutual funds imposed on market 
Management’s Discussion and Analysis

Page 19 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

10 MANAGEMENT’S DISCUSSION AND ANALYSIS

timing. The firm and four individuals together agreed 

to pay over $180 million in disgorgement and penalties, 

which will be used to compensate harmed investors.

In a related case, the SEC brought an action against 

Prudential Equity Group (formerly Prudential 

Securities), finding that brokers used deceptive market 

timing practices to conceal their identities, and those 

of their customers, to evade mutual funds’ prospectus 

limitations on market timing. The Commission censured Prudential and ordered it to pay disgorgement of 

$270 million, which will be returned to the harmed 

mutual funds and fund shareholders. The Commission 

also filed suit against four former Prudential brokers 

for related conduct, and accepted the settlement of one 

previously sued broker.

The Commission brought an action against Bear 

Stearns charging the firm with securities fraud for 

facilitating unlawful late trading and deceptive market 

timing of mutual funds by its customers. The SEC 

ordered the firm to pay $160 million in disgorgement 

and a $90 million penalty, which will be paid into a 

fair fund to compensate the harmed mutual funds and 

fund shareholders.

Cross-border enforcement

In FY 2006, the SEC continued to cooperate with foreign authorities on cases with significant international 

components. The SEC encouraged other countries to 

adopt legislative reforms that are consistent with the 

minimum benchmark for international cooperation 

set by the International Organization of Securities 

Commissions (IOSCO), which has increased the 

SEC’s ability to obtain information from a growing 

number of jurisdictions worldwide. 

The SEC also participated in IOSCO’s work to 

develop a multilateral approach for preserving and 

repatriating assets and supported a resolution adopted 

by IOSCO calling for jurisdictions to examine their 

legal framework and strive to develop mechanisms, 

including legislative reform, for freezing assets on 

behalf of a foreign regulator. The SEC also continued 

its efforts in specific cases to freeze and repatriate assets 

that were obtained in violation of U.S. securities laws 

and transferred abroad.

Information technology forensic program

During FY 2006, the Division of Enforcement implemented a new forensic lab equipped with state-ofthe-art equipment and software. The lab allows 

Enforcement to retrieve data stored on electronic 

devices like personal computers, servers and laptops. 

Since such data is volatile, subject to damage, and 

requires special processing and handling, the forensic 

lab has created special protocols that are essential to 

the preservation and authentication of this data. 

Enforcement has also trained a team of examiners who 

are able to perform forensic-related activities such as 

recovering deleted data and analyzing email and other 

relevant artifacts. The forensics program has fundamentally transformed Enforcement’s ability to receive, 

process, and analyze electronic storage devices.
Management’s Discussion and Analysis

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11 MANAGEMENT’S DISCUSSION AND ANALYSIS

EXHIBIT 1.2

Distribution of Cases Across Core 

Enforcement Areas

DESCRIPTION: Effective deterrence of securities fraud 

requires that the cases filed by the SEC have adequate reach 

across all core enforcement program areas. The mix and types 

of cases change from year to year based upon the conditions 

of the markets and the changes in financial instruments being 

used. The SEC’s enforcement program seeks to maintain a 

presence and depth so that no single area dominates its case 

mix, nor is underrepresented. This measure evaluates whether 

the Commission maintains an effective distribution of cases so 

that no category exceeds 40 percent of the total.

PERCENTAGE OF CASES

CORE ENFORCEMENT 

PROGRAM AREAS FY03 FY04 FY05 FY06

Financial Disclosure 29% 28% 29% 24%

Investment Advisers/

 Investment Companies 11 14 16 16

Broker-Dealers 20 22 15 13

Securities Offerings 16 15 9 11

Insider Trading 7 7 8 8

Market Manipulation 5 6 7 5

Other 12 8 16 23

Total 100% 100% 100% 100%

Examination Program

The SEC’s examination program works to detect fraud 

and other possible violations of the federal securities 

laws, foster compliance with these laws, and inform 

the Commission and its staff of compliance issues. 

The Office of Compliance Inspections and 

Examinations (OCIE) uses risk-based methodologies 

to focus resources on those activities that could pose 

the greatest risk to investors and the integrity of the 

markets. In FY 2006, OCIE continued to refine and 

implement risk-assessment techniques to identify and 

focus on firms and activities that present the greatest 

compliance risk to investors. OCIE also explored new 

technologies to facilitate the conduct of examinations 

and the review of large volumes of data, and implemented an automated system to track examinations in 

order to improve coordination of examinations and 

prevent duplication. Examination staff continued and 

expanded cooperative examination initiatives with 

domestic and foreign regulators.

OCIE substantially enhanced training for examiners with respect to new rules applicable to securities 

firms, and on current trends in the securities industry, 

including broker-dealers providing investment advisory services and the activities of hedge fund advisers. 

OCIE also initiated a pilot program for monitoring 

the largest asset management and broker-dealer firms, 

took steps to make its examination process more transparent to firms under examination, and created a 

“Hotline” to receive any complaints or concerns from 

firms under examination. 

The staff of OCIE and the Division of Investment 

Management jointly continued to conduct the 

CCOutreach Program, which seeks to encourage 

strong industry compliance practices by providing 

information to adviser and mutual fund compliance 

professionals. The staff conducted a national seminar 

at SEC headquarters that was attended by approximately 500 adviser and fund compliance officers and 

transmitted via web cast to many more. The seminar 

covered a range of topics that are critical to compliance officers in administering their firms’ compliance 

programs. In addition, during the summer of FY 2006, 

examination staff from the SEC’s field offices conducted 27 regional seminars attended by about 1,750 

adviser and fund chief compliance officers. The primary focus of discussions during these regional 

seminars was the identification of compliance risks, 

which is the starting point for constructing a comprehensive and effective compliance program.

Examinations of investment advisers and 

investment companies

The examination staff completed routine inspections 

of 650 advisers with higher risk profiles and 328 lowerrisk advisers that were randomly selected from 

lower-risk firms. These routine inspections focused on 
Management’s Discussion and Analysis

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12 MANAGEMENT’S DISCUSSION AND ANALYSIS

firms’ compliance programs and areas where compliance procedures were found to be weak or non-existent. 

Examiners also conducted 368 inspections of advisers 

that either appeared to have specific issues needing 

further scrutiny or that were part of a risk-targeted 

examination sweep. For example, OCIE initiated a 

sweep to review procedures that firms use to prevent 

identity theft. 

Advisers inspected had assets under management of 

$10.9 trillion, which was about 40 percent of the total 

assets under management of all registered advisers at the 

beginning of FY 2006. As part of these inspections, 

staff examined 344 registered fund groups, including 

mutual fund transfer agents, and reviewed about 

750 privately-offered investment funds. Overall, 80 percent of examinations revealed some type of deficiency 

or control weakness, and 6 percent of adviser and registered fund inspections were referred to enforcement 

staff for further review. Importantly, most examinations 

resulted in corrective action and improved compliance 

or risk management by the firms examined.

EXHIBIT 1.3

Investment Advisers and Investment 

Companies Examined 

DESCRIPTION: To conduct oversight of investment companies and advisers, the staff conducts a risk-based program 

of routine examinations, cause inspections to follow up on tips 

and complaints, and special inspections to probe emerging 

risk areas. Growth in the industry and severe compliance 

issues caused changes in the SEC’s oversight of investment 

companies and advisers in 2003–2004.

FY02 FY03 FY04 FY05 FY06

Investment 

 Advisers 1,570 1,556 1,543 1,530 1,346

Investment 

 Companies 304 318 783 582 344

Examinations of investment advisers and investment companies completed in FY 2006 are lower 

than in previous years, for a variety of reasons. These 

include: an increase in the complexity of registrants’ 

operations, including the need to review the activities 

of private funds in conjunction with examination of 

the funds’ advisers (e.g., in FY 2006, about 750 privately-offered investment funds were also reviewed); 

a substantial increase in the time needed during routine examinations to evaluate the effectiveness of the 

compliance programs that advisers and funds were 

required to maintain beginning in FY 2005; an 

increase in examination scope in order to review 

advisers’ and funds’ compliance with other new regulatory requirements; a decrease in the number of 

targeted special examinations conducted (which are 

generally of shorter duration than routine exams); 

the dedication of staff resources to new proactive initiatives designed to improve compliance, including 

CCOutreach and the monitoring of large advisory 

groups; and a decrease in resources.

Examinations of broker-dealers

In its FY 2006 examinations of broker-dealers, OCIE 

focused on areas of significant compliance and financial risks, including: sales practices to retail investors, 

including the suitability of various products; business 

continuity planning; anti-money laundering; suitability focusing on various products; misuse of non-public 

information concerning trading activities of institutional investors; execution practices in equities and 

debt, including mark-ups; compliance with net capital 

and customer reserve obligations; and branch office 

supervision. OCIE conducted special risk-targeted 

examinations on topics such as sales and marketing to 

senior citizens, short sales, day trading, sales of periodic payment plans, and fee-based accounts, among 

other areas. Special examinations were also conducted 

of large firms’ internal controls.

Examiners found some type of deficiency or control 

weakness in about 90 percent of inspections, and about 

25 percent of the exams resulted in referrals to the 
Management’s Discussion and Analysis

Page 22 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

13 MANAGEMENT’S DISCUSSION AND ANALYSIS

enforcement staff or a self-regulatory organization for 

further review. Importantly, most examinations 

resulted in remedial action and improvements in the 

firms’ compliance or risk management programs.

Examinations of self-regulatory organizations and the Public Company Accounting 

Oversight Board

OCIE conducted risk-based and routine inspections 

of the self-regulatory organizations’ surveillance, 

examination, disciplinary, arbitration, customer communication, and listing programs. These inspections 

resulted in improvements in regulatory programs conducted by the securities exchanges. Together with the 

SEC’s Office of the Chief Accountant, OCIE also 

completed the first inspection of the Public Company 

Accounting Oversight Board (PCAOB). 

Improving Disclosure for Investors

The SEC worked to improve the quality, reliability, 

and timeliness of disclosure to investors by undertaking the following actions.

Enhanced executive compensation disclosure. 

The SEC adopted far-reaching amendments to the 

disclosure requirements relating to executive and director compensation, related party transactions, director 

independence, and other corporate governance matters. The amendments require companies to present 

this information in plain English and in a tabular format useful to shareholders, analysts, journalists, and 

the investing public. For the first time, companies 

must present all elements of compensation as a single 

total dollar amount for each executive. Companies 

must also discuss and analyze their compensation policies and decisions. In addition, companies must 

disclose certain compensation information on a realtime basis in current reports on Form 8-K. 

Global accounting standards. Last year, the SEC 

staff published a “roadmap” of the milestones necessary to permit foreign private issuers to file financial 

statements prepared under International Financial 

Reporting Standards (IFRS), without reconciling 

them to U.S. generally accepted accounting principles. The roadmap involves, among other things, a 

detailed analysis of the faithfulness and consistency 

of the application, interpretation, and enforcement of 

IFRS in financial statements across companies and 

jurisdictions, and continued progress in the convergence work now being conducted by the International 

Accounting Standards Board and the Financial 

Accounting Standards Board. The SEC staff has 

been working with other regulators, including 

through IOSCO and the Committee of European 

Securities Regulators (CESR), to help reach some of 

these milestones. For example, the SEC staff and 

CESR finalized a work plan in 2006 to share information about IFRS implementation.

Disclosure review. The Divisions of Corporation 

Finance and Investment Management continue to 

improve their disclosure review programs to comply 

with the review requirements of the Sarbanes-Oxley Act 

of 2002. In FY 2006, the SEC staff reviewed the filings 

of 4,485 public companies and 4,151 mutual funds. 

EXHIBIT 1.4

Percentage of Reporting Companies and 

Investment Companies with Disclosures 

Reviewed by the SEC

DESCRIPTION: The Sarbanes-Oxley Act requires that the 

SEC review the disclosures of all reporting companies and 

investment company portfolios at least once every three years. 

These reviews help improve the information available to investors and can uncover serious violations of the securities laws.

FY03 FY04 FY05 FY06

Corporations 23% 22% 50% 33%

Investment Companies 10% 54% 37% 36%
Management’s Discussion and Analysis

Page 23 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

14 MANAGEMENT’S DISCUSSION AND ANALYSIS

FY 2005 marked the completion of the first threeyear cycle under the Sarbanes-Oxley Act; and in FY 

2006, the SEC remained on track to review every 

reporting company and investment company at least 

once every three years. The Division of Corporation 

Finance continued to release filing review correspondence through the EDGAR system in order to increase 

the transparency of its review process.

Given the increased global nature of public company operations, in its review of public company 

filings, the Division of Corporation Finance considered whether each company’s disclosure indicated 

material contacts with countries the State Department 

has identified as sponsors of terrorism and sought 

enhanced disclosure as appropriate. 

Interactive data. In April 2005, the Commission 

established a voluntary program to permit registrants 

to submit required financial disclosures using eXtensible Business Reporting Language (XBRL). The 

interactive format transforms this financial data so 

that investors, analysts, and other market participants, 

as well as the SEC itself, can analyze and personalize 

the information in ways best suited for their purposes. 

It will be easier for the public to retrieve financial 

ratios, written disclosures, mutual fund expenses, and 

other information critical to their investments. 

In January 2006, the SEC offered companies expedited reviews of their registration statements and 

annual reports if they submit their disclosures using 

XBRL and share their experiences with the agency. So 

far, more than 20 major companies are now participating in the program. In June 2006, the Commission 

also conducted the first in a series of interactive data 

roundtable discussions to explore ways to further 

expand the use of technologies like XBRL. 

EXHIBIT 1.5

Percentage of Forms and 

Submissions Filed Electronically 

and in a Structured Format

DESCRIPTION: The SEC is continuing to emphasize electronic filing to make information available to the public in a 

format that can be easily obtained and analyzed. The SEC currently has over 100 forms that must be filed with the agency, 

which annually generate hundreds of thousands of filings. The 

agency is redesigning its form filing capabilities to rely on more 

structured formats (e.g., information is captured in a comma 

delimited, XML, XBRL, or other format). This measure gauges 

the percentage of forms that are available to be filed in a structured format and the percentage of resulting filings that are 

received in the structured format. In addition, this measure 

identifies the overall percentage of forms that are in electronic 

format and the overall percentage of resulting filings that are 

received electronically by the SEC.

FY03 FY04 FY05 FY06

Forms

Structured format 4% 4% 5% 8%

Another electronic format 68% 68% 67% 62%

Total percentage in 

electronic format 72% 72% 72% 70%

Filings Received

Structured format 21% 36% 35% 35%

Another electronic format 55% 52% 54% 55%

Total percentage in 

electronic format 76% 88% 89% 90%

The percentage of the forms that are electronic 

declined slightly in FY 2006; however, that was due to 

consolidation or elimination of a small number of 

electronic forms rather than an increase in paper forms. 

Meanwhile, the overall number of electronic filings 

versus paper filings continued to increase. The proportion of forms filed with the SEC that are in structured 

formats such as XBRL increased in FY 2006. However, 

the overall number of structured filings declined 

slightly in FY 2005 and 2006, due to various market 

dynamics that resulted in fewer being filed in those 

years. The SEC will continue to work toward its goal 

of substantially increasing the percentage of forms and 

submissions in structured format, as well as converting 

100 percent of all filings and submissions into electronic format.
Management’s Discussion and Analysis

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15 MANAGEMENT’S DISCUSSION AND ANALYSIS

Promoting an Effective and Flexible 

Regulatory Environment

Through a variety of rulemaking and other initiatives, 

the SEC continued to modernize and refine its regulations in order to facilitate innovation and competition 

while protecting the interests of investors.

Implementation of Section 404 internal control 

requirements. The SEC and the Public Company 

Accounting Oversight Board hosted a roundtable discussion on second-year experiences with implementing 

the internal control requirements under Section 404 

of the Sarbanes-Oxley Act of 2002. Following the 

roundtable, the SEC announced that it would develop 

and issue guidance for management to follow in assessing internal controls over financial reporting and 

would oversee the PCAOB’s revision of its related audit 

standard, as well as the PCAOB’s implementation of 

those revisions. The SEC also announced that, in 

order for companies and auditors to have the benefit of 

these efforts, it would delay required implementation 

of the internal control requirements for certain smaller 

public companies.

Evaluated the needs of smaller companies. The 

SEC began its review of the recommendations of the 

SEC Advisory Committee on Smaller Public 

Companies. The Advisory Committee’s recommendations relate to a broad range of topics, including capital 

formation, on-going corporate reporting, and internal 

control over financial reporting. Consistent with a recommendation of the Advisory Committee, the SEC 

delayed implementation of the management reports 

required under Section 404 of the Sarbanes-Oxley Act 

until the 2007 fiscal year, and delayed the auditor attestation requirement for certain foreign private issuers 

with market capitalization between $75 million and 

$700 million until the 2007 fiscal year. The SEC also 

proposed delaying the auditor attestation requirement 

until the 2008 fiscal year for certain public companies 

with less than $75 million in market capitalization.

Interpretive release on soft dollars. The SEC 

issued a final interpretive release relating to the scope 

of the soft dollar safe harbor under Section 28(e) of the 

Securities Exchange Act of 1934. The release clarifies 

the eligibility criteria for brokerage and research services and the circumstances under which money 

managers may use client commissions to pay for those 

services. The release also provides guidance to money 

managers and broker-dealers on the arrangements that 

managers may use to obtain brokerage and research 

services under the safe harbor.

Equal payments in tender offers. The SEC proposed amendments to its tender offer “best-price rule” 

to adapt the rule to recent judicial developments and 

reinforce its basic purpose—ensuring that all shareholders who tender their securities in an offer receive 

the same consideration. The Commission adopted 

final rule amendments in October 2006.

Deregistration by foreign issuers. In response to 

the concerns of foreign companies, the SEC proposed 

rule changes that would make it easier for foreign 

companies with little U.S. market interest to terminate their reporting obligations. In recognition of the 

information needs of investors, the Commission also 

proposed rules that would provide U.S. investors with 

ready access through the Internet to material information about a foreign company that maintains its 

reporting exemption after it has ceased filing reports 

with the SEC.

Proposal for investors to receive proxy statements 

over the Internet. The Commission proposed rules that 

would allow companies to use the Internet to satisfy the 

delivery requirements for proxy materials. Shareholders 

would continue to have the option of receiving paper 

copies. The proposed rules could substantially reduce 

the expense of complying with the proxy rules, provide 

investors with a user-friendly means of obtaining and 

reviewing proxy materials, and provide persons other 

than the company with a more cost-effective means to 

undertake their own proxy solicitations. 
Management’s Discussion and Analysis

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16 MANAGEMENT’S DISCUSSION AND ANALYSIS

Increased flexibility and transparency for funds 

of funds. The SEC adopted rules that expand current 

Investment Company Act exemptions relating to certain fund of funds arrangements, including a rule to 

allow funds to sweep their cash overnight into money 

market funds. To increase the transparency of expenses 

in these arrangements, the SEC adopted requirements 

that a fund that invests in other funds disclose in its 

fee table the cumulative amount of expenses charged 

by the fund and the funds in which it invests. These 

initiatives removed unnecessary regulatory burdens, 

while maintaining investor protections. 

Investment adviser/broker-dealer study. The 

SEC awarded a contract to conduct factual research 

and analysis for a major study comparing how the different regulatory systems that apply to broker-dealers 

and investment advisers affect individual investors. 

Broker-dealers are regulated under the Securities 

Exchange Act of 1934, while investment advisers are 

under the authority of the Investment Advisers Act of 

1940. The study will examine how these different 

regimes affect investors and assist the Commission in 

assessing the current legal and regulatory environment. The study will involve collecting, categorizing, 

and analyzing data from a variety of sources, including marketing, sales, and delivery data about the 

financial products, accounts, programs, and services 

offered to individual investors. 

Regulation B. Since the enactment of the GrammLeach-Bliley Act in 1999, the SEC has extended the 

effective date for the bank broker provisions several 

times. Most recently, the Commission granted banks a 

temporary exemption from broker registration until 

January 2007. In June 2004, the Commission proposed Regulation B, which would implement the bank 

securities activities exceptions from the definition of 

“broker” in the Securities Exchange Act of 1934. In 

2006, the Chairman met on a regular basis with senior 

representatives from the federal banking agencies to 

discuss ways to implement the bank broker exceptions 

in a way that will support investor protection while 

minimizing compliance costs and disruption with 

respect to banks’ existing business practices. In October 

2006, new legislation was signed that provides that the 

SEC and the Board of Governors of the Federal Reserve 

System must jointly propose rules implementing the 

bank broker exceptions within 180 days.

Facilitating Changes in 

Market Structure and 

Cross-Border Cooperation

Approval of NASDAQ exchange application. In 

January 2006, the SEC approved the Nasdaq Stock 

Market’s application to become a registered national 

securities exchange. The conditions to its operating as 

an exchange included Nasdaq’s individual participation in various national market system plans; the 

implementation of certain regulatory plans that will 

permit Nasdaq to fulfill its self-regulatory obligations; 

and the ability of the NASD, which has controlled 

Nasdaq since 1971, to satisfy its own statutory obligations independently from Nasdaq. Nasdaq is currently 

working to fulfill these conditions.

NYSE hybrid market proposal. The SEC approved 

the New York Stock Exchange’s proposal to alter fundamentally its market structure by converting from a 

traditional floor-based auction market with limited 

automated access to liquidity, to a largely automated 

market with some manual order interaction. The 

NYSE plans to implement this “Hybrid Market” structure in five phases by the end of 2006. 

NYSE/Archipelago merger. The SEC approved 

rule proposals from the NYSE and the Pacific Exchange 

(now known as NYSE Arca) necessary to permit a 

merger to combine their businesses under one publicly-traded holding company. The merger was 

completed, and the NYSE Group common stock 

began trading in March 2006. As a result of the transaction, NYSE Group owns two registered exchanges, 
Management’s Discussion and Analysis

Page 26 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

17 MANAGEMENT’S DISCUSSION AND ANALYSIS

the New York Stock Exchange and NYSE Arca. 

Through this transaction, the NYSE demutualized, 

separating equity ownership in the NYSE from trading privileges on the exchange. 

Implementation of Regulation NMS. The SEC 

addressed important issues of equity market structure 

as the individual markets transformed to meet the 

desires of their customers for more efficient, automated 

trading and to comply with automated trading provisions of Regulation NMS. Regulation NMS sets the 

terms for competing markets to access and interact 

with each other and is intended to strengthen competition in the national market system. Nine of the ten 

national securities exchanges are either adopting new 

automated trading systems or substantially modifying 

their existing trading systems to respond to these competitive challenges. The SEC worked closely with the 

exchanges and securities industry throughout FY 2006 

to promote a non-disruptive and cost-effective rollout 

of the new trading systems and implementation of 

Regulation NMS.

Cross-border exchange affiliations. The SEC has 

undertaken to articulate its preliminary views on the 

potential regulatory implications arising from an affiliation between U.S. and non-U.S. securities exchanges. 

In addition, the SEC has initiated a dialogue to discuss 

the regulatory aspects of potential cross-border exchange 

mergers with its regulatory counterparts in other jurisdictions. During the past several months, Nasdaq has 

acquired a 25 percent stake in the London Stock 

Exchange, and the NYSE has entered into a combination agreement with Euronext, which includes the U.K. 

derivatives exchange Liffe. The SEC and the College of 

Euronext Regulators are currently taking the necessary 

steps regarding the regulatory approval processes for the 

proposed combination of NYSE and Euronext. 

Oversight of globally active firms and exchanges. 

The SEC entered into a Memorandum of Understanding with the U.K. Financial Services Authority 

to increase cooperation in market oversight and supervision. This comprehensive arrangement created a 

framework for regulatory consultation and the 

exchange of supervisory information with respect to 

financial firms and investment banking groups that 

operate both in the United States and the United 

Kingdom. The MOU promotes cooperation on inspections of dually registered firms in order to use resources 

efficiently and minimize duplicative efforts.

Interagency statement on sound practices concerning complex structured finance activities. In 

May 2006, the SEC, together with the Office of the 

Comptroller of the Currency, the Office of Thrift 

Supervision, the Board of Governors of the Federal 

Reserve System, and the Federal Deposit Insurance 

Corporation, requested comment on a revised statement to provide guidance that may help financial 

institutions identify, manage, and address the heightened reputational and legal risks that may arise from 

certain complex structured finance transactions. The 

agencies focused on those transactions that may pose 

heightened levels of legal or reputational risk to different financial institutions.

SEC technical assistance program. The SEC drew 

record numbers of regulators from emerging and 

developed markets to the Commission’s International 

Institute for Securities Market Development in April 

2006, including 147 delegates from 70 countries. 

Additionally, securities commissions and stock 

exchanges are increasingly requesting the expertise 

and experience of SEC staff in dealing with insider 

trading, market manipulation, corporate governance, 

inspections and compliance, and a host of other market development and enforcement issues. Vietnam, 

Kuwait, and Iraq sought the SEC’s assistance in drafting new securities laws. The SEC staff also conducted 

or substantially participated in regional or bilateral 

training programs in China, India, Malaysia, 

Philippines, Thailand, Vietnam, Ecuador, Peru, 

Trinidad and Tobago, Bahrain, and Saudi Arabia.
Management’s Discussion and Analysis

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18 MANAGEMENT’S DISCUSSION AND ANALYSIS

Bilateral regulatory dialogues. The SEC also 

enhanced collaboration on regulatory issues by entering 

into dialogues with the China Securities Regulatory 

Commission, the Japan Financial Services Agency, and 

the Korea Financial Supervisory Commission. The 

objectives of the dialogues are to identify and discuss 

common regulatory concerns in the context of promoting converged approaches to regulatory issues, and to 

improve cooperation and the exchange of information 

in cross-border securities enforcement matters. 

Focusing on the Individual Investor

Protecting retirees and elderly investors. In 2006, 

at Chairman Cox’s direction, the SEC launched an 

initiative to focus on the protection of senior investors 

from investment fraud and the sales of unsuitable 

securities. The SEC held the first-ever “Seniors 

Summit” among federal and state regulators and other 

interested groups to examine how regulators and others can better coordinate efforts to protect older 

Americans from investment fraud and abusive sales 

practices. To further this effort, the SEC partnered 

with the North American Securities Administrators 

Association in a three-part strategy involving investor 

education, targeted examinations, and enforcement 

actions. The SEC’s Office of Investor Education and 

Assistance (OIEA) and staff in regional/district offices 

participated in numerous educational events targeted 

to seniors, and issued numerous investor alerts and 

publications aimed at senior investors. OIEA created a 

special web page to provide seniors and their caregivers 

with high-quality, unbiased investor education materials with information on investments commonly 

marketed to seniors, such as variable annuities, equityindexed annuities, and promissory notes, as well as 

tips for detecting and avoiding fraud. Examination 

staff in OCIE launched an examination sweep of more 

than 65 broker-dealers and advisers that sponsor “free 

lunch” sales seminars targeted to seniors, along with 

state securities regulators and the NASD and the New 

York Stock Exchange. The SEC has already brought 

several enforcement actions against fraudsters who 

would prey on seniors. 

Plain English—the new language of the SEC. In 

his testimony before the U.S. Senate Committee on 

Banking, Housing, and Urban Affairs, Chairman Cox 

identified plain English as one of four key initiatives to 

improve the quality and usefulness of disclosure for 

individual investors. As discussed above, the SEC has 

adopted rule changes to improve the quality of executive compensation disclosure and require that 

companies present that disclosure in plain English, 

rather than boilerplate or legalese. 

Searchable text on EDGAR. In FY 2006, the SEC 

enhanced the search capabilities of EDGAR by adding a full-text search feature that allows the public to 

search the complete text of EDGAR filings from the 

past two years on the SEC website. Users now can 

search by any keyword or concept, within specified 

date ranges, form types, or company names. The public also now will be able to retrieve mutual fund filings 

more easily by fund or share class. 

Point of sale disclosure. As part of a continuing 

effort to strengthen disclosures to investors, the staff 

continued to gather information to help the 

Commission finalize its point of sale disclosure proposal. Unlike the confirmation, which comes after the 

trade is executed, the “point of sale” document would 

be delivered to investors at the time they are making 

their investment decisions. The proposal would require 

broker-dealers to disclose to their customers the costs 

and conflicts of interest that arise from the distribution of mutual funds, variable annuities, and 529 

college savings plans. In light of comments received, 

the staff is considering how best to incorporate new 

technologies into disclosure requirements in a way that 

will benefit a wide range of retail investors.
Management’s Discussion and Analysis

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19 MANAGEMENT’S DISCUSSION AND ANALYSIS

Managing the SEC More Effectively

Improved budget process. In July, 2006 the SEC 

implemented the initial phase of the Budget and 

Program Performance Analysis System (BPPAS), an 

activity-based costing and performance-based budgeting system, which will significantly enhance the SEC’s 

capabilities to report and analyze its financial planning, budgeting, cost-assignment, and operations 

performance. BPPAS is an important tool for managers and staff, providing a detailed picture of the 

Commission’s operations and effectiveness. In addition, BPPAS has further strengthened the budget 

process by providing more auditable and transparent 

budget formulation and execution processes. The SEC 

also applied additional resources to its budget processes and enhanced its long-range planning in the 

administrative and facilities areas.

Strengthened internal controls. The SEC made 

substantial progress in strengthening its agency-wide 

internal controls. The agency resolved each of the 

three material weaknesses identified in prior year 

financial statement audits, and laid the groundwork 

for further improvements in FY 2007. The SEC’s 

planned actions in these areas are designed to address 

the reportable conditions identified by the Government 

Accountability Office (GAO) during its FY 2006 

financial audit. For a more complete discussion of the 

SEC’s ongoing efforts to strengthen internal controls, 

see the Challenges and Management Controls and 

Compliance with Laws and Regulations sections. 

Information technology investments. The SEC 

continued to build upon a voluntary program initiated 

in FY 2005 that allows registrants to use eXtensible 

Business Reporting Language in their financial disclosure filings. In early 2006, an interactive data test group 

was launched to explore how new Internet-based reporting technologies can improve the financial reporting 

process for investors, financial intermediaries, the SEC, 

and companies themselves. The pilot program enables 

participant companies to determine the benefits of 

using interactive data and provide feedback to the SEC, 

and enables investors and analysts to assess new technologies for analyzing interactive data reports submitted 

to the SEC in XBRL format. 

The SEC’s examination program spends a great deal 

of time analyzing the quantitative information 

obtained from regulated entities during the course of 

inspections, in areas such as trading activity, securities 

holdings, and other details of the business conducted. 

The new prototype Data Analysis and Reporting Tool 

(DART) provides OCIE automated analysis capabilities that will enable examiners to more quickly identify 

compliance issues and conduct inspections in a more 

efficient and timely manner.

During FY 2006, the SEC initiated several projects 

to increase productivity; measure, analyze and improve 

organizational performance; and improve the quality 

of services supporting the Commission’s divisions and 

offices. These initiatives included upgrading and automating back-office operations in the areas of capital 

planning and investment control; budget formulation 

and financial management; and procurement and contracting. The new Strategic Acquisition Management 

(SAM) system will provide accurate and timely procurement information that will help the SEC reduce 

costs, leverage its spending power, manage expenditures, and measure supplier performance.
Management’s Discussion and Analysis

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20 MANAGEMENT’S DISCUSSION AND ANALYSIS

EXHIBIT 1.6

Milestones for Major IT Projects

FY05 FY06

Modify EDGAR to accommodate interactive data in XBRL format 

for financial reports Initiated In Progress

Transition EDGAR system management to new contract Initiated In Progress

Enhance SEC.gov to improve EDGAR data searches and 

accessibility for investors Initiated In Progress

Image backlog of paper-based discovery documents In Progress In Progress

Provide fully automated processing of options trade records in 

support of enforcement investigations In Progress Completed

Redesign the enforcement case management system to improve 

management of penalties and disgorgement Initiated In Progress

Upgrade analytical tools available to examiners Initiated In Progress

Implement new systems to support expansion of telework In Progress Completed

Migrate to alternate data center Completed

Certify and accredit major systems for information security risk In Progress Completed

Implement Homeland Security Presidential Directive 12 for 

personnel identity verification and access control Initiated In Progress

Expanded telework program. The SEC has dramatically increased its telework participation rate in 

the past year. Currently, 34 percent of SEC employees 

telework. This statistic is particularly notable since the 

SEC is one of the few federal agencies that do not 

exclude certain job functions or groups of employees 

from telework. In FY 2006 the SEC purchased and 

deployed new technology that allows employees to 

access their files via the Internet at any time or location, thereby facilitating more telework without 

compromising the security of the SEC’s information. 

Also, the SEC continued its pilot “virtual workforce” 

project in the Division of Corporation Finance, in 

which an initial group of 10 employees works from 

home full-time. The SEC is exploring options for 

expanding the program to other parts of the agency. 

Completed building projects. The Chairman successfully restructured the FY 2006 budget to cover all 

of the build-out costs related to the agency’s new 

Washington, New York, and Boston offices up front, 

rather than spreading them out over several years. As a 

result, the SEC avoided spending millions of dollars 

on unnecessary financing costs. These three construction projects were completed in spring 2006, and the 

Office of Administrative Services successfully moved 

nearly 1,400 staff into the new facilities.
Management’s Discussion and Analysis

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21 MANAGEMENT’S DISCUSSION AND ANALYSIS

The SEC undertook a variety of actions in FY 2006 to address the challenges highlighted in last 

year’s Performance and Accountability Report, as well as new issues that have emerged. The following section discusses the SEC’s key challenges and the steps the agency is taking to meet them.

CHALLENGES

Strengthening Internal Controls

The SEC aims to set the standard for internal controls 

against which federal agencies are measured. In FY 

2006, the agency resolved each of the three material 

weaknesses identified by the Government 

Accountability Office in their financial audits for FY 

2004 and FY 2005. The SEC will continue to evaluate 

and strengthen its controls in all operational areas during FY 2007, to ensure reliability of financial reporting, 

soundness of its operations, and public confidence in 

the agency’s mission.

Financial statement preparation process. The 

SEC made substantial improvements in its financial 

reporting procedures during FY 2006, the agency’s 

third year of preparing audited financial statements. 

Among other initiatives, the Office of Financial 

Management: (i) completed documentation of a comprehensive set of policies and procedures for financial 

reporting; (ii) improved documentation of the audit 

trail between general ledger accounts and the financial statements; (iii) prepared interim financial 

statement notes for review by senior management; 

and (iv) added key staff with expertise in governmental financial reporting. In addition, the SEC 

formalized the membership, procedures, and responsibilities of the Financial Management Oversight 

Committee, which has oversight responsibility with 

respect to all aspects of the SEC’s financial management, including financial reporting and internal 

controls. The Committee is comprised of the Director 

of Corporation Finance, the Director of Enforcement, 

the General Counsel, the Chief Accountant, the 

Executive Director, and the Chief Financial Officer, 

and chaired by the Chairman. 

In FY 2007, the SEC will seek to build on these 

improvements by, among other things: (i) further educating staff throughout the SEC on the agency’s internal 

controls over financial reporting; (ii) strengthening controls over the recording of property and equipment and 

payroll expenses; (iii) utilizing new information systems 

to facilitate the preparation of financial statements; and 

(iv) introducing new procedures for management’s 

assessment of internal controls, to ensure compliance 

with the requirements of OMB Circular A-123 on 

Management’s Responsibility for Internal Control. 

Recording and reporting of disgorgement and 

penalties. During FY 2006, the SEC took a number 

of important steps to ensure the integrity of enforcement-related disgorgement and penalty data. To 

address inaccuracies in the existing database, the 

Division of Enforcement completed a comprehensive 

Delinquent Debt Project, which involved verifying the 

recorded data with respect to all outstanding enforcement debts and taking appropriate steps regarding the 

collection of those debts. The Division also conducted 

an internal audit of year-end enforcement receivables. 

To ensure the quality of new data going forward, the 

SEC introduced new controls over the recording of 

enforcement receivables. These controls involve the 

participation of the Office of the Secretary and the 

Office of Financial Management, in addition to the 

Division of Enforcement, and they are designed to 

make certain that the disgorgement and penalty data 

recorded and reported on the SEC’s financial statements are accurate, timely, and complete. The agency 

also completed the design of a new financial management information system for tracking disgorgement 

and penalties that will replace the financial portion of 

Enforcement’s existing case tracking database.
Management’s Discussion and Analysis

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22 MANAGEMENT’S DISCUSSION AND ANALYSIS

In FY 2007, the SEC will continue to strengthen 

the financial management of all aspects of the enforcement program. The SEC’s planned actions are designed 

to address the reportable conditions in this area identified during GAO’s FY 2006 financial audit. The Office 

of Information Technology (OIT) expects to roll out 

the new financial management system for disgorgement and penalties by the second quarter, and OIT 

will be working on additional systems improvements 

to enhance the tracking and management of money 

ordered in enforcement cases. The Division of 

Enforcement will continue its efforts to educate all 

enforcement attorneys about the additional steps necessary to maintain strong internal controls at the SEC 

and to ensure transparency and uniformity in the 

agency’s approach to monetary sanctions. Another priority for the SEC, as discussed in the following section, 

is to achieve greater efficiencies in the management 

and distribution to harmed investors of fair funds and 

other distribution funds.

Information security. During the past year, the 

SEC implemented a wide variety of new policies and 

procedures governing the assessment and management 

of information security risk. These procedures include 

comprehensive approaches for identifying security 

risk; configuring, testing, and monitoring information 

systems; incident response; remedial action tracking; 

and many other areas. The SEC also completed the 

certification and accreditation of its major systems, 

and conducted awareness training for 99 percent of 

SEC staff. In addition, the agency also established and 

tested its disaster recovery and business continuity 

plans in accordance with recommendations from previous years.

The SEC will refine and extend the procedures and 

management controls put in place during FY 2006 to 

reduce the residual risk. The most important of these 

will be improvements in the processes for controlling 

changes to the technical environment, strengthening 

the management of user accounts and passwords, and 

measures to tighten the physical perimeter around 

sensitive areas of the SEC’s premises. In addition, the 

agency will remediate a number of specific technical 

issues in such areas as patch management, data security, 

and intrusion detection systems. The SEC’s planned 

actions with respect to information security are designed 

to address the reportable conditions in this area identified during GAO’s FY 2006 financial audit.

Recording and reporting of property and equipment. The SEC’s asset balances for property and 

equipment have increased substantially as a result of 

the growth and relocation of the agency’s staff in recent 

years. The GAO audit found inaccuracies in recording 

of acquisition costs and dates and capitalization of 

internal use software. To address these issues, the 

agency’s property management policies will be updated 

in FY 2007 to reflect the current organizational structure and revised business processes. To enhance data 

integrity and maximize the integration of the agency’s 

financial systems, the SEC has begun to prepare 

requirements to replace the agency’s current outdated 

asset management system. While replacement of the 

management information system will likely be a multiyear effort, the program will be strengthened in FY 

2007 to ensure data integrity and timeliness by updating the policies, training staff on the new policies, and 

increasing quality checks throughout the year.

Efficiently Distributing Funds 

to Investors

Another high priority challenge for the SEC is improving the administration and distribution of fair funds 

and other distribution funds for the benefit of victims 

of securities law violations. The fair funds provision of 

the Sarbanes-Oxley Act of 2002 authorizes the SEC, 

in certain circumstances, to take penalties collected in 

enforcement cases and add them to disgorgement 

funds, making it possible to provide greater recovery 

to harmed investors. Fair funds and other distribution 
Management’s Discussion and Analysis

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23 MANAGEMENT’S DISCUSSION AND ANALYSIS

funds are collected by the SEC; and prior to distribution to harmed investors, these monies are generally 

held by the SEC in administrative cases and held by 

courts in civil cases.

Since 2002, the SEC has collected approximately 

$8 billion for distribution to harmed investors. The 

agency is continuing to meet the challenges of developing and administering distribution plans for this 

money, in what are often complex cases involving 

hundreds of thousands of injured investors. These 

challenges include: determining what classes of investors, during what time period, were harmed, and the 

relative harm to each particular class of investor; 

evaluating the potential tax consequences and other 

costs of a particular distribution; and managing the 

mechanics of a distribution, which involves locating 

and sending checks to what are often large numbers 

of investors. In recent years, the SEC has come up a 

steep learning curve with respect to these issues, and 

is now using that learning to speed the distribution 

of these funds. 

During FY 2006, approximately $700 million of 

these funds were distributed to investors, including 

significant distributions related to the Global Research 

Analysts, NYSE specialists, and Bristol-Myers Squib 

enforcement matters. Also, the SEC staff regularly 

held conference calls with all of the Independent 

Distribution Consultants appointed to assist in distribution of the 26 fair funds established in the recent 

market timing and late trading mutual fund scandals, 

as well as engaged in one-on-one consultations with 

the IDCs. These calls assisted in working through the 

many issues arising in those cases and have added consistency to the agency’s approach in these distributions. 

Additionally, the staff worked closely with representatives of the IRS and the Department of Labor on issues 

within their respective expertise related to these complex distributions. 

In FY 2007, the SEC expects to distribute a significant amount of the approximately $3.3 billion dollars 

collected for distribution in those 26 mutual fund 

cases. In addition, the agency expects the distributions 

of $750 million from the WorldCom fair fund and 

$300 million from the Time-Warner AOL fair fund to 

commence in the first half of FY 2007.

The SEC has also taken several steps to increase the 

amounts returned to harmed investors. In particular, 

in administrative orders, the SEC now generally 

requires settling respondents to pay the costs of distributions. The SEC also seeks to consolidate funds from 

related cases, where appropriate. This step can save 

investors hundreds of thousands of dollars in separate, 

duplicative distribution actions. Similarly, where 

appropriate, the SEC seeks to save costs by distributing funds together with related private class actions. In 

such cases, the agency always ensures that no SEC 

recoveries are used to pay private class action lawyer 

fees. Finally, the SEC seeks to ensure that fair fund 

monies held by the SEC pending distribution are earning interest. To this end, the SEC has established an 

agreement with the Bureau of the Public Debt, pursuant to which nearly all disgorgement and penalty funds 

collected in administrative proceedings are invested in 

short-term Treasury securities, pending their distribution to injured investors.

Going forward, the SEC will continue to look for 

ways to streamline the distribution process so that 

monies are returned to harmed investors efficiently 

and in a timely manner.

Leveraging Information Technology

The SEC continues to make significant investments in 

information technology to support its business processes and improve the agency’s performance of its 

mission; however, a number of important challenges 

remain to be addressed in the coming years. 

Investor disclosure. While the SEC disseminates 

over 700,000 documents annually to the public, most 

of those filings are in text-based formats that can be 

difficult to efficiently search and analyze. The SEC 
Management’s Discussion and Analysis

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24 MANAGEMENT’S DISCUSSION AND ANALYSIS

has embarked on a major “interactive data” initiative 

to make the information much more easy to use, leveraging modern software technologies and data 

interchange formats such as eXtensible Business 

Reporting Language (XBRL).

Enforcement and examination management. 

The enforcement and examination programs comprise 

over 1,900 staff, and are critical to the SEC’s investor 

protection mission. The management information systems used to oversee these programs, however, are 

antiquated and do not provide the kind of high-quality 

information capture and reporting that is required for 

such large programs. The SEC began a multiyear initiative to upgrade or replace these systems in 2006 

beginning with a new system for tracking disgorgements and penalties, and plans to upgrade or replace 

the other key systems over the next two years.

Back office and financial systems. The SEC has 

historically not invested sufficiently in its administrative systems infrastructure, which has been a 

contributing factor to the internal controls issues discussed elsewhere in this report. The agency began to 

address these issues in 2006 with an upgrade to the 

core accounting system and other investments in procurement and budgeting systems; over the next three 

years, additional upgrades are planned.

Enhancing Risk Assessment

The SEC seeks to target its resources toward the fraudulent, illegal, or questionable practices that pose the 

greatest risks to investors and the markets. During FY 

2006, under the leadership of the Office of Risk 

Assessment, the SEC worked to fully integrate risk 

assessment practices into its operations, particularly in 

the enforcement, examination, and disclosure review 

programs. For example, the SEC’s examination program has employed techniques such as risk profiling 

and deploying monitoring teams at large advisory 

firms to better assist in risk assessment and detection 

and prioritize inspections. In addition, the agency 

piloted an IT system that will help SEC staff identify, 

prioritize, and manage the risks within each program 

area. As noted in the Inspector General’s Summary of 

Management Challenges, in Section 3, the SEC plans 

to enhance further its risk assessment capabilities, by 

thinking strategically, identifying and prioritizing 

emerging issues, and coordinating agency resources 

and activities accordingly.

Human Capital Management

The SEC was proud to be named one of the top five 

places to work in the federal government, according to 

a survey conducted by U.S. News & World Report and 

the Partnership for Public Service. This honor is a testament to the agency’s efforts over the last several years 

to improve its human capital management practices. 

However, more work remains to be done in this area, 

as the SEC continues to work in a challenging human 

capital environment and has been experiencing a rising attrition rate. 

The Office of Human Resources (OHR) has 

adopted a set of strategic initiatives and a plan to organize its staff in alignment with the Human Capital 

Assessment and Accountability Framework developed 

by the Office of Management and Budget, the Office 

of Personnel Management, and the Government 

Accountability Office. OHR developed a strategy map 

and balanced scorecard to support effective execution 

of its strategy. However, the SEC still must work to 

complete implementation of its balanced scorecard in 

2007, so it can be used to gauge the SEC’s progress on 

its human capital goals and refine the agency’s strategies and initiatives as appropriate.

Using this underlying framework, the SEC then 

must work to improve some important facets of its 

human capital planning. In the coming months, the 

agency will develop the framework for a comprehensive knowledge management program, establish a 
Management’s Discussion and Analysis

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25 MANAGEMENT’S DISCUSSION AND ANALYSIS

leadership curriculum to address succession planning 

needs, and use competency gap data to improve its 

training needs assessment system. In addition, the 

SEC will focus its attention on integrating all of its 

human capital systems, including those for performance management, selection, leadership and 

knowledge management, and succession planning. 

This integration should improve the coordination and 

information flow among the systems, which will 

improve the agency’s human capital decision making.
Management’s Discussion and Analysis

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26 MANAGEMENT’S DISCUSSION AND ANALYSIS

SEC management is responsible for the fair presentation of the principal financial statements in 

conformity with U.S. generally accepted accounting principles and the requirements of OMB Circular 

A-136, Financial Reporting Requirements. Management is also responsible for the fair presentation 

of the SEC’s performance measures in accordance with OMB requirements. The quality of the 

SEC’s internal control rests with management, as does the responsibility for identifying and complying with pertinent laws and regulations.

MANAGEMENT CONTROLS AND COMPLIANCE WITH LAWS AND REGULATIONS

Chairman’s Assurance Statement

Management controls in effect during FY 2006 provided reasonable assurance that, taken as a whole, the SEC’s system of 

internal controls is achieving its objectives under Sections 2 

and 4 of the Federal Managers’ Financial Integrity Act. 

Christopher Cox

Chairman

Federal Managers’ Financial 

Integrity Act

The Federal Managers’ Financial Integrity Act of 1982 

(FMFIA) requires agencies to establish management 

controls over their programs and financial systems. 

Specifically, Section 2 of the Act requires an annual 

assessment of internal controls necessary to ensure 

compliance with applicable laws; protect against loss 

from waste, fraud, and abuse; and ensure receivables 

and expenditures are properly recorded. Section 4 

requires an assessment of conformance with government-wide financial system requirements. 

In accordance with guidance issued by the SEC’s 

Office of the Executive Director, 28 office heads conducted reviews of their financial, administrative, and 

program management controls. The offices range in 

size from 6 to 602 positions, with an average of 131 

positions at the end of FY 2006. This segmentation 

ensures comprehensive coverage of all SEC offices.

Each office head prepared an annual assurance 

statement that identified any control deficiencies that 

merit the attention of the Chairman. 

These statements were based on information 

gathered from various sources, including, among 

other things:

• Management’s personal knowledge gained from 

the daily operation of the office;

• Management reviews and dashboard reports 

(which are monthly reports used to track the 

progress on operational, budgetary, and staffing 

objectives, and to adjust processes and resources 

as necessary);

• Government Accountability Office and Office of 

Inspector General reports;

• Self-assessments;

• Annual performance plans and reports;

• Audits of the agency’s financial statements;

• Reports and other information from Congress, 

the Office of Management and Budget, the 

Office of Personnel Management, or similar 

agencies; and

• Other reviews relating to the office’s operations.

Upon evaluation of the Section 2 and 4 submissions, recommendations from the Office of the 

Inspector General, and other supplemental sources of 

information, the agency’s Financial Management 

Oversight Committee advised the Chairman whether 

the SEC had any management control deficiencies 

serious enough to be reported as a material weakness 

or nonconformance.

To be considered a material weakness in management control for FMFIA reporting purposes, the 

deficiency should be significant enough that it meets 

one or more of the FMFIA material weakness criteria. 
Management’s Discussion and Analysis

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27 MANAGEMENT’S DISCUSSION AND ANALYSIS

The accompanying chart describes the criteria that the 

SEC uses for the FMFIA review. 

Material Weakness Criteria

• Significantly impairs the fulfillment of the SEC’s mission.

• Deprives the public of needed services.

• Violates statutory or regulatory requirements.

• Significantly weakens established safeguards against waste, 

loss, unauthorized use or misappropriation of funds, property, other assets.

• Results in financial or program information that is significantly 

in error, or incomplete.

• Results in conflict of interest.

• Merits the attention of the Chairman, the President, or a relevant Congressional oversight committee.

• Of a nature that omission from the report could reflect 

adversely on the SEC’s management integrity.

Management concluded that controls in effect during FY 2006 provided reasonable assurance that the 

SEC’s system of internal controls is achieving its objectives under Sections 2 and 4 of the FMFIA, and that 

the SEC has no material weaknesses in internal controls. As described below, the SEC fully resolved the 

four material weaknesses reported as a result of last 

year’s FMFIA review process. 

Other Reviews

Also during the year, the Office of Inspector General 

and the Office of Information Technology conducted 

a combined total of 22 alternative reviews. More than 

half of all Commission offices were reviewed. Several 

offices underwent multiple reviews. 

Further, the Office of Information Technology 

certified and accredited eight major applications; 

recertified the agency’s accounting and general support systems because of major upgrades; and 

completed 14 electronic authentication risk assessments. E-authentication is a review process at the 

transaction level designed to help agencies ensure 

that authentication processes provide the appropriate 

level of assurance. 

Finally, GAO audited the Commission’s financial 

statements. GAO’s procedures included audits of the 

FY 2006 financial statements, internal controls over 

the financial systems and operating procedures affecting the statements, the SEC’s compliance with selected 

provisions of law and regulations applicable to the 

management of financial resources, and actions taken 

in response to prior GAO audit recommendations.

Status of Internal Controls over 

Financial Reporting

In FY 2006 the SEC focused substantial effort on 

resolving three material weaknesses in internal controls 

over financial reporting. Those efforts were successful 

and, as confirmed in the auditor’s report, the SEC now 

has no material weaknesses in internal controls. Plans 

for FY 2007 will address reportable conditions identified by GAO in the FY 2006 financial audit. 

The following is a summary of the status of the 

SEC’s efforts in these areas, which are also discussed 

in the Challenges section.

Financial statement preparation process

Description. In FY 2005, the SEC had a material 

weakness related to its preparation of financial statements, due, among other things, to incomplete 

documentation of policies and procedures, weaknesses 

in the audit trail between general ledger accounts and 

the financial statements, and insufficient staff. 

Corrective actions taken. The SEC made substantial improvements in its financial reporting 

procedures during FY 2006, resolving the material 

weakness. Among other initiatives, the Office of 

Financial Management: completed documentation 

of key policies and procedures for financial reporting; improved documentation of the audit trail 

between general ledger accounts and the financial 

statements; prepared interim financial statement 
Management’s Discussion and Analysis

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28 MANAGEMENT’S DISCUSSION AND ANALYSIS

notes; and added key staff. In addition, the SEC 

formalized the membership, procedures, and 

responsibilities of the Financial Management 

Oversight Committee. 

Further actions planned. In FY 2007, the SEC 

will seek to build on these improvements by, among 

other things: further educating staff about internal 

controls; strengthening controls over the recording 

of property and equipment and payroll expenses; utilizing new information systems to facilitate the 

preparation of financial statements; and introducing 

new procedures for management’s assessment of 

internal controls, to ensure compliance with the 

requirements of OMB Circular A-123 on 

Management’s Responsibility for Internal Control. 

Reporting and recording of disgorgement 

and penalties

Description. In FY 2005, the SEC had a material 

weakness related to its recording and reporting of disgorgement and penalties ordered as a result of SEC 

enforcement actions. Limitations in the database used 

to track and record disgorgement and penalty activity, 

inadequate coordination between different SEC 

offices, and incomplete policies and procedures had 

resulted in financial data inaccuracies. 

Corrective actions taken. During FY 2006, the 

SEC took a number of important steps to ensure the 

integrity of enforcement-related disgorgement and 

penalty data: the Division of Enforcement completed 

a comprehensive Delinquent Debt Project; the agency 

introduced new controls over the recording of 

enforcement receivables; and the agency completed 

the design of a new financial management information system for tracking disgorgement and penalties 

that will replace the financial portion of Enforcement’s 

existing case tracking database. 

Further actions planned. In FY 2007, the SEC 

will continue to strengthen the financial management 

of all aspects of the enforcement program: OIT expects 

to roll out the new financial management system for 

disgorgement and penalties by the second quarter; 

Enforcement will continue its efforts to educate all 

enforcement attorneys about the additional steps necessary to maintain strong internal controls; and the 

agency will continue to seek greater efficiencies in the 

management and distribution to investors of fair funds 

and other distribution funds.

Information security

Description. Effective information system controls 

are required to provide assurance that financial information is adequately protected from misuse, fraud, 

improper disclosure, or destruction. These controls 

take the form of technical safeguards, such as firewalls and application design, as well as procedural 

controls, such as access management and segregation 

of duties. The SEC has previously reported a material 

weakness related to its information systems and security controls. These issues stemmed from the historical 

lack of a comprehensive agency program to manage 

information security, as well as a number of specific 

technical weaknesses. 

The GAO audit for FY 2006 revealed notable progress on all fronts. In particular, the auditors noted 

significant improvements in the overall management 

of the information security program, and found that 

51 of the 65 open findings from the previous two years’ 

audit cycles had been resolved. In addition, they noted 

strong improvements in logical access controls (e.g., 

password management, database controls) and business continuity planning. The auditors also identified 

areas where further progress is needed; these include 

ensuring proper controls over changes to systems, 

securing physical access to systems and sensitive areas, 

and appropriately segregating duties and roles within 

information systems. As a result of the progress made 

over the last year, GAO determined that while these 
Management’s Discussion and Analysis

Page 38 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

29 MANAGEMENT’S DISCUSSION AND ANALYSIS

security gaps still constitute a reportable condition 

that risk no longer constitutes a material weakness in 

internal controls. 

Corrective actions taken. During the past year, 

the SEC implemented a wide variety of new policies 

and procedures governing the assessment and management of information security risk. These procedures 

include comprehensive approaches for identifying 

security risk; configuring, testing, and monitoring 

information systems; incident response; remedial 

action tracking; and many other areas. The SEC also 

completed the certification and accreditation of its 

major systems, and conducted awareness training for 

99 percent of SEC staff. The SEC also established and 

tested its disaster recovery and business continuity 

plans in accordance with recommendations from previous years.

Further actions planned. The SEC will refine and 

extend the procedures and management controls put 

in place during FY 2006 to reduce the residual risk. 

The most important of these will be improvements in 

the processes for controlling changes to the technical 

environment, strengthening the management of user 

accounts and passwords, and measures to tighten the 

physical perimeter around sensitive areas of the SEC’s 

premises. In addition, the agency will remediate a 

number of specific technical issues in such areas as 

patch management, data security, and intrusion detection systems.

Status of Controls over Budget Planning

Description. In May 2005, the SEC disclosed that it 

underfunded the construction and build-out of the 

agency’s new facilities in Washington, New York, and 

Boston by about $48 million. Although the SEC remedied the error by paying all of these expenses upfront, 

saving taxpayers millions in financing costs, this event 

also revealed an underlying weakness in the agency’s 

budget planning and facilities management processes, 

which was described in last year’s Performance and 

Accountability Report. A GAO study found that the 

SEC should, among other things, establish accountability at both the staff and management levels for the 

reasonableness of budget estimates, establish regular 

managerial review procedures related to these and 

future facilities projects, and add new budgeting and 

facilities management positions to the Office of 

Administrative Services and Office of Financial 

Management. In FY 2006, the SEC finished implementing the GAO recommendations and has now 

fully resolved this weakness.

Corrective actions taken. In July 2006, the SEC 

implemented the initial phase of the BPPAS system, 

an activity-based costing and performance-based 

budgeting system, which will significantly enhance 

the SEC’s capabilities to report and analyze its financial planning, budgeting, cost-assignment, and 

operations performance. BPPAS has further strengthened the budget process by providing more auditable 

and transparent budget formulation and execution 

processes. In addition, extensive consultations took 

place among SEC management, facilities and budgeting staff, the Office of Information Technology, 

and the agency’s program offices to ensure that all 

offices’ needs were addressed in both the construction and the budget for these projects. As a result of 

such efforts, the agency successfully completed all 

three facilities in spring 2006, and achieved $5 million in combined savings on these projects. The SEC 

also added staff resources to operate the new BPPAS 

system, conduct detailed analyses of funding requests, 

and enhance the agency’s facilities management function. With these and other steps completed, the SEC 

has fully addressed GAO’s recommendations.

Further actions planned. The SEC will continue 

to strengthen its budgeting and facilities management 

programs. The agency will further integrate the new 

BPPAS system into its operations, offering agency 

managers more detailed analyses than ever before 
Management’s Discussion and Analysis

Page 39 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

30 MANAGEMENT’S DISCUSSION AND ANALYSIS

about the costs of their programs. Also, the SEC will 

continue enhancing its long-range planning for the 

agency’s facilities and other administrative costs. 

Financial Management Systems

Although the SEC is not required to report under the 

Federal Financial Management Improvement Act, the 

agency assesses its financial systems annually, and 

engages in continuous efforts to strengthen and integrate financial management systems. An analysis of 

options for upgrading the accounting system will be 

initiated in early FY 2007. 

Federal Information Security 

Management Act

FISMA requires federal agencies to conduct an annual 

self-assessment of their IT security programs, to develop 

and implement remediation efforts for identified 

security weaknesses and vulnerabilities, and to report 

compliance to OMB. The SEC’s Inspector General 

and Chief Information Officer performed a joint 

review of the agency’s compliance with FISMA requirements, and submitted the report to OMB in late 

September. The report showed that the SEC had successfully eliminated six of the seven significant 

deficiencies identified during the 2005 FISMA review, 

with the seventh downgraded to a reportable condition. The report also identified five new reportable 

conditions, where the agency has opportunities to further improve its controls by strengthening risk 

assessment processes, improving the rigor of the certification and accreditation process, and conducting 

privacy impact assessments on key systems.

Prompt Payment Act

The Prompt Payment Act requires federal agencies to 

report on their efforts to make timely payments to 

vendors, including interest penalties for late payments. In FY 2006 the SEC did not incur interest 

penalties on 95 percent of the 14,228 vendor invoices 

processed, representing payments of approximately 

$247 million. Of the invoices that were not processed 

in a timely manner, the SEC was required to pay 

interest penalties on 769 invoices, but was not 

required to pay interest penalties on 776 invoices 

where the interest was calculated at less than $1. In 

FY 2006, the SEC paid approximately $69,000 in 

interest penalties, or $278 in interest penalties for 

every million dollars of vendor payments.

Improper Payments Information Act

The Improper Payments Information Act requires federal agencies to review annually all programs and 

activities they administer, identify those which may be 

susceptible to significant erroneous payments and the 

extent of the erroneous payments in its programs, and 

report the actions it is taking to reduce erroneous payments. During FY 2006, the SEC had controls in place 

to identify and correct erroneous payments which, in 

total, did not exceed the $10 million threshold.

Debt Collection Improvement Act

The Debt Collection Improvement Act prescribes standards for the administration, collection, compromise, 

suspension, and termination of federal agency collection actions and referral to the proper agency for 

litigation. In FY 2006, the SEC referred approximately 

$148 million to the Department of the Treasury for collection. Collections of delinquent debt by Treasury for 

the same period were approximately $244,000.
Management’s Discussion and Analysis

Page 40 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

31 MANAGEMENT’S DISCUSSION AND ANALYSIS

SECTION HEADER

FY 2006 marks the third year that the SEC has reported program performance in its annual 

Performance and Accountability Report.

The SEC’s performance measures were developed by a 

Government Performance and Results Act team consisting of dedicated staff from throughout the agency. 

The team strived to craft meaningful performance 

measures that best reflect the SEC’s progress in achieving the goals laid out in its five-year strategic plan.

In general, these measures gauge how much activity 

the SEC conducts in a given fiscal year, how quickly it 

accomplishes its tasks, and what effects these activities 

have on the markets and investors. Of these three components, measuring effectiveness is the most challenging 

for the SEC, as is the case for many regulatory and law 

PERFORMANCE MEASURES SUMMARY

enforcement agencies. In many instances, the agency’s 

impact can only be indirectly assessed. The agency will 

continue to explore ways to improve these measures, 

and this effort will be aided by the SEC’s new activitybased costing and performance-based budgeting system, 

which was implemented in FY 2006.

This fiscal year, the Commission worked diligently 

to meet or exceed performance targets. Of the 21 performance goals the Commission is reporting on in 

FY 2006, the SEC met or exceeded 15 goals.

A summary of the SEC’s major performance measures, organized by goal, is presented in Exhibit 1.7.
Management’s Discussion and Analysis

Page 41 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

32 MANAGEMENT’S DISCUSSION AND ANALYSIS

EXHIBIT 1.7

Performance Results Summary

GOAL 1

ENFORCE COMPLIANCE WITH THE FEDERAL SECURITIES LAWS FY06 PERFORMANCE

1. Number of Requests To and By Foreign Regulators for Enforcement Assistance +

2. Percentage of first enforcement cases filed within two years –

3. Enforcement cases successfully resolved +

4. Investment advisers and investment companies examined –

5. Distribution of cases across core enforcement areas +

GOAL 2

PROMOTE HEALTHY CAPITAL MARKETS THROUGH AN EFFECTIVE AND FLEXIBLE REGULATORY ENVIRONMENT FY06 PERFORMANCE

1. Global Access to U.S. markets:

a. Number of new foreign private issuers registering +

b. Dollar amount of securities registered by foreign private issuers –

2. Milestones achieved for international regulatory cooperation 

3. Percentage of responses to exemptive, no-action letter, and interpretive 

requests issued within six months 

4. Percentage of SRO rule filings closed in less than 60 days +

GOAL 3

FOSTER INFORMED INVESTMENT DECISION MAKING FY06 PERFORMANCE

1. Percentage of reporting corporations and investment companies with 

disclosures reviewed by the SEC:

a. Corporations +

b. Investment companies +

2. Percentage of investment adviser and investment company transactional 

reviews completed within timeliness goals +

3. Average time to issue initial comments on Securities Act filings +

4. Annual number of online searches for EDGAR filings +

5. Percentage of forms and submissions filed electronically 

and in a structured format 

6. Number and percentage of investor complaints, questions, and requests 

completed by the Office of Investor Education and Assistance (OIEA) within 

seven calendar days –

7. OIEA publications distributed by the GSA –

GOAL 4

MAXIMIZE THE USE OF SEC RESOURCES FY06 PERFORMANCE

1. Staff turnover rate –

2. Milestones achieved on major human capital initiatives 

3. Receive an unqualified audit opinion on the agency’s audited financial 

statements with no material weaknesses noted on the agency’s internal controls

a. Audit opinion +

b. Material weaknesses +

4. Percentage of IT projects that adhere to the agency’s capital planning 

investment control process +

5. Milestones for major IT projects 

Key: Level of Performance Attained

+ Exceeded Target or Prior Year Level

 Achieved Target or Maintained Prior Year Level

– Less than Target or Prior Year Level
Management’s Discussion and Analysis

Page 42 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

33 MANAGEMENT’S DISCUSSION AND ANALYSIS

FINANCIAL HIGHLIGHTS SECTION HEADER

The SEC’s financial statements present the financial position, net cost of operations, changes in net 

position, budgetary resources, financing, and custodial and fiduciary activities of the SEC’s core 

business activities as of and for the fiscal years ended September 30, 2006 and 2005.

Overview

The SEC’s financial statements were prepared in conformity with U.S. generally accepted accounting 

principles and OMB Circular A-136, Financial 

Reporting Requirements. The financial statements, 

footnotes, and auditor’s opinion appear in Section 3 of 

this Performance and Accountability Report. A summary of the SEC’s major financial activities in FY 

2006 and 2005 is presented below.

Assets

The SEC’s assets are classified as either “entity assets” 

or “non-entity” assets. Entity assets belong to the 

agency, and can be used to fund SEC’s operations to 

the extent authorized by Congress. The SEC earns 

revenues through the collections of transaction fees 

from securities exchanges and registration fees from 

issuers. These amounts can be used by the agency only 

to the extent of spending limits enacted by Congress. 

Amounts collected in excess of such spending limits 

are considered restricted entity assets, and can be used 

only when subsequently authorized by Congress.

Non-entity assets are assets that are held by the 

SEC on behalf of another federal agency or other 

third party. The SEC’s non-entity assets primarily 

relate to disgorgement and penalties ordered in 

enforcement proceedings against securities law violators. The SEC records receivables when such amounts 

are payable directly to the SEC, but not when they 

are payable to a court, receiver, or other third party. 

Once collected, these amounts are either sent to the 

General Fund of the Treasury or held for distribution 

to harmed investors. Amounts held pending distribution to investors are generally invested in short-term 

Treasury securities.

EXHIBIT 1.8

Assets at September 30, 2006 and 2005

ENTITY ASSETS NON-ENTITY

(DOLLARS IN THOUSANDS) ENTITY ASSETS RESTRICTED ASSETS TOTAL

September 30, 2006

Fund Balance With Treasury $353,913 $4,752,856 $ 72,124 $ 5,178,893

Cash — — — —

Investments — — 3,674,528 3,674,528

Accounts Receivable—Federal Agencies 131 — 154,375 154,506

Accounts Receivable—Public 105,946 — 71,545 177,491

Advances and Prepayments 974 — — 974

Property and Equipment, Net 103,631 — — 103,631

Total Assets—FY 2006 $564,595 $4,752,856 $3,972,572 $9,290,023

September 30, 2005

Fund Balance With Treasury $ 371,798 $3,703,675 $ 273,463 $4,348,936

Cash 9 — — 9

Investments — — 1,768,024 1,768,024

Accounts Receivable—Federal Agencies 194 — — 194

Accounts Receivable—Public 126,889 — 95,512 222,401

Advances and Prepayments 657 — — 657

Property and Equipment, Net 73,309 — — 73,309

Total Assets—FY 2005 $572,856 $3,703,675 $2,136,999 $ 6,413,530
Management’s Discussion and Analysis

Page 43 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

34 MANAGEMENT’S DISCUSSION AND ANALYSIS

Fund Balance With Treasury

Fund Balance With Treasury includes the following 

assets: (1) restricted balances that cannot be used without further authorization by Congress; (2) unrestricted 

balances available to finance expenditures; (3) uninvested fiduciary assets, consisting of disgorgement, 

penalties, and interest held by the SEC pending distribution to harmed investors or remittance to the General 

Fund of the Treasury; and (4) registrant deposits, representing excess filing fees paid by registrants.

At September 30, 2006 and 2005, Fund Balance 

With Treasury was $5,178.9 million (representing 

55.7 percent of total assets) and $4,348.9 million 

(representing 67.8 percent of total assets), respectively. 

The increase at fiscal year-end 2006 was due mainly 

to an increase in restricted entity assets, representing 

transaction and registration fee revenues, offset in 

part by a reduction in uninvested fiduciary assets. 

EXHIBIT 1.9

Fund Balance With Treasury at Year-End

(DOLLARS IN THOUSANDS)

As presented in Exhibit 1.9, restricted funds are 

the bulk of the SEC’s Fund Balance With Treasury. 

These funds represent primarily the cumulative 

amount of transaction and registration fees paid to 

the SEC since 1991 in excess of what the agency has 

been authorized by Congress to use to fund its 

annual operations.

Investments

EXHIBIT 1.10

Fiduciary Investments

(DOLLARS IN THOUSANDS)

The SEC’s Investments balance totaled $3,674.5 million and $1,768.0 million at September 30, 2006 and 

2005, respectively. These investments consisted 

entirely of disgorgement and penalties collected from 

securities law violators (and interest earned thereon), 

which are held by the SEC pending future distribution 

to harmed investors. The SEC invests these funds in 

overnight and short-term market-based Treasury bills 

issued through the Treasury Department’s Bureau of 

Public Debt. The increase in the investment balance at 

fiscal year-end 2006 represents an increase in funds 

collected from securities law violators, as well as the 

transfer to SEC custody of certain amounts that were 

previously being held with third party escrow agents. 

$2,500,000

$2,000,000

$1,500,000

$1,000,000

$500,000

$0

$3,000,000

$3,500,000

$4,000,000

FY05

$1,768,024

FY06

$3,674,528

$2,500,000

$2,000,000

$1,500,000

$1,000,000

$500,000

$0

$3,000,000

$3,500,000

$4,000,000

Restricted Entity Funds

Unrestricted Entity Funds

Other Non-Entity Assets

Registrant Deposit Accounts (Non-Entity Assets)

FY05

$3,703,675

$371,798

$207,529$65,934

FY06

$4,752,856

$353,913

$14,660 $57,464

$4,500,000

$5,000,000
Management’s Discussion and Analysis

Page 44 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

35 MANAGEMENT’S DISCUSSION AND ANALYSIS

The SEC expects to distribute to investors during 

FY 2007 a substantial portion of the amounts held for 

investment at fiscal year-end 2006.

Accounts Receivable

EXHIBIT 1.11

Accounts Receivable

(DOLLARS IN THOUSANDS)

At September 30, 2006 and 2005, the SEC’s net accounts 

receivable totaled $332.0 million and $222.6 million, 

respectively. These amounts consisted of gross accounts 

receivable of $508.1 million and $1,491.7 million, 

respectively, offset by an estimated allowance for 

doubtful accounts of $176.1 million and $1,269.1 million, respectively.

The largest portion of the SEC’s gross accounts 

receivable relates to disgorgement and penalties 

assessed against securities law violators in enforcement proceedings. As noted above, the SEC records 

receivables when such amounts are payable directly to 

the SEC, but not when they are payable to a court, 

receiver, or other third party. The SEC also records 

receivables in the event that amounts collected by a 

court or third party are transferred to the SEC, pursuant to a Commission or court order. At September 

30, 2006, accounts receivables included approximately $154.4 million due from a district court, which 

will be combined with existing fair funds in the SEC’s 

custody for distribution to harmed investors.

The SEC’s allowance for doubtful accounts is the 

agency’s estimate of how much of the gross accounts 

receivable are uncollectible. The overall allowance is 

based on an analysis of certain large individual accounts 

receivable and historical collection activity that is 

applied to the balance of the accounts receivable.

Effective June 30, 2006, the SEC implemented a 

new method for writing off debts that are two or more 

years old. The new write-off method calls for the SEC 

to write off debts that are two or more years old by 

removing the amount of the debts from the gross 

accounts receivable and any related allowance for 

doubtful accounts. This write-off policy is consistent 

with prior SEC policy on the calculation of the allowance for doubtful accounts, which called for a 100 

percent reserve of any debt that was two or more years 

old. By implementing the new method, the SEC 

removed $1,081 million of debts as well as the corresponding allowance for doubtful accounts. The effect 

of this change in accounting method is seen in the 

September 30, 2006 balance of gross accounts receivable and the related allowance for disgorgements and 

penalties. The write-off policy does not affect the 

enforceability of the debts or agency’s efforts to collect 

delinquent debts.

Property and Equipment

The SEC’s property and equipment consists of software and general purpose equipment used by the 

agency; capital improvements made to buildings leased 

by the SEC for office space; and internal use software 

development costs for projects in development. The 

net cost of the SEC’s property and equipment for the 

last two years is summarized in Exhibit 1.12.

$1,250,000

$1,000,000

$750,000

$500,000

$250,000

$0

$1,500,000

Allowance

Net Receivables

 FY06 FY05

Disgorgement & 

Penalties (NonEntity Assets)

$176,086

$225,920

$1,269,099

$95,511

$5

$105,643

$0

$126,615 $2

$434

$7

$468

 FY06 FY05

Exchange Fees 

& Filing Fees

 FY06 FY05

Other 

Receivables
Management’s Discussion and Analysis

Page 45 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

36 MANAGEMENT’S DISCUSSION AND ANALYSIS

The significant increase in leasehold improvements 

relates primarily to the fact that the SEC occupied new 

office space in Washington, D.C., New York, and 

Boston during FY 2006.

Liabilities

The SEC’s liabilities consist of routine operating 

accounts payable, accrued payroll and benefits, registrant deposit accounts, and fiduciary and custodial 

liabilities associated with disgorgement and penalties 

assessed against securities law violators.

The SEC records a custodial liability for the net 

amount of enforcement-related receivables, after taking into account the estimated allowance for doubtful 

accounts. Upon collection, these amounts will either 

be transferred to the fiduciary accounts or transferred 

to the General Fund of the Treasury. 

The SEC’s largest liability is the fiduciary liability 

associated with amounts collected by the SEC in 

enforcement proceedings and held for future distribution to harmed investors. When collected, these 

receipts are held as fiduciary assets in Fund Balance 

With Treasury or Investments, pending distribution 

to investors, and this equal and offsetting liability is 

reported on the balance sheet. The increase in fiduciary liability from $1,975.6 million at September 30, 

2005 to $3,834.7 million at September 30, 2006 

reflects an increase in funds collected from securities 

law violators, as well as the transfer to SEC custody of 

certain amounts that were previously being held with 

third party escrow agents.

EXHIBIT 1.12

Property and Equipment, Net of 

Accumulated Depreciation

(DOLLARS IN THOUSANDS)

FY 2005

Leasehold

Improvements 

 $32,512 – 44%

Software in Progress 

$7,350 – 10%

Software $9,833 – 13%

Equipment 

 $18,827 – 26%

Furniture $4,787 – 7%

Leasehold

Improvements 

 $63,064 – 61%

Software in Progress 

$10,117 – 10%

Software 

$12,679 – 12%

Equipment 

 $11,367 – 11%

Furniture $6,404 – 6%

FY 2006
Management’s Discussion and Analysis

Page 46 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

37 MANAGEMENT’S DISCUSSION AND ANALYSIS

EXHIBIT 1.13

Liabilities at September 30, 2006 and 2005

LIABILITIES FUNDED BY LIABILITIES NOT FUNDED

(DOLLARS IN THOUSANDS) BUDGETARY RESOURCES BY BUDGETARY RESOURCES TOTAL

September 30, 2006

Accounts Payable $ 62,135 $ — $ 62,135

Accrued Payroll, Benefits & Leave 20,836 38,779 59,615

Registrants’ Deposit Accounts 57,464 — 57,464

Fiduciary Liability 3,834,662 — 3,834,662

Custodial Liability 71,545 — 71,545

Capital Lease Liability — 27,641 27,641

Other Accrued Liabilities 14,839 — 14,839

Total Liabilities $4,061,481 $66,420 $ 4,127,901

September 30, 2005

Accounts Payable $ 44,862 $ — $ 44,862

Accrued Payroll, Benefits & Leave 21,138 38,544 59,682

Registrants’ Deposit Accounts 65,934 — 65,934

Fiduciary Liability 1,975,553 — 1,975,553

Custodial Liability 95,512 — 95,512

Capital Lease Liability — 21,647 21,647

Other Accrued Liabilities 7,023 — 7,023

Total Liabilities $2,210,022 $60,191 $2,270,213

Federal liabilities are classified as either Funded by 

Budgetary Resources or Not Funded by Budgetary 

Resources. Nearly all of the SEC’s liabilities are covered by budgetary resources, indicating that no further 

Congressional appropriation is necessary for the SEC 

to settle these liabilities. Annual leave balances at the 

end of a fiscal year are by definition unfunded since 

this leave will be paid out of current year funds at the 

time the leave is used by the employee.

Revenues and Costs

For FY 2006 and FY 2005, the SEC’s net income from 

operations totaled $993.7 million and $827.5 million, 

respectively. These net amounts reflected exchange 

revenues of $1,882.6 million and $1,745.1 million, 

respectively, for FY 2006 and FY 2005, offset by 

costs of operations of $888.9 million and $917.7 million, respectively.

The SEC’s exchange revenues are reported on the 

Statement of Net Cost. Exchange revenue is defined 

as revenues that are generated from arm’s length

transactions. The SEC earns revenues from fees 

paid pursuant to the Securities Act of 1933 and the 

Securities Exchange Act of 1934. Thus, the SEC’s 

exchange revenues consist mainly of securities transaction fees paid by securities exchanges, and 

securities registration, tender offer, merger, and 

other fees paid by issuers. These fees are used to 

fund SEC programs and operations up to the limits 

established through appropriations.

Non-exchange revenues are not reported on the 

Statement of Net Cost. Non-exchange revenues are 

defined as revenues that arise from the government’s 

ability to demand payment. The SEC’s non-exchange 

revenues consist of amounts collected in enforcement 

proceedings from violators of securities laws. These 

revenues are reflected in the Statement of Custodial 

Activity and are discussed separately below. Exhibit 

1.14 shows a breakdown of the SEC’s exchange revenues for FY 2006 and FY 2005.
Management’s Discussion and Analysis

Page 47 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

38 MANAGEMENT’S DISCUSSION AND ANALYSIS

EXHIBIT 1.14

Exchange Revenue

(DOLLARS IN THOUSANDS)

The SEC’s costs of operations are reflected in the 

Statement of Net Cost and are allocated across the 

agency’s six major program areas: Compliance 

Inspections and Examinations; Corporation Finance; 

Enforcement; Investment Management; Market 

Regulation; and Other Offices. The category Other 

Offices includes smaller program offices such as the 

Office of the General Counsel, the Office of the Chief 

Accountant, the Office of International Affairs, and 

the Office of Economic Analysis. Costs associated 

with the administration and management of the SEC 

have been allocated across program areas. Exhibit 1.15 

illustrates the breakdown of costs of operations for 

FY 2005 FY 2006 and FY 2005.

FY 2006

Securities Transaction 

Fees $1,382,805 – 73%

 Securities Registration, 

 Tender Offer and Merger 

 Fees $499,236 – 27%

Other $578 – <1%

Securities Transaction 

Fees $1,150,184 – 66%

Other $242 – <1%

 Securities Registration, 

 Tender Offer and Merger 

 Fees $594,685 – 34%

EXHIBIT 1.15

Costs

FY 2006

Enforcement 38%

 Compliance 

 Inspections and 

Corporation Finance 14% Exams 27%

Other Offices 10%

Market Regulation 5%

Investment Management 6%

FY 2005

Enforcement 40%

Other Offices 9%

Market Regulation 5%

Investment Management 5%

 Compliance 

 Inspections and 

Corporation Finance 14% Exams 27%
Management’s Discussion and Analysis

Page 48 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

39 MANAGEMENT’S DISCUSSION AND ANALYSIS

Budgetary Resources

As discussed above, the SEC receives its funding 

from fee revenue earned, which must be appropriated 

by Congress before it can be used by the SEC. The 

Statement of Budgetary Resources provides information on the budgetary resources that were made 

available to the SEC for the fiscal year and the status 

of those resources at the end of the fiscal year. For 

FY 2006 and FY 2005, the SEC had budgetary 

resources of $5,775.5 million and $4,801.9 million, 

respectively, which included amounts collected in 

current and prior years in excess of amounts the 

agency was authorized to spend. For FY 2006 and 

FY 2005, the SEC incurred obligations of $896.9 million and $960.8 million, respectively.

The SEC had unobligated balances of $3,840.6 million at the beginning of FY 2006 and $3,049.3 million 

at the beginning of FY 2005. These balances reflect 

amounts collected in prior years by the SEC in excess of 

amounts it has been authorized to spend. Current year 

collections were $1,903.6 million in FY 2006 and 

$1,665.6 million in FY 2005, and are reflected in 

Spending Authority from Offsetting Collections.

Custodial Activity

The Statement of Custodial Activity reflects collections by the SEC of disgorgement and penalty 

amounts from securities laws violators. These collections constitute non-exchange revenue, because they 

arise from the SEC’s authority to demand payment 

from violators of the law. Custodial collections totaled 

$1,804.1 million and $1,606.5 million for FY 2006 

and FY 2005, respectively.

The Statement of Custodial Activity also reflects the 

disposition of custodial collections. Once collected, 

disgorgement and penalty amounts are either transferred to the General Fund of the Treasury, held in the 

SEC’s fiduciary fund pending distribution to harmed 

investors (or a determination whether such distribution 

is practicable), or distributed to harmed investors. 

Exhibit 1.16 shows the breakdown of distribution of 

custodial collection for FY 2006 and FY 2005.

FY 2006 distributions included $122.0 million 

transferred to the General Fund of the Treasury, 

$108.5 million distributed to harmed investors, and 

$1,573.6 million held in SEC fiduciary accounts at 

the Treasury pending distribution. FY 2005 distributions included $207.0 million transferred to the 

General Fund of the Treasury, $302.0 million distributed to investors, and $1,097.6 million held 

pending future distribution.

Limitations

The SEC has prepared its FY 2006 financial statements in accordance with the requirements of OMB 

Circular A-136, Financial Reporting Requirements.

This document incorporates the concepts and standards contained in the Statements of Federal Financial 

Accounting Concepts and the Statements of Federal 

Financial Accounting Standards (SFFAS) recommended by the Federal Accounting Standards Advisory 

EXHIBIT 1.16

Distribution of Custodial Collections

(DOLLARS IN THOUSANDS)

$1,500,000

$1,000,000

$500,000

$0

$2,000,000

Transfers to Fiduciary Funds

Transfers to Department of the Treasury

Transfers to the Public

FY05

$1,097,608

$206,984 $301,952

FY06

$1,573,589

$122,030 $108,514
Management’s Discussion and Analysis

Page 49 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

40 MANAGEMENT’S DISCUSSION AND ANALYSIS

Board (FASAB) and approved by the Secretary of the 

Treasury, the Director of the OMB, and the 

Comptroller General.

In 1999, the American Institute of Certified Public 

Accountants Council designated the FASAB as the 

accounting standards-setting body for federal government entities. Therefore, the SFFAS constitute generally 

accepted accounting principles for the federal government. These concepts and standards have been set by 

FASAB to help Federal agencies comply with the 

requirements of the Chief Financial Officers’ Act of 

1990, as amended by the Government Management 

Reform Act of 1994. Among other things, these two 

acts demand financial accountability from federal agencies and require the integration of accounting, financial 

management, and cost accounting systems.

The financial data in this report and the financial 

statements that follow have been prepared from the 

accounting records of the SEC, in conformity with 

accounting principles generally accepted in the 

United States for the federal government. The SEC’s 

financial statements consist of the Balance Sheet, the 

Statement of Net Cost, the Statement of Changes in 

Net Position, the Statement of Budgetary Resources, 

the Statement of Financing, and the Statement of 

Custodial Activities. The financial statements were 

prepared pursuant to the requirements of 31 U.S.C. 

3515 (b). The following limitations apply to the preparation of the financial statements:

• While the statements are prepared from books 

and records in accordance with the formats prescribed by OMB, the statements are in addition 

to the financial reports used to monitor and control budgetary resources, which are prepared 

from the same books and records.

• The statements should be read with the realization that the SEC is a component of the U.S. 

Government, a sovereign entity. One implication is that unfunded liabilities cannot be 

liquidated without legislation that provides 

resources to do so.

In addition, certain information contained in this 

financial discussion and analysis and in other parts of 

this Performance and Accountability Report may be 

deemed forward-looking statements regarding events 

and financial trends that may affect future operating 

results and financial position. Such statements may 

be identified by words such as “estimate,” “project,” 

“plan,” “intend,” “believe,” “expect,” “anticipate,” or 

variations or negatives thereof or by similar or comparable words or phrases. Prospective statements are 

subject to risks and uncertainties that could cause 

actual results to differ materially from those expressed 

in the statements. Such risks and uncertainties 

include, but are not limited to, the following: changes 

in U.S. or global economic conditions; the availability, hiring and retention of qualified staff employees; 

government regulations; disputes with labor organizations; and deployment of new technologies. The 

SEC undertakes no obligation to publicly update 

these financial statements to reflect events or circumstances after the date hereof, or to reflect the 

occurrence of unanticipated events.
Page 50 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Financial Statements

Balance Sheets

60 FINANCIAL SECTION

U.S. SECURITIES AND EXCHANGE COMMISSION

Balance Sheets

As of September 30, 2006 and 2005

(DOLLARS IN THOUSANDS) 2006 2005

ASSETS

Intragovernmental:

Fund Balance with Treasury (Notes 1-K and 2) $5,178,893 $4,348,936 

Investments (Notes 1-L, 5 and 19) 3,674,528 1,768,024 

Accounts Receivable (Notes 1-E, 1-M, and 6) 154,506 194 

Total Intragovernmental 9,007,927 6,117,154

Cash (Notes 1-O and 4) — 9 

Accounts Receivable, Net (Notes 1-E, 1-M, and 6) 177,491 222,401 

Advances and Prepayments (Note 1-N) 974 657 

Property and Equipment, Net (Notes 1-P and 7) 103,631 73,309 

Total Assets $9,290,023 $6,413,530 

LIABILITIES

Intragovernmental:

Accounts Payable (Notes 1-Q and 8) $ 14,527 $ 16,848

Employee Benefits (Notes 1-T and 8) 2,687 2,702 

Unfunded FECA Liability (Notes 1-R, 8, and 17) 992 1,045 

Total Intragovernmental 18,206 20,595

Accounts Payable (Notes 1-Q and 8) 47,608 28,014 

Accrued Payroll and Benefits (Notes 1-Q and 8) 18,149 18,436 

Accrued Leave (Notes 1-S, 8, and 17) 32,974 32,024 

Registrant Deposits (Notes 1-I, 3, and 8) 57,464 65,934 

Actuarial FECA Liability (Notes 1-R, 8, 9, and 17) 4,813 5,475 

Fiduciary Liability (Notes 1-W, 3, 8, and 19) 3,834,662 1,975,553

Custodial Liability (Notes 1-V, 3, 8, and 18) 71,545 95,512 

Other Accrued Liabilities (Notes 8 and 10) 42,480 28,670 

Total Liabilities 4,127,901 2,270,213

Commitments and Contingencies (Notes 8 and 20)

NET POSITION

Unexpended Appropriations—Other Funds 9,201 9,791

Cumulative Results of Operations—Other Funds 5,152,921 4,133,526

Total Net Position 5,162,122 4,143,317

Total Liabilities and Net Position $9,290,023 $6,413,530

The accompanying notes are an integral part of these financial statements.

SECTION 3: FINANCIAL SECTION
Financial Statements

Page 51 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Statements of Net Cost

61 FINANCIAL SECTION

U.S. SECURITIES AND EXCHANGE COMMISSION

Statements of Net Cost

For the years ended September 30, 2006 and 2005

(DOLLARS IN THOUSANDS) 2006 2005

PROGRAM COSTS (Notes 12 and 13)

Compliance Inspections and Examinations

Gross Cost $ 241,197 $ 248,972

Corporation Finance

Gross Cost 125,483 127,631

Enforcement

Gross Cost 336,726 364,515

Investment Management

Gross Cost 50,512 49,408

Market Regulation

Gross Cost 46,889 46,484

Other Offices

Gross Cost 88,116 80,640

TOTAL ENTITY

Total Gross Program Cost 888,923 917,650

Less: Earned Revenue Not Attributed to Programs (Note 14) (1,882,619) (1,745,111)

Net (Income) from Operations $ (993,696) $ (827,461)

The accompanying notes are an integral part of these financial statements.
Financial Statements

Page 52 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Statements of Changes in Net Position

62 FINANCIAL SECTION

U.S. SECURITIES AND EXCHANGE COMMISSION

Statements of Changes in Net Position

For the years ended September 30, 2006 and 2005

(DOLLARS IN THOUSANDS) 2006 2005

CUMULATIVE RESULTS OF OPERATIONS

Beginning Balance $4,133,526 $3,290,288 

Budgetary Financing Sources:

Appropriations Not Available (1,151) (10,055)

Other Financing Sources:

Imputed Financing (Note 11) 26,850 25,832

Total Financing Sources 25,699 15,777

Net Income from Operations—Other Funds 993,696 827,461

Net Change—Other Funds 1,019,395 843,238

Cumulative Results of Operations 5,152,921 4,133,526

UNEXPENDED APPROPRIATIONS

Beginning Balance 9,791 313

Budgetary Financing Sources:

Appropriations Not Available (590) 9,478 

Total Unexpended Appropriations 9,201 9,791

Net Position, End of Period—Other Funds $5,162,122 $4,143,317

The accompanying notes are an integral part of these financial statements.
Financial Statements

Page 53 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Statements of Budgetary Resources

63 FINANCIAL SECTION

U.S. SECURITIES AND EXCHANGE COMMISSION

Statements of Budgetary Resources

For the years ended September 30, 2006 and 2005

(DOLLARS IN THOUSANDS) 2006 2005

BUDGETARY RESOURCES

Unobligated Balance, Brought Forward, October 1 $3,840,573 $3,049,337 

Recoveries of Prior Year Unpaid Obligations 32,410 87,608 

Budget Authority:

Spending Authority from Offsetting Collections:

Earned

Collected 1,903,648 1,665,560 

Change in Receivables from Federal Sources (63) (24)

Change in Unfilled Customer Orders Without Advance Received 663 — 

Subtotal 1,904,248 1,665,536

Nonexpenditure Transfers, Net, Anticipated and Actual (Note 15) — — 

Temporarily Not Available Pursuant to Public Law — — 

Permanently Not Available (1,740) (575)

Total Budgetary Resources $5,775,491 $4,801,906 

STATUS OF BUDGETARY RESOURCES

Obligations Incurred:

Direct (Note 16) $ 896,911 $ 960,753 

Reimbursable (Note 16) 519 580 

Unobligated Balance Available:

Realized and Apportioned for Current Period 14,978 39,224

Exempt From Apportionment — — 

Unobligated Balance Not Available

Restricted Funds 4,752,857 3,703,675 

Expired Funds 110,226 97,674 

Total Status of Budgetary Resources $5,775,491 $4,801,906 

CHANGE IN OBLIGATED BALANCE

Obligated Balance, Net

Unpaid Obligations, Brought Forward, October 1 $ 235,702 $ 228,680 

Less: Uncollected Customer Payments from Federal Sources, 

 Brought Forward, October 1 (194) (219)

Total Unpaid Obligated Balance, Net 235,508 228,461 

Obligations Incurred Net 897,430 961,333 

Less: Gross Outlays (870,620) (866,702)

Less: Recoveries of Prior Year Unpaid Obligations, Actual (32,410) (87,609)

Change in Uncollected Customer Payments from Federal Sources (600) 25 

Obligated Balance, Net, End of Period Unpaid Obligations 230,102 235,702 

Less: Uncollected Customer Payments from Federal Sources (794) (194)

Total, Unpaid Obligated Balance, Net, End of Period (Note 20) $ 229,308 $ 235,508 

NET OUTLAYS

Net Outlays:

Gross Outlays $ 870,620 $ 866,702 

Less: Offsetting Collections (1,903,648) (1,665,560)

Less: Distributed Offsetting Receipts 51,294 — 

Net Outlays $ (981,734) $ (798,858)

The accompanying notes are an integral part of these financial statements.
Financial Statements

Page 54 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Statements of Financing

64 FINANCIAL SECTION

U.S. SECURITIES AND EXCHANGE COMMISSION

Statements of Financing

For the years ended September 30, 2006 and 2005

(DOLLARS IN THOUSANDS) 2006 2005

RESOURCES USED TO FINANCE ACTIVITIES

Budgetary Resources Obligated:

Obligations Incurred (Note 16) $ 897,430 $ 961,333

Less: Spending Authority from Offsetting Collections and Recoveries (1,936,658) (1,753,144)

Net Obligations (1,039,228) (791,811)

Other Resources:

Imputed Financing from Cost Absorbed by Others (Note 11) 26,850 25,832

Total Resources Used to Finance Activities (1,012,378) (765,979)

RESOURCES USED TO FINANCE ITEMS NOT PART OF THE NET COST OF OPERATIONS

Change in Budgetary Resources Obligated for Goods, Services and Benefits Ordered but Not Yet Provided 21,831 17,161

Resources that Finance the Acquisition of Assets Capitalized on the Balance Sheet (57,658) (42,081)

Net Decrease in Revenue Receivables Not Generating Resources until Collected 20,941 —

Total Resources Used to Finance Items not Part of the Net Cost of Operations (14,886) (24,920)

Total Resources Used to Finance the Net Cost of Operations (1,027,264) (790,899)

COMPONENTS OF NET COST OF OPERATIONS THAT WILL NOT

REQUIRE OR GENERATE RESOURCES IN THE CURRENT PERIOD

Components Requiring or Generating Resources in Future Periods:

Costs That Will Be Funded by Resources in Future Periods (Note 17) 950 3,318

Net Increase in Revenue Receivables Not Generating Resources until Collected — (79,667)

Change in Lease Liability (Note 17) 5,994 21,647

Change in Unfunded FECA Liability (Note 17) (715) 259

Total Components of Net Cost of Operations That Will Require or Generate Resources in Future Periods 6,229 (54,443)

Components Not Requiring or Generating Resources:

Depreciation and Amortization 26,265 17,574

Revaluation of Assets or Liabilities 1,071 300

Other Costs That Will Not Require Resources 3 7

Total Components of Net Cost of Operations That Will Not Require or Generate Resources 27,339 17,881

Total Components of Net Cost of Operations That Will Not Require or Generate Resources in the Current Period 33,568 (36,562)

Net (Income) from Operations $ (993,696) $ (827,461)

The accompanying notes are an integral part of these financial statements.
Financial Statements

Page 55 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Statements of Custodial Activity

65 FINANCIAL SECTION

U.S. SECURITIES AND EXCHANGE COMMISSION

Statements of Custodial Activity

For the years ended September 30, 2006 and 2005

(DOLLARS IN THOUSANDS) 2006 2005

REVENUE ACTIVITY

Sources of Cash Collections:

Disgorgement and Penalties $1,804,043 $1,606,274

Other 90 270

Net Collections 1,804,133 1,606,544

Accrual Adjustments (23,967) (183,542)

Total Custodial Revenue (Notes 1-V and 18) $1,780,166 $1,423,002

DISPOSITION OF COLLECTIONS

Amounts Transferred to:

Department of the Treasury $ 122,030 $ 206,984

Fiduciary Fund 1,573,589 1,097,608

Public 108,514 301,952

Net Disbursements 1,804,133 1,606,544

Change in Liability Accounts (23,967) (183,542)

Total Disposition of Collections (Notes 1-V and 18) $1,780,166 $1,423,002

NET CUSTODIAL ACTIVITY $ — $ —

The accompanying notes are an integral part of these financial statements.
Financial Statements

Page 56 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Notes to the Financial Statements

66 FINANCIAL SECTION

Note 1. Summary of Significant 

Accounting Policies

A. Reporting Entity

The United States Securities and Exchange Commission 

(SEC) is an independent agency of the United States 

established pursuant to the Securities Exchange Act of 

1934. The SEC’s mission is to protect investors; maintain fair, orderly, and efficient securities markets; and 

facilitate capital formation. The SEC works with the 

Congress, other Executive Branch departments and 

agencies, self-regulatory organizations (SROs) (e.g., 

stock exchanges and the National Association of 

Securities Dealers), the Public Company Accounting 

Oversight Board, state securities regulators, and many 

other organizations in support of the agency’s mission. 

These financial statements report on the SEC’s six 

major program areas: Compliance Inspections and 

Examinations; Corporation Finance; Enforcement; 

Investment Management; Market Regulation; and 

Other Offices. These programs promote the public 

interest by, among other activities: promoting compliance through inspections and examinations of 

regulated entities; facilitating capital formation 

through full disclosure; enforcing the federal securities laws; regulating investment companies and 

investment advisors; overseeing the operations of the 

nation’s securities markets and participants; promoting technological innovation in the securities markets; 

encouraging international regulatory and enforcement 

cooperation; and educating and assisting investors. 

B. Fund Accounting Structure

These financial statements present the SEC’s individual funds and accounts. The SEC is classified in the 

Other Independent Agencies section of the federal 

budget. The SEC’s financial activities are accounted 

for by Treasury account fund symbol, summarized 

as follows: 

• Special Fund Receipts (X0100) include the 

appropriated general funds used to carry out the 

SEC’s missions and functions for fiscal years (FY) 

2006 and 2005 and revenues collected by the 

SEC in excess of appropriated funds (See Note 2. 

Fund Balance With Treasury).

• Salaries and Expenses (0100) include the 

appropriated general funds used to carry out the 

SEC’s missions and functions for FY 2001 

through 2004. 

• Deposit Funds (X6563, F3875 and F3880) 

account for disgorgement, penalties, and interest 

collected and held on behalf of harmed investors, 

registrant monies held temporarily until earned 

by the SEC, and collections awaiting disposition 

or reclassification. 

• Miscellaneous Receipt Accounts (1099 and 

3220) hold non-entity receipts and accounts receivable from SEC custodial activities that cannot be 

deposited into funds under SEC control. These 

include amounts received pursuant to enforcement 

cases that are to be sent to the Treasury. 

The SEC does not have lending or borrowing authority, except as discussed in Note 20. Commitments and 

Contingencies. The SEC does have custodial and fiduciary responsibilities, as described in Note 18. Custodial 

Revenues and Liabilities and Note 19. Fiduciary Assets 

and Liabilities.

NOTES TO FINANCIAL STATEMENTS
Financial Statements

Page 57 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

67 FINANCIAL SECTION

C. Intra- and Inter-Agency Relationships 

The SEC does not transact business among its own 

operating units, and therefore, intra-entity eliminations are not necessary. The SEC does have certain 

oversight responsibilities with respect to the Financial 

Accounting Standards Board (FASB); the Securities 

Investor Protection Corporation (SIPC) (See Note 20. 

Commitments and Contingencies); and the Public 

Company Accounting Oversight Board. 

These entities have been excluded from the SEC 

reporting unit and the accompanying financial 

statements. 

D. Basis of Presentation

The accompanying financial statements present the 

financial position, net cost of operations, changes in 

net position, budgetary resources, financing, and custodial and fiduciary activities of the SEC’s core business 

activities in conformity with accounting principles 

generally accepted in the United States and Office of 

Management and Budget (OMB) Circular A-136, 

Financial Reporting Requirements. They may differ 

from other financial reports submitted pursuant to 

OMB directives for the purpose of monitoring and 

controlling the use of SEC budgetary resources. The 

SEC’s books and records serve as the source of the 

information presented in the accompanying financial 

statements. Assets, liabilities, revenues, and costs have 

been classified in these financial statements according 

to the type of entity associated with the transactions. 

Intragovernmental assets and liabilities are those from 

or to other federal entities. Intragovernmental earned 

revenues are collections or accruals of revenue from 

other federal entities, and intragovernmental costs are 

payments or accruals to other federal entities. In addition, certain information is presented differently than 

the SEC’s FY 2005 Performance and Accountability 

Report to conform to new reporting requirements in 

OMB A-136. 

E. Change in Accounting Method

Effective June 30, 2006, the SEC implemented a new 

method for writing off debts that are two or more years 

old. This method is intended to incorporate additional 

requirements contained in OMB Circular A-129, 

Policies for Federal Credit Programs and Non-Tax 

Receivables, into the SEC’s existing policy that called 

for reserving 100 percent of amounts more than two 

years old. The new write-off method calls for the SEC 

to write off debts that are two or more years old by 

removing the amount of the debts from the gross 

accounts receivable and any related allowance for 

doubtful accounts. This write-off policy is consistent 

with prior SEC policy on the calculation of the allowance for doubtful accounts, which called for a 100 

percent reserve of any debt that was two or more years 

old, as discussed in Note 1. M. Accounts Receivable and 

Allowance for Uncollectible Accounts.

The effect of the new write-off method did not 

impact the net accounts receivable balance presented in 

the Balance Sheet because the prior policy on the calculation of the allowance for doubtful accounts resulted in 

the same net accounts receivable balance as the new 

method. By implementing the new method, the SEC 

removed $1,081 million of debts as well as the corresponding allowance for doubtful accounts. The effect of 

this change in accounting method is seen in the 

September 30, 2006 balance of gross accounts receivable and the related allowance for disgorgements and 

penalties shown in Note 6. Accounts Receivable, Net.

F. Basis of Accounting

Transactions are recorded on the accrual and budgetary 

bases of accounting. Accrual accounting requires revenue to be recognized when earned and expenses to be 

recognized when goods or services are received without 

regard to the receipt or payment of cash. Budgetary 

accounting facilitates compliance with the requirements 

for and controls over the use of federal funds.
Financial Statements

Page 58 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

68 FINANCIAL SECTION

The accompanying financial statements are presented in conformity with accounting principles 

generally accepted in the United States. The accounting 

principles and standards applied in preparing these 

financial statements are in accordance with the accounting policies and practices summarized in this note and 

the following hierarchy of accounting principles:

• Federal Accounting Standards Advisory Board 

(FASAB) Statements and Interpretations, and 

American Institute of Certified Public 

Accountants (AICPA) and FASB pronouncements, if made applicable to federal governmental 

entities by a FASAB Statement or Interpretation;

• FASAB Technical Bulletins and the following 

pronouncements, if specifically made applicable 

to federal government entities by the AICPA and 

cleared by the FASAB: AICPA Industry Audit 

and Accounting Guides and AICPA Statements 

of Position; 

• AICPA Accounting Standards Executive 

Committee Practice Bulletins, if specifically 

made applicable to federal governmental entities 

and cleared by the FASAB and Technical Releases 

of the Accounting and Auditing Policy Committee 

of the FASAB; 

• Implementation guides published by the FASAB 

staff and practices that are widely recognized and 

prevalent in the federal government; and

• Other accounting literature published by authoritative standard-setting bodies and other authoritative sources (a) in the absence of other guidance 

in the first four parts of this hierarchy, and (b) if 

the use of such accounting principles improves 

the meaningfulness of the financial statements. 

G. Budgets and Budgetary Accounting

The SEC collects a variety of fees pursuant to the 

Securities Act of 1933 and the Securities Exchange Act 

of 1934, which the agency can use to offset its appropriated funds. These include securities transaction fees 

paid by the exchanges, and securities registration, tender offer, merger, and other fees paid by issuers. The 

National Securities Market Improvement Act of 1996 

provided for reductions in pre-existing fee rates, and 

required future annual reductions in fee rates. The 

Investor and Capital Markets Fee Relief Act of 2002 

requires the SEC to adjust fee rates each year through 

FY 2011, and to make a final adjustment to fix the fee 

rates for FY 2012 and beyond. 

The SEC is subject to certain restrictions on its use 

of statutory fees. All fee revenues are deposited in a 

special fund receipt account at the United States 

Department of the Treasury. However, the SEC may 

use funds from this account only as authorized by 

Congress, made available by OMB apportionment, 

and upon issuance of a Treasury warrant. Revenue collected in excess of appropriated amounts is restricted 

for use by the SEC. 

Fees other than the restricted excess fees can be used 

for SEC operations subject to an annual congressional 

limitation of $888.7 million and $913.6 million for 

the budget FY 2006 and 2005, respectively. Funds 

appropriated but not used in a given fiscal year are held 

in the special fund receipt account for use in future 

periods, as appropriated by the Congress.

Each fiscal year, the SEC receives its appropriation 

through Category A apportionments, which are 

quarterly distributions of budgetary resources made 

by OMB. The SEC also receives a small amount 

of Category B funds, which are exempt from quarterly apportionment.
Financial Statements

Page 59 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

69 FINANCIAL SECTION

H. Use of Estimates

The preparation of financial statements in conformity 

with accounting principles generally accepted in the 

United States requires management to make estimates 

and assumptions that affect the reported amounts of 

assets and liabilities and the disclosure of contingent 

assets and liabilities at the date of the financial statements and the reported amounts of revenues and 

expenses during the reporting period. Actual results 

could differ from estimates contained in the accompanying financial statements.

I. Revenue and Other Financing Sources

The SEC’s revenue and financing sources include 

exchange revenues, which are generated from arm’s 

length transactions, and non-exchange revenues, 

which arise from the government’s ability to demand 

payment. The SEC’s exchange revenues consist of 

mainly fees collected from SROs and registrants. The 

SEC’s non-exchange revenues consist of amounts collected in enforcement proceedings from violators of 

securities laws.

The SEC’s funding is through primarily the collection of securities transaction fees from SROs, and 

securities registration, tender offer, merger, and other 

fees from registrants. The SEC’s fee rates are established by law and are applied to volumes of activity 

reported by SROs or to filings submitted by registrants. When received, these fees are recorded as 

exchange revenue. The SEC is permitted by law to 

include these amounts in its obligational authority or 

to offset its expenditures and liabilities upon collection 

up to authorized limits. All amounts remitted by registrants in excess of the fees for specific filings are 

recorded as liabilities in deposit accounts until earned 

by the SEC from registrant filings or returned to the 

registrant pursuant to SEC policy, which calls for the 

return of registrant deposits when an account is dormant for six months.

The SEC also recognizes revenue from enforcement 

proceedings that result in the assessment of disgorgement, penalties, and interest against violators of federal 

securities laws. This activity is recognized as nonexchange revenue and presented on the Statement of 

Custodial Activity. When the SEC collects this revenue, it is either transferred to the Treasury or it is held 

by the SEC in a fiduciary capacity on behalf of harmed 

investors to whom the SEC intends to return the 

funds. An equal and offsetting liability for the fiduciary assets held by the SEC is reported on the Balance 

Sheet. The SEC does not record fiduciary assessments 

collected and held by another government entity, such 

as a court registry, or a non-government entity, such as 

a receiver.

In addition, the SEC’s share of the cost to the federal government for providing pension and other 

post-retirement benefits to eligible SEC employees is 

recognized as an imputed financing source, as discussed further in Note 11. Imputed Financing. The 

SEC may also receive some gifts-in-kind that are used 

for primarily official travel to further the SEC’s mission and objectives. 

J. Entity/Non-Entity Assets

Assets that an agency is authorized to use in its operations are entity assets. Assets that are held by the SEC 

on behalf of another federal agency or a third party, 

and are not available for the agency’s use, are nonentity assets. The SEC’s non-entity assets include the 

following: (i) fiduciary assets, representing disgorgement, penalties, and interest collected and held or 

invested by the SEC pending distribution to harmed 

investors; (ii) custodial accounts receivable in respect 

of disgorgement, penalties, and interest owed by securities law violators; and (iii) registrant deposits, 

representing excess filing fees remitted by registrants.
Financial Statements

Page 60 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

70 FINANCIAL SECTION

K. Fund Balance With Treasury

Fund Balance With Treasury includes unrestricted 

balances that are available to finance the SEC’s expenditures and restricted balances that cannot be used 

without further authorization by the United States 

Congress and apportionment by OMB. 

Fund Balance With Treasury also includes certain 

funds held on behalf of third parties. These include registrant deposits, representing excess filing fees remitted 

by registrants, and uninvested fiduciary assets, representing disgorgement, penalties, and interest held by the 

SEC pending distribution to harmed investors.

All SEC banking activity is conducted in accordance with directives issued by the Treasury, Financial 

Management Service (FMS). All revenue and receipts 

are deposited in commercial bank accounts maintained by the FMS or wired directly to a Federal 

Reserve Bank. The Treasury processes all disbursements made by the SEC. All moneys maintained in 

commercial bank accounts are transferred to the 

Federal Reserve Bank on the next business day following the day of deposit.

L. Investments

The SEC’s policy is to invest fiduciary assets in shortterm Treasury securities, whenever practicable. These 

assets include disgorgement, penalties, and interest 

amounts that are collected from securities law violators and held for future distribution to harmed 

investors. Once these funds are collected, they are generally transferred to the SEC’s deposit fund account 

and invested in short-term market-based Treasury bills 

through a facility provided by the Treasury, Bureau of 

the Public Debt (BPD), pending their distribution to 

investors. Interest earned is added to the funds available for distribution to investors. 

M. Accounts Receivable and Allowance for 

Uncollectible Accounts

Entity and non-entity accounts receivable consist of 

amounts due primarily from the public. 

Entity accounts receivable are amounts that will be 

retained by the SEC upon collection. These generally 

include claims arising from: (i) securities transaction 

fees paid by exchanges; (ii) filing fees paid by registrants; (iii) goods or services that the SEC has provided 

to another federal agency pursuant to an inter-agency 

agreement; (iv) host reimbursement of SEC employee 

travel; and (v) other employee-related debt. Entity 

accounts receivable represent a small portion of the 

SEC’s business activities because agency fee legislation 

generally requires payment of filing fees at the time of 

filing, and SRO transaction fees are payable to the 

SEC twice a year—in March for the period September 

through December, and in September for the period 

January through August. Accordingly, the year-end 

accounts receivable generally represent only fees payable by the SROs to the SEC for activity during the 

month of September.

Non-entity accounts receivable are amounts that 

will not be retained by the SEC upon collection. These 

mainly include disgorgement, penalties, and interest 

assessed against violators of federal securities laws. 

These accounts receivable are recognized when the 

SEC is designated in an order of the Commission or a 

court to collect the assessed disgorgement, penalties, 

and interest. SEC maintains a custodial responsibility 

over these non-entity accounts receivable. When collected, these funds are either transferred to the 

Treasury, or they are held for future distribution to 

harmed investors. 

The SEC is also party to orders directing the court 

or a receiver to collect the disgorgement, penalties, and 

interest assessed against violators of federal securities 

laws. These orders are not recognized as accounts 

receivable by the SEC because the debts are payable to 
Financial Statements

Page 61 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

71 FINANCIAL SECTION

another party. However, these debts are subject to 

change based on future orders issued by the presiding 

court that could result in the SEC recognizing a receivable at a later date. The SEC’s policy is to record a 

receivable in those cases at the point in time when the 

debtor is required, as a result of a court order or other 

legally binding instrument, to remit funds to SEC. 

Beginning June 30, 2006, the SEC implemented a 

new accounting method governing the write-off of 

debts that are two or more years old, as discussed in 

Note 1. E. Change in Accounting Method. 

For FY 2006, the allowance for uncollectible 

amounts and the related provision for estimated 

losses for disgorgement and penalties and FOIA 

accounts receivable is based on an analysis of the collectibility of individual account balances for the 

largest debts and on historical collection data to 

determine on a percentage basis the value of gross 

accounts receivable that are likely to be collected by 

the SEC. This percentage is applied to the remaining 

disgorgement and penalties and FOIA accounts 

receivable to reflect the balances at their estimated 

net realizable value. The allowance for uncollectible 

amounts and the related provision for estimated 

losses for Filing Fees and other accounts receivable is 

based on historical collection data to determine on a 

percentage basis the value of gross accounts receivable that are likely to be collected by the SEC; and no 

allowance for uncollectible amounts and the related 

provision for estimated losses has been established for 

Due for Reimbursable Agreements and Exchange 

Fees, as these gross accounts receivable are deemed to 

represent their net realizable value. In addition, the 

SEC does not recognize interest as accounts receivable, unless a court or administrative order specifies 

the amount of pre- and post-judgment interest.

The SEC’s policy on the allowance for uncollectible 

amounts and the related provision for estimated losses 

is the same for FY 2005, except the SEC has reserved 

100 percent of the disgorgement and penalties and 

FOIA accounts receivable amounts that are two or 

more years old rather than removing these debts and 

corresponding allowance balances in accordance with 

the new write-off method in effect for FY 2006. 

N. Advances and Prepayments

The SEC may advance funds to its personnel for travel 

costs, and these amounts are expensed when the travel 

takes place. The SEC may also prepay amounts in 

anticipation of receiving future benefits. These payments are expensed when the goods have been received 

or services have been performed. 

O. Cash

The SEC’s cash balance consists of petty cash funds 

maintained to reimburse personnel for minor expenses. 

P. Property and Equipment

The SEC’s property and equipment consist of software 

and general purpose equipment used by the agency; 

capital improvements made to buildings leased by the 

SEC for office space; and internal-use software development costs for projects in development. Property 

and equipment purchases and additions are stated at 

cost. Property and equipment acquisitions that do not 

meet the capitalization criteria, normal repairs, and 

maintenance are charged to expense as received or 

incurred by the SEC.

Property and equipment are depreciated over their 

estimated useful lives using the straight-line method 

of depreciation. Contractor costs for developing custom internal use software are capitalized when incurred 

for the design, coding, and testing of the software. 

Software in progress is not amortized until placed in 

service. The table on the following page summarizes 

the major classes of depreciable property and the SEC’s 

capitalization policies.
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72 FINANCIAL SECTION

CAPITALIZATION CAPITALIZATION

CLASS OF THRESHOLD THRESHOLD

PROPERTY FOR INDIVIDUAL FOR BULK

AND EQUIPMENT PURCHASES PURCHASES

Equipment $15 thousand $500 thousand

or greater or greater

Furniture $15 thousand $50 thousand

or greater or greater

Software $300 thousand $300 thousand 

or greater or greater

Software $300 thousand Not applicable

in Progress or greater

Leasehold $300 thousand Not applicable

 Improvements or greater

All classes of property and equipment, except software in progress, are removed from the SEC’s asset 

accounts in the period of disposal, retirement, or 

removal from service. Any difference between the 

book value of the property and equipment and amounts 

realized is recognized as a gain or loss in the same 

period that the asset is removed. Software in progress 

is expensed when the project is abandoned because the 

SEC has determined that the project will no longer 

provide value to the agency. 

Q. Liabilities

The SEC records liabilities for amounts that are likely 

to be paid as the result of events that have occurred 

as of September 30, 2006 and 2005. The SEC’s liabilities consist of routine operating accounts payable, 

accrued payroll and benefits, registrant deposit 

accounts, and fiduciary and custodial liabilities associated with monetary sanctions imposed on violators 

of securities laws. 

Fiduciary and custodial liabilities represent the largest portion of the SEC’s liabilities. Custodial liabilities 

arise in respect of accounts receivable for disgorgement, 

penalties, and interest assessed against securities law 

violators. The SEC records a custodial liability for the 

net amount of such receivables, after taking into account 

the estimated allowance for doubtful accounts. When 

the SEC collects this revenue, it is either transferred to 

the Treasury or it is held by the SEC in a fiduciary 

capacity on behalf of harmed investors to whom the 

SEC intends to return the funds. Fiduciary liabilities 

arise when the SEC collects disgorgement, penalties, 

and interest from securities law violators which will be 

returned to harmed investors. When collected, fiduciary 

receipts are held in Fund Balance with Treasury or 

invested in Treasury securities pending distribution to 

harmed investors, and an equal and offsetting fiduciary 

liability for assets held by the SEC at the Treasury is 

reported as a non-entity liability on the balance sheet.

The SEC considers liabilities covered by three types 

of resources: realized budgetary resources; unrealized 

budgetary resources that become available without 

further Congressional action; and cash and amounts 

held in Fund Balance With Treasury that do not 

require the use of a budgetary resource. Realized budgetary resources include obligated balances that fund 

existing liabilities and unobligated balances at 

September 30, 2006 and 2005. Unrealized budgetary 

resources represent fee collections in excess of amounts 

appropriated for current fiscal year spending. These 

resources are used to cover liabilities when appropriation language makes these unrealized budgetary 

resources available in the fiscal year without further 

Congressional action. 

Fund Balance With Treasury and cash include 

amounts for liabilities that will never require the use of 

a budgetary resource. These liabilities consist of registrant deposit accounts; accounts receivable for 

disgorgement, penalties, and interest assessed against 

securities laws violators, and uninvested fiduciary 

assets held by the SEC on behalf of harmed investors.

R. Injury and Post-Employment 

Compensation 

Claims brought by SEC employees for on-the-job injuries fall under the Federal Employees’ Compensation 

Act (FECA) administered by the United States 
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73 FINANCIAL SECTION

Department of Labor (DOL). The DOL bills each 

agency annually as its claims are paid, but payment on 

these bills is deferred for two years to allow for funding through the budget process. Similarly, SEC 

employees who are terminated without cause may 

receive unemployment compensation benefits under 

the unemployment insurance program also administered by the DOL, which bills each agency quarterly 

for paid claims. 

S. Annual, Sick, and Other Leave

Annual leave and compensatory time are accrued as 

earned and the accrual is reduced when leave is taken. 

Each fiscal quarter an adjustment is made so that the 

balances in the accrued leave accounts reflect current 

leave balances and pay rates. No portion of this liability has been obligated. Funding will be obtained from 

future financing sources to the extent current or prior 

year funding is not available to pay for leave earned 

but not taken. Sick leave and other types of non-vested 

leave are expensed as used. 

T. Employee Retirement Systems 

and Benefits

SEC employees participate in either the Civil Service 

Retirement System (CSRS) or the Federal Employees 

Retirement System (FERS), depending on when they 

were hired by the federal government. The FERS was 

established by enactment of Public Law 99-335. 

Pursuant to this law, the FERS and Social Security 

automatically cover most employees hired after 

December 31, 1983. Employees who are rehired after a 

break in service of more than one year and who had 

five years of federal civilian service prior to 1987 are 

placed in the CSRS offset retirement system or may 

elect to join the FERS.

The SEC’s financial statements do not report CSRS 

or FERS assets or accumulated plan benefits that may 

be applicable to its employees. The reporting of such 

liabilities is the responsibility of the United States 

Office of Personnel Management (OPM). While the 

SEC reports no liability for future payments to employees under these programs, the federal government is 

liable for future payments to employees through the 

various agencies administering these programs. The 

SEC does not fund post-retirement benefits such as 

the Federal Employees Health Benefit Program 

(FEHB) and the Federal Employees Group Life 

Insurance Program (FEGLI). The SEC is also not 

required to fully fund the CSRS pension liabilities.

Instead, the financial statements of the SEC recognize an imputed financing source and corresponding 

expense that represent the SEC’s share of the cost to 

the federal government of providing pension, postretirement health, and life insurance benefits to all 

eligible SEC employees. For the fiscal year ended 

September 30, 2006, the SEC made contributions 

based on OPM cost factors equivalent to approximately 6.78 percent and 10.91 percent of the employee’s 

basic pay for those employees covered by CSRS and 

FERS, respectively. For the fiscal year ended September 

30, 2005, the SEC made contributions based on OPM 

cost factors equivalent to approximately 6.79 percent 

and 10.85 percent of the employee’s basic pay for those 

employees covered by CSRS and FERS, respectively. 

All employees are eligible to contribute to a thrift savings plan. For those employees participating in the 

FERS, a thrift savings plan is automatically established, and the SEC makes a mandatory 1 percent 

contribution to this plan. In addition, the SEC makes 

matching contributions ranging from 1 to 4 percent 

for FERS-eligible employees who contribute to their 

thrift savings plans. FERS participating employees are 

also covered under the Federal Insurance Contributions 

Act (FICA), for which the SEC contributes a matching amount to the Social Security Administration. No 

matching contributions are made to the thrift savings 

plans for employees participating in the CSRS.
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74 FINANCIAL SECTION

U. Environmental Cleanup

The SEC does not have any liabilities for environmental cleanup.

V. Custodial Activities

The Statement of Custodial Activity presents the 

sources and disposition of SEC custodial activity that 

consists of primarily disgorgement, penalties, and 

interest assessed against violators of securities laws. 

When collected, the funds are either returned to the 

Treasury or the funds are held for future distribution 

to harmed investors, as discussed in Note 1. M. Accounts 

Receivable and Allowance for Uncollectible Accounts. 

W. Fiduciary Activities

Fiduciary activities represent the receipt, management, 

accounting, and disposition by the SEC of cash or other 

assets in which harmed investors have an ownership 

interest that the SEC must uphold. The SEC also recognizes an equal and offsetting liability for these assets.

The SEC’s fiduciary assets consist of disgorgement, 

penalties, and interest assessed against securities laws 

violators where the Commission, an administrative 

law judge, or, in some cases, a court has determined 

that the SEC should return such funds to harmed 

investors. The funds are held as fiduciary assets by the 

SEC pending distribution to harmed investors pursuant to an approved distribution plan. The SEC does 

not record fiduciary asset amounts collected and held 

by another government entity, such as a court, or a 

non-government entity, such as a receiver.
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75 FINANCIAL SECTION

Note 2. Fund Balance With Treasury

At September 30, 2006, Fund Balance With Treasury consisted of the following:

UNRESTRICTED RESTRICTED

(DOLLARS IN THOUSANDS) FUNDS FUNDS TOTAL

 Funds Obligated But Not Disbursed $229,971 $ — $ 229,971

 Funds Not Obligated 123,942 4,752,856 4,876,798

Subtotal Entity Funds 353,913 4,752,856 5,106,769

 Registrant Deposits 57,464 — 57,464

 Uninvested Fiduciary Assets 5,759 — 5,759

 Securities Transaction Fee Refund 8,901 — 8,901

Subtotal Non-Entity Funds 72,124 — 72,124

Total Fund Balance With Treasury $426,037 $4,752,856 $5,178,893

At September 30, 2005, Fund Balance With Treasury consisted of the following:

UNRESTRICTED RESTRICTED

(DOLLARS IN THOUSANDS) FUNDS FUNDS TOTAL

 Funds Obligated But Not Disbursed $235,499 $ — $ 235,499

 Funds Not Obligated 136,299 3,703,675 3,839,974

Subtotal Entity Funds 371,798 3,703,675 4,075,473

 Registrant Deposits 65,934 — 65,934

 Uninvested Fiduciary Assets 207,529 — 207,529

Subtotal Non-Entity Funds 273,463 — 273,463

Total Fund Balance With Treasury $645,261 $3,703,675 $4,348,936

Registrant deposit accounts are for filers who maintain a deposit account at the SEC to facilitate the filing process. These funds are drawn down when filers submit filings, and filers can replenish their deposit account as 

desired. Account balances with no activity for six months are returned to the registrant. Funds maintained in 

registrant deposit accounts are not available for SEC use until a filing has been submitted to the SEC, and then 

the funds are reclassified to entity funds.
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76 FINANCIAL SECTION

Note 3. Non-Entity Assets

At September 30, 2006 and 2005, non-entity assets 

consisted of the following:

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Registrant Deposits (Fund Balance 

With Treasury) $ 57,464 $ 65,934

Fiduciary Assets (Fund Balance 

With Treasury, Investments,

and Accounts Receivable) 3,834,662 1,975,553

Custodial Assets 

(Accounts Receivable) 71,545 95,512

Securities Transaction Fee Refund

(Fund Balance With Treasury) 8,901 —

Total Non-Entity Assets $3,972,572 $2,136,999

Note 4. Cash

At September 30, 2005, cash and other monetary assets 

represented a petty cash balance of $9 thousand. These 

petty cash funds were closed during FY 2006.

Note 5. Investments

At September 30, 2006, investments consisted of 

Treasury Special Overnight Certificates of 

Indebtedness and Market-Based Treasury Bills, summarized as follows:

(DOLLARS IN THOUSANDS)

AMORTIZATION INTEREST OTHER INVESTMENTS,

COST METHOD EARNED ADJUSTMENTS NET

$3,610,550 S/L $130,385 $(66,407) $3,674,528

At September 30, 2005, investments consisted of 

Treasury Special Overnight Certificates of 

Indebtedness and Market-Based Treasury Bills, summarized as follows:

(DOLLARS IN THOUSANDS)

AMORTIZATION INTEREST OTHER INVESTMENTS,

COST METHOD EARNED ADJUSTMENTS NET

$1,746,228 S/L $30,483 $(8,687) $1,768,024

As discussed in Note 1. L. Investments and Note 19. 

Fiduciary Assets and Liabilities, the investments represent disgorgement, penalties, and interest collected 

from securities law violators on behalf of harmed 

investors. Invested funds are held by the SEC pending distribution to harmed investors. The SEC invests 

these funds in overnight and short-term market-based 

Treasury bills through a facility provided by the BPD. 

The market value for these investments is the same as 

the net value stated above. Other adjustments are 

disbursements for estimated income tax payments 

because these funds are qualified settlement funds 

under Section 1.468B of the Internal Revenue Code 

and fees charged by the BPD. Unamortized discount 

on investments at September 30, 2006 and 2005 

were $28.0 million and $0.8 million, respectively. 
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77 FINANCIAL SECTION

Note 6. Accounts Receivable, Net 

At September 30, 2006, accounts receivable consisted of the following:

(DOLLARS IN THOUSANDS) GROSS RECEIVABLES ALLOWANCE NET RECEIVABLES

 Entity Intragovernmental Assets:

 Due for Reimbursable Agreements $ 131 $ — $ 131

 Non-Entity Intragovernmental Assets:

 Disgorgement and Penalties 154,375 — 154,375

Subtotal Intragovernmental Assets 154,506 — 154,506

 Entity Assets:

 Exchange Fees 105,416 — 105,416

 Filing Fees 232 5 227

 Other 305 2 303

 Non-Entity Assets:

 Disgorgement and Penalties 247,631 176,086 71,545

Subtotal Non-Intragovernmental Assets 353,584 176,093 177,491

Total $ 508,090 $ 176,093 $331,997

At September 30, 2005, accounts receivable consisted of the following:

(DOLLARS IN THOUSANDS) GROSS RECEIVABLES ALLOWANCE NET RECEIVABLES

 Entity Intragovernmental Assets:

 Due for Reimbursable Agreements $ 194 $ — $ 194

Subtotal Intragovernmental Assets 194 — 194

 Entity Assets:

 Exchange Fees 126,589 — 126,589

 Filing Fees 26 — 26

 Other 281 7 274

 Non-Entity Assets:

 Disgorgement and Penalties 1,364,610 1,269,099 95,511

 FOIA Fees 1 — 1

Subtotal Non-Intragovernmental Assets 1,491,507 1,269,106 222,401

Total $1,491,701 $1,269,106 $222,595
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78 FINANCIAL SECTION

Note 7. Property and Equipment, Net

At September 30, 2006, property and equipment consisted of the following:

DEPRECIATION/ SERVICE ACCUMULATED

CLASS OF PROPERTY AMORTIZATION LIFE ACQUISITION DEPRECIATION/ BOOK

(DOLLARS IN THOUSANDS) METHOD (YEARS) VALUE AMORTIZATION VALUE

Furniture S/L 5 $ 8,569 $ 2,165 $ 6,404

Equipment S/L 3 37,155 25,788 11,367

Software S/L 3-5 48,711 36,032 12,679

Software in Progress N/A N/A 10,117 — 10,117

Leasehold Improvements S/L 10 69,104 6,040 63,064

Total $173,656 $70,025 $103,631

At September 30, 2005, property and equipment consisted of the following:

DEPRECIATION/ SERVICE ACCUMULATED

CLASS OF PROPERTY AMORTIZATION LIFE ACQUISITION DEPRECIATION/ BOOK

(DOLLARS IN THOUSANDS) METHOD (YEARS) VALUE AMORTIZATION VALUE

Furniture S/L 5 $ 5,295 $ 508 $ 4,787

Equipment S/L 3 36,392 17,565 18,827

Software S/L 3-5 38,524 28,691 9,833

Software in Progress N/A N/A 7,350 — 7,350

Leasehold Improvements S/L 10 33,447 935 32,512

Total $121,008 $47,699 $ 73,309

Leasehold improvements include costs incurred for new locations in Washington, D.C., Boston, and New York. 

The SEC occupied the first of its new headquarters buildings during FY 2005 and the second building in 

FY 2006. Therefore, no amortization expense was recognized in FY 2005 for the leasehold improvements to the 

second building. During FY 2006, the SEC also occupied new office space in Boston and New York, and began 

amortizing the leasehold improvements for those office locations. 
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79 FINANCIAL SECTION

Note 8. Liabilities

At September 30, 2006 and 2005, liabilities consisted of the following:

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Liabilities Covered by Budgetary Resources 

 Intragovernmental 

 Accounts Payable $ 14,527 $ 16,848

 Employee Benefits 2,687 2,702

Total Intragovernmental Liabilities 17,214 19,550

 Accounts Payable 47,608 28,014

 Accrued Payroll and Benefits 18,149 18,436

 Registrant Deposits 57,464 65,934

 Custodial Liability 71,545 95,512

 Fiduciary Liability 3,834,662 1,975,553

 Other Accrued Liabilities—Commitments and Contingencies — 700

 Other Accrued Liabilities—Employee Awards 2,036 4,225

 Other Accrued Liabilities—Student Loans 3,902 2,098

 Other Accrued Liabilities—Securities Transaction Fee Refund 8,901 —

Total Liabilities Covered by Budgetary Resources 4,061,481 2,210,022

Liabilities Not Covered by Budgetary Resources 

 Intragovernmental 

 Unfunded FECA Liability 992 1,045

 Total Intragovernmental Liabilities 992 1,045

 Other Accrued Liabilities—Recognition of Lease Liability 27,641 21,647 

 Accrued Leave 32,974 32,024 

 Actuarial FECA Liability 4,813 5,475

Total Liabilities Not Covered by Budgetary Resources 66,420 60,191

Total Liabilities $4,127,901 $2,270,213
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80 FINANCIAL SECTION

Note 9. Actuarial FECA Liability

The FECA provides income and medical cost protection to covered federal civilian employees harmed on 

the job and for those who have contracted a workrelated occupational disease, and dependents of 

employees whose death is attributable to a job-related 

injury or occupational disease. Claims incurred for 

benefits under the FECA for the SEC’s employees are 

administered by the DOL and, ultimately, are paid by 

the SEC.

The SEC’s estimate is based on the DOL’s model 

for estimating the FECA actuarial liability for federal 

agencies not specified in the DOL’s FECA model. The 

model considers the average amount of benefit payments incurred by the SEC for the past three fiscal 

years, multiplied by the medical and compensation 

liability to benefits paid (LBP) ratio for the whole 

FECA program, estimated at approximately 11 times 

the annual payments. To capture variability, the model 

estimates the liability using three sets of LBP ratios, 

summarized as follows:

For FY 2006, the LBP ratios were as follows:

LBP CATEGORY MEDICAL COMPENSATION

Highest 9.70% 12.80%

Overall Average 8.00% 11.90%

Lowest 7.10% 11.40%

For FY 2005, the LBP ratios were as follows:

LBP CATEGORY MEDICAL COMPENSATION

Highest 9.10% 13.40%

Overall Average 8.00% 12.30%

Lowest 7.00% 11.40%

For FY 2006 and 2005, the SEC used the Overall 

Average LBP ratios to calculate the $4.8 million and 

$5.5 million FECA actuarial liabilities for those 

years, respectively. 

Note 10. Leases

The SEC has the authority to negotiate long-term 

leases for office space. At September 30, 2006, the 

SEC leased office space at 18 locations under operating lease agreements that expire between 2008 

and 2021. The SEC paid $80,958 thousand and 

$66,538 thousand for rent for FY 2006 and 2005, 

respectively. Under existing commitments, the minimum lease payments through FY 2011 and thereafter 

are as follows:

FISCAL YEAR MINIMUM

(DOLLARS IN THOUSANDS) LEASE PAYMENTS

2007 $ 82,292

2008 78,958

2009 76,952

2010 75,260

2011 75,266

2012 and thereafter 470,671

Total Future Minimum Lease Payments $859,399

The total future minimum lease payments summarized above include a liability the SEC has recognized 

for office space leased in Washington, D.C. and New 

York. During FY 2006, the SEC moved into new 

office space and vacated old office space in Washington, 

D.C. While the SEC is marketing the old office space 

for potential tenants, the SEC is responsible for the 

remaining $7,448 thousand of lease payments that end 

in FY 2008. 

During FY 2005, the SEC also entered into a lease 

agreement for new office space in New York. With 

respect to its prior New York office space, the SEC 

and U.S. General Services Administration (GSA) 

entered into separate agreements with the lessor. The 

GSA has agreed to rent the office space from the lessor for the next five years of the SEC’s lease. At that 

time, the GSA has the option to renew the agreement 

for the remaining 15 months of the SEC’s lease. As 

part of the SEC’s agreement with the lessor, the SEC 
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81 FINANCIAL SECTION

was responsible for the estimated $18 million difference between its annual lease liability and the annual lease 

liability negotiated by the GSA with the lessor.

FISCAL YEAR REQUIRED LEASE PAYMENTS

(DOLLARS IN THOUSANDS) NEW YORK WASHINGTON, D.C. TOTAL

2007 $ 2,603 $5,586 $ 8,189

2008 2,722 1,862 4,584

2009 2,722 — 2,722

2010 2,722 — 2,722

2011 2,469 — 2,469

2012 1,192 — 1,192

Total Future Estimated Lease Payments $14,430 $ 7,448 $21,878

In addition, during FY 2005, the SEC moved into temporary office space in New York because the new office 

space was under renovation. This temporary office space was being provided to the SEC for only the lessor’s 

operating costs, and therefore, the SEC did not pay rent expense for its New York office for five months of the fiscal year. The SEC has attributed rent expense on a straight-line basis over the life of its new lease, and recorded 

rent expense estimated at $3.6 million in FY 2005. In FY 2006, the SEC recorded an additional six months of 

rent expense totaling approximately $4.4 million and recorded a reduction to the liability for 6 months totaling 

$0.3 million. For FY 2006 and 2005, the SEC recognized an unfunded liability of $27.6 million and $21.6 million, respectively to cover the three lease obligations (See Note 8. Liabilities). 
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82 FINANCIAL SECTION

Note 11. Imputed Financing 

The SEC recognizes an imputed financing source and 

corresponding expense to represent its share of the cost 

to the federal government of providing pension and 

post-retirement health and life insurance benefits 

(Pension/Other Retirements Benefits (ORB)) to all eligible SEC employees. For FY 2006 and 2005, the 

components of the imputed financing sources and corresponding expenses were as follows:

PENSION/ORB CATEGORY

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

CSRS $ 6,956 $ 6,999

FERS 1,269 1,416

FEHB 18,525 17,320

FEGLI 93 88

Other 7 9

Total Pension/ORB $26,850 $25,832

Note 12. Intragovernmental Costs 

and Exchange Revenue 

Program costs are accumulated by responsibility segment and consist of costs related directly to the 

individual program lines and overall support costs 

allocated to the program lines. All costs incurred 

during FY 2006 and 2005 were assigned to specific 

program lines, but exchange revenue is not directly 

assignable to a specific program, and is presented in 

total. For FY 2006 and 2005, total intragovernmental and public program operating costs are summarized below. 

PROGRAM COSTS

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Compliance Inspections and Exams

Intragovernmental Costs $ 39,667 $ 46,367

Public Costs 201,530 202,605

Subtotal—Compliance Inspections

and Exams 241,197 248,972

Corporation Finance

Intragovernmental Costs 21,049 24,772

Public Costs 104,434 102,859

Subtotal—Corporation Finance 125,483 127,631

Enforcement

Intragovernmental Costs 56,990 72,502

Public Costs 279,736 292,013

Subtotal—Enforcement 336,726 364,515

Investment Management

Intragovernmental Costs 7,216 9,438

Public Costs 43,296 39,970

Subtotal—Investment Management 50,512 49,408

Market Regulation

Intragovernmental Costs 7,588 8,739

Public Costs 39,301 37,745

Subtotal—Market Regulation 46,889 46,484

Other Offices

Intragovernmental Costs 13,554 15,028

Public Costs 74,562 65,612

Subtotal—Other Offices 88,116 80,640

Total Entity

Intragovernmental Costs 146,064 176,846

Public Costs 742,859 740,804

Total Costs 888,923 917,650

Less Exchange Revenues (1,882,619) (1,745,111)

Net (Income) from Operations $ (993,696) $ (827,461)
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83 FINANCIAL SECTION

Note 13. Program Costs by Category

For FY 2006, program costs by cost category were as follows:

COMPLIANCE

COST CATEGORY INSPECTIONS CORPORATION INVESTMENT MARKET OTHER

(DOLLARS IN THOUSANDS) AND EXAMS FINANCE ENFORCEMENT MANAGEMENT REGULATION OFFICES TOTAL

Direct Costs

Personnel Services and Benefits $130,372 $ 73,027 $ 187,647 $26,507 $26,881 $48,185 $ 492,619

Compensation and Benefits 5,997 3,278 7,304 1,311 1,345 2,322 21,557

Travel and Transportation 384 143 1,601 44 512 782 3,466

Rent, Communications, and Utilities 53 7 4 — — 20 84

Printing and Reproduction — — 905 — — 2 907

Contractual Services — 238 8,423 — (9) 702 9,354

Supplies and Materials — — — — — — —

Depreciation and Amortization 15 25 79 13 191 387 710

Loss on Asset Disposition 1 — — 1 3 1 6

Subtotal Direct Costs 136,822 76,718 205,963 27,876 28,923 52,401 528,703

Allocated Costs

Personnel Services and Benefits 23,590 9,583 30,773 3,414 3,544 6,387 77,291

Compensation and Benefits 1,859 805 2,453 289 298 538 6,242

Unfunded Estimated FECA Expense (69) (36) (91) (12) (13) (23) (244)

Travel and Transportation 2,412 94 2,542 34 35 106 5,223

Rent, Communications, and Utilities 28,710 13,676 31,262 10,603 5,028 12,813 102,092

Printing and Reproduction 1,319 674 1,729 223 248 430 4,623

Contractual Services 20,518 9,873 27,288 3,374 3,638 6,465 71,156

Abandonment of Software in 

 Development Project — — — — — — —

Training 1,143 600 1,512 200 221 384 4,060

Maintenance and Repairs 468 153 569 51 56 100 1,397

Supplies and Materials 1,080 302 1,284 105 111 207 3,089

Equipment Not Capitalized 3,182 1,572 4,191 536 579 1,024 11,084

Insurance Claims and Indemnities 97 51 128 17 19 32 344

Depreciation and Amortization 6,431 4,295 9,104 1,436 1,583 2,706 25,555

Loss on Asset Disposition 304 152 406 50 56 97 1,065

Land and Structures 13,330 6,971 17,612 2,316 2,563 4,449 47,241

Other 1 — 1 — — — 2

Subtotal Allocated Costs 104,375 48,765 130,763 22,636 17,966 35,715 360,220

Total Program Costs $ 241,197 $125,483 $336,726 $ 50,512 $46,889 $ 88,116 $888,923
Financial Statements

Page 74 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

84 FINANCIAL SECTION

For FY 2005, program costs by cost category were as follows:

COMPLIANCE

COST CATEGORY INSPECTIONS CORPORATION INVESTMENT MARKET OTHER

(DOLLARS IN THOUSANDS) AND EXAMS FINANCE ENFORCEMENT MANAGEMENT REGULATION OFFICES TOTAL

Direct Costs

Personnel Services and Benefits $124,020 $ 73,097 $187,003 $29,547 $ 26,159 $45,599 $485,425

Compensation and Benefits 6,615 3,673 8,277 1,285 1,264 2,531 23,645

Travel and Transportation 810 144 1,698 131 634 955 4,372

Rent, Communications, and Utilities 29 4 — — — 12 45

Printing and Reproduction — — 3,210 — — — 3,210

Contractual Services — 230 12,869 — 39 974 14,112

Supplies and Materials — — — — — — —

Depreciation and Amortization — 12 812 566 154 290 1,834

Loss on Asset Disposition — 1 1 1 — 1 4

Subtotal Direct Costs 131,474 77,161 213,870 31,530 28,250 50,362 532,647

Allocated Costs

Personnel Services and Benefits 23,353 9,186 30,870 3,463 3,326 5,675 75,873

Compensation and Benefits 1,705 678 2,201 256 245 420 5,505

Unfunded Estimated FECA Expense 227 119 300 44 43 72 805

Travel and Transportation 3,152 126 3,395 47 46 110 6,876

Rent, Communications, and Utilities 34,381 13,337 40,774 4,329 4,813 7,644 105,278

Printing and Reproduction 4,816 2,516 6,390 936 908 1,526 17,092

Contractual Services 22,183 9,875 29,301 3,692 3,569 6,120 74,740

Abandonment of Software in 

 Development Project 47 24 68 9 9 15 172

Training 467 245 620 91 89 148 1,660

Maintenance and Repairs 429 132 515 49 47 81 1,253

Supplies and Materials 984 326 1,233 122 118 204 2,987

Equipment Not Capitalized 21,735 11,015 28,703 4,096 3,976 6,703 76,228

Insurance Claims and Indemnities 188 99 250 37 36 60 670

Depreciation and Amortization 3,795 2,775 5,976 701 1,003 1,490 15,740

Loss on Asset Disposition 36 17 49 6 6 10 124

Land and Structures — — — — — — —

Other — — — — — — —

Subtotal Allocated Costs 117,498 50,470 150,645 17,878 18,234 30,278 385,003

Total Program Costs $248,972 $127,631 $364,515 $49,408 $46,484 $80,640 $ 917,650

Note 14. Exchange Revenues

For FY 2006 and 2005, exchange revenues consisted 

of the following:

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Securities Transactions Fees $1,382,805 $1,150,184

Securities Registration, Tender 

 Offer, and Merger Fees 499,236 594,685

Other 578 242

Total Exchange Revenues $1,882,619 $1,745,111
Financial Statements

Page 75 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

85 FINANCIAL SECTION

Note 15. Transfers Without Reimbursement

For FY 2006, transfers of budgetary authority (from) to other SEC funds consisted of the following:

INTRA-AGENCY TRANSFERS

(DOLLARS IN THOUSANDS) INDEFINITE AUTHORITY GENERAL FUND NET TRANSFERS

To Transfer Canceling Authority $7,877 $(7,877) $ —

Net Transfers $7,877 $(7,877) $ —

For FY 2005, transfers of budgetary authority (from) to other SEC funds consisted of the following:

INTRA-AGENCY TRANSFERS

(DOLLARS IN THOUSANDS) INDEFINITE AUTHORITY GENERAL FUND NET TRANSFERS

To Fund Current Year Operations $57,000 $(57,000) $ —

To Transfer Canceling Authority 5,232 (5,232) —

Net Transfers $62,232 $(62,232) $ —

Intra-agency transfers represent funding from prior 

years unobligated balances to fund the current year 

appropriation level or to transfer canceling unobligated 

balances to indefinite authority. 

Note 16. Status of Budgetary 

Resources

A. Apportionment Categories of Obligations 

Incurred

For FY 2006 and 2005, obligations incurred as 

reported on the Statement of Budgetary Resources 

consisted of the following:

OBLIGATIONS INCURRED 

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Direct Obligations

Category A $896,911 $960,753

Total Direct Obligations 896,911 960,753

Reimbursable Obligations

Category B 519 580

Total Reimbursable Obligations 519 580

Total Obligations Incurred $897,430 $961,333

The amounts of budgetary resources obligated for 

undelivered orders were $140,595 thousand and 

$162,080 thousand as of September 30, 2006 and 

2005, respectively.

B. Explanation of Differences between the 

Statement of Budgetary Resources and the 

Budget of the United States Government

The distinction between Category A and B funds is 

that Category A funds are subject to quarterly apportionment by the OMB, while Category B funds are 

available for use by the agency without being subject 

to apportionment. For FY 2005, there were no material differences between the Statement of Budgetary 

Resources and the Budget of the United States 

Government. In addition, a comparison between the 

Statements of Budgetary Resources and the actual 

FY 2006 data in the President’s Budget cannot be 

performed as the FY 2008 President’s Budget is not 

yet available.
Financial Statements

Page 76 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

86 FINANCIAL SECTION

Note 18. Custodial Revenues and Liabilities

For FY 2006, custodial revenues consisted of the following:

(DOLLARS IN THOUSANDS) DISGORGEMENT AND PENALTIES OTHER TOTAL

Cash Collections $ 1,804,043 $ 90 $ 1,804,133

Less: Refunds — — —

Net Cash Collections 1,804,043 90 1,804,133

Increase/(Decrease) in Amounts to be Collected (23,967) — (23,967)

Total Non-Exchange Revenues $ 1,780,076 $ 90 $ 1,780,166

At September 30, 2006, custodial liabilities consisted of the following:

(DOLLARS IN THOUSANDS) DISGORGEMENT AND PENALTIES OTHER TOTAL

Gross Custodial Accounts Receivable $ 247,631 $ — $ 247,631

Less: Allowance for Doubtful Accounts (176,086) — (176,086)

Net Custodial Liability $ 71,545 $ — $ 71,545

For FY 2005, custodial revenues consisted of the following:

(DOLLARS IN THOUSANDS) DISGORGEMENT AND PENALTIES OTHER TOTAL

Cash Collections $ 1,606,274 $270 $ 1,606,544

Less: Refunds — — —

Net Cash Collections 1,606,274 270 1,606,544

Increase/(Decrease) in Amounts to be Collected (183,535) (7) (183,542)

Total Non-Exchange Revenues $ 1,422,739 $263 $ 1,423,002

At September 30, 2005, custodial liabilities consisted of the following:

(DOLLARS IN THOUSANDS) DISGORGEMENT AND PENALTIES OTHER TOTAL

Gross Custodial Accounts Receivable $ 1,364,610 $ 1 $ 1,364,611

Less: Allowance for Doubtful Accounts (1,269,099) — (1,269,099)

Net Custodial Liability $ 95,511 $ 1 $ 95,512

Note 17. Components Requiring 

or Generating Resources in 

Future Periods

The relationship between the amounts reported as 

liabilities not covered by budgetary resources on the 

Balance Sheets, as shown in Note 8. Liabilities, and 

the amounts reported as components requiring or 

generating resources in future periods on the 

Statements of Financing was analyzed. The changes 

in accrued leave, lease liability, and unfunded FECA 

liability are reported in the Statements of Financing. 

These changes represent the increases/decreases in 

liabilities not covered by budgetary resources. The 

other liabilities on the Balance Sheets are covered by 

the budgetary resources, therefore, are not part of the 

Statements of Financing.

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Current Year Liabilities Not Covered 

 By Budgetary Resources $66,420 $ 60,191

Prior Year Liabilities That Are Not 

 Components of Current Year 

 Net Cost (60,191) (34,967)

Increase/Decrease in Accrued Leave, 

 Lease Liability, and Unfunded 

 FECA Liability, As Reported on 

the Statements of Financing $ 6,229 $ 25,224
Financial Statements

Page 77 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

87 FINANCIAL SECTION

Note 19. Fiduciary Assets 

and Liabilities

At September 30, 2006 and 2005, the assets held by 

the SEC in a fiduciary capacity and its offsetting liability consisted of the following:

FIDUCIARY ACTIVITIES 

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Assets

Fund Balance With Treasury $ 5,759 $ 207,529

Investments 3,674,528 1,768,024

Accounts Receivable 154,375 —

Total Assets $3,834,662 $1,975,553

Liabilities

Liability for Fiduciary Activity $3,834,662 $1,975,553

Total Liabilities $3,834,662 $1,975,553

For FY 2006 and 2005, the source and disposition of 

the SEC’s fiduciary activities consisted of the 

following: 

FIDUCIARY ACTIVITIES 

(DOLLARS IN THOUSANDS) FY 2006 FY 2005

Fund Balance With Treasury

Beginning Balance $ 207,529 $ 863,167

Disgorgement and Penalties 1,639,914 1,112,386

Transfer to Investments (1,841,684) (1,768,024) 

Total Fund Balance With Treasury 5,759 207,529

Investments

Beginning Balance 1,768,024 —

Net Investments Activity—

 Disgorgement and Penalties 1,906,504 1,768,024

Total Investments 3,674,528 1,768,024

Accounts Receivable

Beginning Balance — —

Net Activity-Accounts Receivable 154,375 —

Total Accounts Receivable 154,375 —

Total Assets $3,834,662 $1,975,553

Liability for Fiduciary Activity

Beginning Balance $1,975,553 $ 863,167

Disgorgement and Penalties 1,859,109 1,112,386

Total Liabilities $3,834,662 $1,975,553

Note 20. Commitments 

and Contingencies 

A. Commitments

The Securities Investor Protection Act of 1970, as 

amended (SIPA) created the SIPC to provide certain 

financial protections to customers of insolvent registered securities brokers, dealers, firms, and members of 

national securities exchanges for up to $500,000 per 

customer. The SIPA authorizes the SIPC to create a 

fund to maintain all moneys received and disbursed 

by the SIPC. The SIPA also gives the SIPC the authority to borrow funds from the SEC in an amount not to 

exceed in the aggregate $1 billion in the event that the 

SIPC fund is or may appear insufficient for purposes 

of the SIPA. If necessary, these funds would be made 

available to the SEC through the purchase by the 

Treasury of notes or other obligating instruments 

issued by the SEC. Such notes or other obligating 

instruments would bear interest at a rate determined 

by the Secretary of the Treasury. As of September 30, 

2006 and 2005, the SEC had not loaned any funds to 

the SIPC, and there are no outstanding notes or other 

obligating instruments issued by the SEC. 

In addition to the future lease commitments discussed in Note 10. Leases, the SEC is obligated for the 

purchase of goods and services that have been ordered, 

but not yet received. For FY 2006, net obligations for all 

of the SEC’s activities were $229,308 thousand and of 

this amount $89,507 thousand were delivered and 

unpaid. For FY 2005, net obligations for all of the SEC’s 

activities were $235,508 thousand and of this amount 

$73,622 thousand were delivered and unpaid.
Financial Statements

Page 78 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

88 FINANCIAL SECTION

B. Contingencies

The SEC is party to various routine administrative 

proceedings, legal actions, and claims brought by or 

against it, including threatened or pending litigation 

involving labor relations claims, some of which may 

ultimately result in settlements or decisions against the 

federal government. As of September 30, 2006, SEC 

management does not expect to owe for claims. As of 

September 30, 2005, SEC management expected that 

approximately $700 thousand was owed for Equal 

Access to Justice matters.
Page 79 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005

Appendix I

Comments from the Securities and Exchange Apendxies

Commission ApendxiI
Appendix I

Comments from the Securities and Exchange 

Commission

Page 80 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005
Appendix I

Comments from the Securities and Exchange 

Commission

(194571) Page 81 GAO-07-134 SEC’s Financial Statements for Fiscal Years 2006 and 2005
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