Report to State Street Bank and Trust Company. Re: Expense Billing Review and Payment Determination

Transcription

1 Report to State Street Bank and Trust Company Re: Expense Billing Review and Payment Determination April 11, 2017

2 Table of Contents I. Introduction & Executive Summary... 2 II. The Company s Process to Identify Expenses Billed in Error... 7 A. Identification of Expense Categories Billed in Error... 7 B. State Street Global Services... 8 C. State Street Global Markets, State Street Global Exchange and State Street Global Advisors D. Conclusion III. Client Payment Calculations A. Determination of Historical Cost B. Information and Data Aggregation C. Preparation of Client Statements D. Client Payment Database and Client Statement Testing IV. Conclusion V. Qualifications Appendix A: Report of External Cost Accounting Expert 1

3 I. Introduction & Executive Summary State Street Bank and Trust Company (the Company ) has announced that it will make payments to asset servicing clients for expense amounts billed in error during the period 1998 through Floyd Advisory LLC ( we, our, us ) was engaged by the Company to assess the Company s processes to identify the categories of expenses that were overbilled and to identify the clients that were affected. 1 We were also asked to assess the Company s method of calculating client specific payments, including performing detailed testing of the Company s client payment database (which serves as the basis for a majority of the Company s client payment calculations), as well as testing of a selection of the Company s client specific payment calculations ( Client Statements ). As explained in detail below, the Company, with the help of external legal and accounting advisors (including Floyd Advisory), undertook a detailed review to identify types or categories of expenses that were billed in error by the regions or business units that billed such categories of expenses. Based on the results of this analysis, the Company determined that 13 categories of expenses were billed in error. 2 Generally, most of these categories were not expenses specifically attributable to a particular client, but rather expenses that the Company allocated among clients often based on unit costs that the Company determined. With very limited exceptions, these expenses were billed by business units within the Company s Global Services America division ( GSA ) of the State Street Global Services business unit ( SSGS ). The Company assessed whether clients in other business units, including Global Services business units outside the United States, were billed in error as a result of issues similar to those identified with respect to the specific categories of expenses under review. As discussed herein, the Company identified several discrete billing errors outside the United States. In order to determine whether expenses within one of the 13 categories was billed in error, the Company and a team of external cost accounting experts estimated the costs of services provided, primarily by calculating a unit cost specific to each expense category for each year under review. We have relied upon the report of the external cost accounting experts, attached at Appendix A, for purposes of conducting our procedures. The 13 categories are disclosed in the Summary of Methodology and Payment Determination dated May 2016 as updated as of April 11, 2017 ( the Revised May 2016 Summary ) provided to clients. The Company calculated client specific payments 1 We are a consulting firm and not a CPA firm, and do not provide attest services, audits or other engagements in accordance with the AICPA Statements on Auditing Standards. 2 The Company also analyzed certain expense billings outside of these 13 categories that, in some instances, included allocations of third party vendor charges across a population of customers. Based on the Company s analysis, there were certain amounts billed in error due to discrete allocation errors which have been included in the appropriate Client Statements. See Section II.A herein for further discussion of the Company s analysis of these billings, the results of the Company s analysis, and Floyd Advisory s testing of the Company s review process. 2

4 based on a comparison of amounts originally billed to historical costs incurred as determined by the Company with assistance from its external accounting experts. 3 Our assessment of the Company s process to identify the expenses that were billed in error and the clients affected by such billings included review of memoranda and other work papers documenting the analyses performed and conclusions reached by the Company and external accounting experts, as well as interviews of numerous Company personnel from finance, operations and internal audit and the Company s external advisors that assisted with determining historical costs of the 13 categories of expense. We also conducted tests of the Company s billing process that we deemed appropriate. Based on our procedures, we believe that the Company s process to identify the expense categories that were billed in error (and the clients affected) was reasonable. The Company maintained a database ( client payment database ) that contained data necessary to calculate amounts to be paid to most of the impacted clients and to prepare related Client Statements. 4 The Company prepared client payment calculations for each client billed in error. The Client Statements were prepared by members of the Company s operations and finance groups who were not involved in the preparation of historical invoices. Client Statements were reviewed by client service operations staff from the Company s GSA division for approval before being finalized. We were asked by the Company to analyze and test its process for determining client payments. To do so, we performed detailed procedures to analyze and test all information contained in the client payment database to identify any errors or exceptions in the calculations of amounts to be paid. We communicated all such errors and exceptions to the Company. Regarding under payments identified in our testing, the Company updated the client payment database to correct the errors. We subsequently conducted additional tests to ensure that the required changes were made accurately and completely. The Company elected not to correct for any identified over payments. Our analysis and testing of the client payment database included the following: Reconciled the historical amounts billed for each expense category presented in the client payment database to the available historical billing information to validate the accuracy and completeness of the amounts; 3 A unit cost was calculated for most, but not all, of the 13 expense categories under review. See the Revised May 2016 Summary for specific approach for each category. Also, the review covered all periods for which the Company had available billing information, which was generally 1998 through October As discussed later in this report, four of the Company s business units outside of the United States (Luxembourg, Canada, Ireland (SSGS EMEA division), and Jersey (UK)) billed for certain expenses in excess of the related costs. The analysis and testing for these business units were performed separately by the Company and payments owed were summarized on separate Client Statements not part of our procedures. 3

5 Tested that the historical costs used to calculate client payments reflected the historical costs calculated by the Company and its external cost accounting experts; For SWIFT message expenses, reconciled the SWIFT message unit volumes to the Company s historical SWIFT volume database. For non SWIFT volumes, we assessed whether the volumes used are consistent with the methodologies explained in the Revised May 2016 Summary; For clients with fee schedule language that the Company determined differed from prevalent language in a way that might affect the amounts to be paid, 5 the Company s external counsel analyzed such language to determine how it should be applied in the respective client s payment calculation. We then performed recalculations to validate that the impact of such language was properly incorporated into the payment calculations. If a fee schedule prohibited the Company from billing one or more of the in scope categories of expense, we confirmed that any billings related to those categories during the Scope Period 6 were repaid in full. In instances where a fee schedule contained a stated rate for an inscope category of expense, we confirmed that the client payment database reflects the treatment of such stated rates as discussed in the Revised May 2016 Summary; Ensured that under payments resulting from historical billings split across multiple billing entities were identified and corrected (see page 17); Analyzed the client payment database to determine whether it was prepared consistently with the methodology disclosed in the Revised May 2016 Summary; Performed recalculations of the interest accrued based on the Company s documented methodology, and reconciled the interest rates utilized to third party sources; and Performed recalculations to verify mathematical accuracy. Additionally, to ensure the information in the final client payment database was accurately reflected in the Client Statements and that the Client Statements were prepared consistently with the methodology disclosed in the Revised May 2016 Summary, we reviewed a selection of Client Statements ( Tested Client Statements ) and assessed whether (i) the historical billing detail and payment calculations matched the client payment database, and (ii) summary schedules in the Client Statements were mathematically accurate. The Tested Client Statements included the customers 5 Such fee schedules generally limited the Company s ability to bill for one or more of the expense categories, or reflected an agreement to bill a stated amount for one or more of the expense categories. 6 See page 12 herein for definition of Scope Period. 4

6 with the 50 largest payment amounts as of June 30, 2016 ( Top 50 ), plus an additional sample of 25 Client Statements outside of the Top 50 population. 7 As previously noted, during our analysis and testing of the client payment database we identified certain errors and exceptions. The Company chose not to correct errors that led to overpayments to clients. However, the Company did correct those errors that would have led to under payments. We identified errors: In the application of historical costs; In the allocation of historical SWIFT volumes; In the non SWIFT volume assumptions; In the application of non standard fee schedule language; Due to historical billings split across multiple billing entities, resulting in the overstatement of historical costs; In the calculation of accrued interest; and Discrete mathematical errors. As previously discussed, we analyzed and tested updated versions of the client payment database in order to determine that any identified errors had been corrected by the Company in the final client payment database. For each of the Tested Client Statements, we did not identify any exceptions in our comparison of the final client payment database to the data in the Tested Client Statements, nor did we identify any mathematical errors within summary schedules of the Tested Client Statements. Based on the results of our procedures and analyses, the Company s process for calculating client payments is reasonable and the amounts due to clients, as presented in the client payment database, are fairly stated and consistent with the Revised May 2016 Summary. Importantly, as described herein, the Company updated the client payment database for all errors identified as a part of our procedures. In addition, based on our review of the Tested Client Statements, the Company s process 7 The Top 50 customers are comprised of over 130 Client Statements due to customer requests to separate the historical billing and payment calculation information onto separate statements (typically by fund groupings). The Tested Client Statements reflect approximately 75% of the amount the Company will pay to clients (excluding interest). 5

7 for preparing Client Statements was reasonable and should result in the Client Statements other than the Tested Client Statements being fairly stated and consistent with the Revised May 2016 Summary. Our procedures and analyses are based on the information made available to us as of the date of this report. As noted herein, available information varies by customer. Therefore, we reserve the right to update or amend this report to the extent additional relevant information becomes available. 6

8 II. The Company s Process to Identify Expenses Billed in Error A. Identification of Expense Categories Billed in Error The Company has identified 13 categories of expense that led to billing errors. These expense categories were billed to clients of certain business units of the Company s GSA division. Each of these categories involves an expense type that is allocated either (a) among clients, or (b) among the Company and clients. The billing errors related to these 13 categories were almost entirely limited to the Company s GSA division. 8 The 13 expense categories are (1) SEC Rule 17f 5 reports, (2) Archiving, (3) Checks and check writing privileges, (4) Delivery and courier services, (5) Duplication and printing, (6) Forms and supplies, (7) Micro equipment and support equipment, (8) Asset pricing and valuation, (9) SAS 99 data feeds, (10) SOC 1 reports, (11) SWIFT messaging, (12) Telephone services, and (13) Wires. The Company s process to identify the expense categories that were incorrectly billed by GSA was led by senior members in the finance and legal organizations who were assisted by external advisers. As part of this process, the Company conducted a category by category review of each expense type billed by GSA to determine the nature of the expense being billed. This analysis included the involvement of employees familiar with the billing practices in GSA and focused on expenses such as Out of Pocket Expenses, Reimbursable Expenses, Other Charges, or some variation thereof, as opposed to fee based charges for similar services, which were not part of the Company s analysis. 9 The Company ultimately determined that the billing errors in GSA were limited to the 13 expense categories listed above. Based on our procedures, including interviews of the Company individuals responsible, the process to identify in scope categories included a detailed review by GSA billing personnel of each out ofpocket expense category to determine whether the amounts were passed through from the vendor to the customer without adjustment. The detailed review by the Company included discussions among Company billing and operation personnel, analysis of the various expense categories to determine the source of the billing amounts, and review of sample invoices and supporting documentation. Senior members of the Company s corporate finance group who were not involved in historical billing practices oversaw the vetting process. Expense categories that were not passed through from the vendor to the customer were included in the payment analysis. 8 A small portion of billing errors were identified outside of GSA in the SSGS EMEA division in Ireland, in custody business outside of the United States (Canada and Luxembourg), and in Jersey (UK) division of Global Services International, as discussed later in this report. 9 While the Company s review was limited to expense billings, in certain instances it identified fees that were billed as expenses. In such instances, the Company assessed such billings in the same manner as it did other expense billings, as described herein. We analyzed all in scope categories billed as expenses, regardless of how they initially appeared on a fee schedule. 7

9 Expense categories that were passed through from the vendor to the customer, and therefore were determined to be appropriately treated, were deemed out of scope and, therefore, were excluded from the payment calculation process. Also, if expense categories were deemed to be based on contractual arrangements with the customer (e.g. one off projects that included out of pocket expenses), they were also deemed out of scope. We reviewed documentation supporting the Company s determination related to expense categories ultimately deemed out of scope (i.e. determined to be passed through from the vendor to the customer without mark up). We also reviewed the GSA billing data for all expense categories deemed out of scope over the entire Scope Period and discussed each expense category with GSA billing personnel to understand the general nature and source of data as to each. Out of scope categories include certain audit related charges, data services and technology related charges, certain delivery related charges, transfer agency charges, DTC underwriting charges, legal charges, settlement charges, certain pricing related charges, subcustody fees, tax related charges, travel expenses, and other discrete charges assessed by third party vendors passed through to the customer. The Company also identified a set of miscellaneous data services and technology billings that included some allocations of third party vendor charges across a population of customers. Consistent with the methodology described in the Revised May 2016 Summary, the Company conducted a review of these billings to determine if the vendor charges were over allocated to customers. Based on the Company s analysis, there were certain overbillings identified due to discrete allocation errors which have been included in the appropriate Client Statements. 10 We have reviewed the Company s assessment and tested a sample of items from (a) categories of expenses deemed by the Company to have expense allocations across a population of customers, and (b) categories of expenses the Company deemed to be a direct pass through of third party vendor charges. Based on our sample testing of these miscellaneous data services and technology billings, we did not identify evidence of systemic allocation issues, nor did we identify any additional discrete allocation errors resulting in customer overbillings. B. State Street Global Services As discussed above, the Company identified 13 categories of expenses that were billed in error by its GSA division within the SSGS business unit. Specifically, these billing errors affected clients billed by the United States Investor Services ( USIS ), Institutional Investor Services ( IIS ), and Alternative Investor Services ( AIS ) divisions of GSA. Clients serviced through the Wealth Manager Services ( WMS ) and Investor Manager Services ( IMS ) divisions were not affected as they generally did not bill clients for these categories of expenses. 10 The amount subject to the Company s analysis is approximately $70M of expense billings. The Company has identified discrete allocation errors resulting in overbillings of under $100,000. 8

10 In order to determine whether SSGS divisions outside of the United States were billed for any of the 13 expense categories or for any similar allocated expense types senior legal and finance personnel from the Company, along with external advisers, conducted a broad scoping effort to identify whether any SSGS business units outside of the United States billed out of pocket expenses that were not pass through in nature, including any expenses that were allocated among clients. The effort primarily consisted of in person and phone interviews with regional and business unit leaders familiar with billing practices for a particular business unit or region. In total, approximately 14 employees were interviewed, many on more than one occasion. 11 The Company s external counsel provided to us the facts obtained from those interviews in which we were not involved, and maintained a detailed tracking schedule that set forth the business units outside of the United States, along with the Company s conclusion with regard to whether each business unit billed clients for expenses allocated among clients or the Company. For any business unit that, based on interviews conducted, might have had one or more expenses that were not pass through in nature, the Company and its external advisors (including Floyd Advisory LLC) conducted additional interviews and other analyses, including a more in depth testing of billing information, to determine if any billing errors had occurred. With regard to SSGS divisions outside the Americas, with limited exceptions discussed in the next paragraph, the Company determined that customers of these divisions (SSGS EMEA and SSGS Asia Pacific) were not billed for the types of expenses that led to the billing errors in GSA. Generally, SSGS EMEA and Asia Pacific expense billings were limited to subcustody, DTC ADR charges, translation fees, courier expenses, and Central Clearing and Settlement System ( CCASS ) fees. Each of these expense categories include passed through third party costs, with no adjustments made. The billing errors identified in business units outside of the United States relate to five business units. One of the Company s European business units in its AIS division included a 10% mark up to certain pass through expenses and also, for certain clients, billed a flat fee related to several categories of expenses. Client payments related to these mark ups are included in the client payment database. In addition, four of its business units outside of the United States (Luxembourg, Canada, Ireland (SSGS EMEA division), and Jersey (UK)) billed for certain expenses in excess of the related costs. Luxembourg and Canada billed clients for SWIFT message expense by passing along to clients the internal cost accounting charges those business units incurred for SWIFT. Jersey (UK) and Ireland (SSGS EMEA division) billed a flat fee related to several categories of expenses and, in some cases, the flat fee charged exceeded the associated costs. The analysis of Canada, Luxembourg, Ireland (SSGS EMEA division), and Jersey (UK) were performed separately by the Company and payments owed were summarized on separate Client Statements not part of our procedures Separate interviews of some key region leaders were also conducted by the Company s outside audit firm and were attended by Company legal, finance, and internal audit personnel, as well as external advisors. 12 The aggregate payment amount for all clients in Canada and Luxembourg is less than $200,000. The aggregate payment amount for all clients in Ireland (SSGS EMEA division) is approximately $4,000,000. The payment analysis for Jersey (UK) is approximately $950,000. All amounts exclude interest. 9

11 To understand the Company s process to assess GSA expense billing, we obtained facts from counsel who conducted interviews and reviewed all s and summary information shared between the regions and the Company and its advisors as part of that process. We also analyzed the types of expenses billed by each region or business unit, and whether this information was consistent with the tracking schedule maintained by the Company discussed above. We also discussed the process with the Company and external counsel and tested the completeness of that process by reviewing Company organizational charts and agreeing them back to the regions and units included in the scoping process. C. State Street Global Markets, State Street Global Exchange and State Street Global Advisors The Company determined that its State Street Global Markets ( SSGM ), State Street Global Exchange ( SSGX ) and State Street Global Advisors ( SSGA ) divisions generally did not bill for the categories of expenses under review. Instead, any business units that billed clients for expenses in these divisions generally limited those expense billings to the pass through of third party costs. In order to make this assessment, the Company interviewed key finance personnel familiar with current and historical billing practices. To understand the Company s process to assess SSGM, SSGX, and SSGA expense billing, we reviewed the information shared between the business units and the Company and its advisors to understand the basis for the Company s conclusion and the types of expenses billed by each unit. We also discussed the process with the Company and external counsel and tested the completeness of that process by reviewing Company organizational charts and agreeing them back to the units included in the scoping process. D. Conclusion Based on our procedures, we believe that the Company s process to identify the expense categories that were billed in error (and the clients affected) was reasonable. 10

12 III. Client Payment Calculations The Company asked us to assess its process to (i) calculate client payments as documented in the client payment database, and (ii) create Client Statements that accurately reflect these calculations. Sections III.A through III.C below discuss the Company s processes and III.D discusses our analysis and testing thereof. A. Determination of Historical Cost Company finance personnel and the external cost accounting experts determined the historical costs for each of the 13 expense categories, as explained in the Revised May 2016 Summary. For most categories, only direct external costs were included in the calculation of historical costs (which was primarily calculated in the form of a unit cost). For a limited number of categories, both external costs and direct internal costs were included. Company finance personnel and the external cost accountants also identified the most reasonable and appropriate approach to allocate the historical costs across applicable clients. Historical costs (e.g. unit costs) for each category were determined on an annual basis, and varied over time due to changes in costs incurred and the volumes over which the costs were allocated. The Company s Revised May 2016 Summary summarizes the process for calculating the historical costs for each expense category. The Company and its external cost accountants also prepared detailed memoranda and schedules supporting the historical cost determination methodology, cost inputs, and cost calculation. In order to gain an understanding of the process, we reviewed the detailed memoranda and supporting schedules, and spoke with Company finance personnel and external cost accountants involved in the process. See Appendix A for a report from the external cost accountants describing their combined effort with Company personnel in more detail, as well their conclusion as to the reasonableness of the process for calculating historical costs. B. Information and Data Aggregation The information and data required to prepare Client Statements was collected and aggregated by various Company personnel with input provided by client relationship personnel (referred to herein as customer or client business teams ) knowledgeable about each customer s history. In some cases, outside consultants including Floyd Advisory LLC and counsel were enlisted to assist with the data compilation process. With the exception of unusual fee schedule terms, all information was input into the client payment database that was ultimately used to create Client Statements. Unusual fee schedule terms were addressed manually. The pertinent information and data streams used by the Company are discussed in detail below. 11

13 1. Historical Billing Information A significant majority of the expenses billed in error were billed through a single billing system referred to by the Company as the Central Billing System ( CBS ). CBS billing data was available from a portion of 1998 through October 2015, which was the end of the analysis scope period ( Scope Period ). CBS billing data prior to 1998 is not available. All available CBS expense billings related to the 13 categories billed in error were included in the client payment database Historical Costs As previously discussed, the Company and its external advisors calculated historical costs specific to each expense category and each year during the Scope Period. Historical costs for each category, primarily calculated in the form of annual unit costs, were included in the client payment database Historical Volume Information SWIFT SWIFT stands for Society for Worldwide Interbank Financial Telecommunication and is a network that allows financial and non financial institutions to quickly and securely send and receive financial information (such as wire transfer instructions). SWIFT instructions are sent via a SWIFT message. Each SWIFT message is made up of at least one message unit. A SWIFT message may include more than one message unit depending on the length or size of the message. The Company captures SWIFT activity via its Bank Electronic Support System ( BESS ), which is a gateway system used to transmit SWIFT messages. BESS captures inbound and outbound messages using a detailed fund code. Dedicated Company personnel create monthly detailed and summary reports capturing SWIFT activity for the various Company business lines. SWIFT outbound message activity related to GSA clients is sent to the GSA s billing group monthly. SWIFT volume activity file has been retained by the Company for periods from February 2001 and forward and is the basis for SWIFT message and unit volumes allocated to customers for client payment calculation purposes. For periods during the Scope Period prior to February 2001, the Company estimated missing volumes based on trends identified in available information. 13 As discussed in the Revised May 2016 Summary, certain historical billing data related to acquisitions made by the Company during the Scope Period (Investors Bank & Trust, Investors Fiduciary Trust Company, and a subset of European clients in the AIS part of SSGS located in Ireland) was not available and therefore not included in the Client Statements. See Footnote 3 to the Revised May 2016 Summary. 14 The one exception is Asset Pricing and Valuation for which the calculation of historical costs was tracked and maintained in a separate analysis which Floyd Advisory tested. The historical unit cost calculation was reviewed by the external cost accounting experts. 12

14 Of note, beginning in 2010 some SWIFT message units captured in the summary reports did not transmit through the external SWIFT network, and instead were transmitted over a separate internal network (herein referred to as ISM SWIFT ). Historically, some of these volumes were billed to clients. ISM SWIFT message units were considered as part of the unit cost determination process but no costs related to ISM SWIFT message counts were allocated to clients for payment calculation purposes. 4. Historical Volume Information Non SWIFT The volumes for non SWIFT categories were generally not tracked historically by the Company. Therefore, as explained in the Revised May 2016 Summary, volumes were estimated based on various measures depending on the expense category. For the fund based categories Archiving, Asset Valuation and Pricing, SOC 1 reports, Duplicating and Printing, SEC 17F 5 Reports, and Telephone customers were typically billed once per fund per period (typically either per month, quarter, or year). This information could generally be derived from the historical billing data. Therefore, each fund based category volume was based on the billing practice (volume = 1 for monthly billings, 3 for quarterly billings, etc.). The client business teams reviewed and updated non SWIFT volumes based on their knowledge of customer billing timing and of composite invoices (which include multiple funds in one invoice). If customer volumes were believed to be greater than 1 for a given invoice but could not be confirmed, the business teams reviewing and approving the Client Statements defaulted to a volume of 1. This results in a conservative payment calculation since a volume of 1 limits the calculated cost offset against the amount originally billed to the customer. Generally, volumes for the Wires and Checks and Check Writing Privileges categories were extracted from the billing data, if available, or imputed based on historical average billing rates as explained in the Revised May 2016 Summary. Costs for Forms & Supplies were allocated across funds based on the ratio of a fund s assets to total assets under custody in a given year. The source of the NAV detail used to populate the volume column was the Company s Fund Asset Reporting ( FAR ) system. Business units report volume of assets serviced through FAR. As explained in the Revised May 2016 Summary, the Company encountered a few instances where no assets had been reported to FAR. In such instances, the Company sought to determine if volume information related to assets serviced could be provided by business teams or otherwise existed in the Company s records. If such information could not be identified, the Company paid the clients affected in full for this category. Historical volumes are not necessary for the Delivery and Courier Service category because the Company determined the most reasonable method of repayment is based on an estimated 13

15 overcharge percentage rather than a unit cost. Volumes were also not captured for Micro and Support Equipment as the expense category is being refunded entirely. Finally, volumes were not captured for SAS 99 Data Feeds as these charges are not being paid as explained in the Revised May 2016 Summary. 5. Fee Schedule Information The Company identified the current fee schedule or schedules in effect for clients that were billed in error. 15 As a general matter, the Company assumed that the terms of the current fee schedules for any particular client were in effect for the entire Scope Period for purposes of determining the amount to be paid. In some instances, the Company also identified additional historical fee schedules for certain clients. 16 For a small number of customers the Company was not able to identify a fee schedule. In those cases, as described in the Revised May 2016 Summary, the Company assumed no unusual terms or restrictions applied to the related billings when determining the amount to be paid. To the extent that historical fee schedules were identified, their terms were applied during the respective effective dates of those fee schedules when determining the amount to be paid. The Company identified some fee schedules that could not be mapped to client funds, and therefore could not be associated with historical client billings. These schedules were not considered by the Company in the payment calculation. The Company and its external counsel undertook a process to review fee schedules. For clients with fee schedule language that the Company determined differed from prevalent language in a way that might affect the amounts to be paid, outside Company counsel analyzed such language to determine how it should be applied to the in scope categories of expense in the respective client s payment calculation. Client business teams reviewed and approved the fee schedule application in each Client Statement. Generally, these unusual fee schedules were those that limited the Company s ability to bill for one or more of the expense categories, or allowed the Company to bill an amount other than cost for one or more of the expense categories. 6. Interest Rates Interest rates for the Scope Period were compiled and summarized by Floyd Advisory at the request of the Company. For all non ERISA funds, the interest rate applied was the overnight LIBOR rates 15 Many clients had multiple current fee schedules that applied to different fund groups. Legal and business team personnel assigned each fee schedule to the fund or funds to which it applied. 16 Some historical fee schedules were already compiled for other purposes, while some were collected simultaneously during current fee schedule collection process. As explained in the Revised May 2016 Summary, the Company did not undertake an exhaustive effort to collect all historical fee schedules. 14

16 based on the US Dollar. 17 Interest rates for ERISA funds were calculated based on IRS guidelines consistent with US Department of Labor guidelines. Interest calculations have been updated to reflect interest accrued through the month of payment (if payment of principal was made in full) or through April 30, 2017 for unpaid principal balances. 18 C. Preparation of Client Statements The Company s payment calculation methodology is described in the Revised May 2016 Summary in detail. As explained therein, payment amounts were calculated on a client by client basis. The preparation of Client Statements was led by operations staff from GSA and members of the Company s corporate finance group who are separate from the individuals at the Company that were responsible for preparing original client invoices. Initial Client Statements were prepared by running queries from the client payment database. Specifically, the Company multiplied historical cost rates (e.g. unit costs) by client specific volumes (where applicable) for each category for which a client had expense billings. 19 Then, to the extent applicable, the Company made adjustments based on any unusual fee schedule terms (e.g., if a particular expense category was waived in a fee schedule, the amount calculated was reduced to $0). Finally, the Company calculated the difference between the amount originally billed and this revised amount to determine the amount to be paid. Client business teams were formed to review the Client Statements. Each business team was asked to complete a variety of quality control procedures and summarize the required changes to the Client Statements. The quality control procedures included: Verification that the Client Statement reviewer has adequate knowledge of the client relationship; Verification that the list of funds included in the Client Statements are complete and accurate; 17 For periods prior to 2001 the overnight rate was not available. Therefore, the Company applied the average of the daily LIBOR rates with one week maturity. Also, in instances in which multiple funds were billed on a composite invoice, and the composite included ERISA and non ERISA funds, interest for the composite was accrued using the ERISA methodology for the entire payment due. 18 In our review of the client payment database and Client Statements for Top 50 clients, we tested the calculation of interest accrued through October 31, 2016 (since our review of most Client Statements was completed shortly thereafter); whereas for the remaining population we tested interest accrued through April 30, As previously discussed, historical costs (primarily in the form of unit costs) were determined, by expense category, on an annual basis. In some instances, the Company s billing system identified the month or period in which the expense being billed was incurred. In other instances, it did not. As such, the Company applied the historical cost rate based on either (a) the relevant month or period identified in the billing system, or (b) the original billing date of the expense being paid. 15

17 Verification that the expense categories and amounts being paid appear reasonable based on the reviewer s understanding of the client relationship; Confirmation that available client out of pocket contractual language has been reviewed and the Client Statement complies with the terms of the contract; and Identification of any issues based on a list of data review steps which included (i) a review of the Client Statement historical billing data, (ii) a review of the Client Statement schedules summarizing the payment amount to be made, (iii) a review of volume information for completeness, reasonableness, and consistency, and (iv) math testing of the payment workbook. If the business team suggested changes to a Client Statement, they provided details of the changes to GSA operations and Company finance personnel who reviewed the changes, updated the client payment database to reflect those changes, and generated a new iteration of the Client Statement. This iterative process continued until the business teams completed the quality control procedures and approved the final Client Statement. The final Client Statement is a multi schedule report created in Excel. Each Client Statement includes the amount originally billed for each in scope expense category described herein by month and by billing fund code, and a calculation of the payment amount to be made related to each invoiced amount, including interest owed. Each Client Statement includes the following schedules in the Excel workbook: Client Details: This schedule lists the information from the client payment database related to a particular client s payment determination. This includes the historical expense billing transactions for each of the 13 categories and the calculation of the revised billable amount, the variance between the revised billable amount and the original billed amount, the resulting payment amount, if any, and interest owed. The information in this schedule rolls up to the summary schedules titled: Aggregate Summary, Yearly Summary, Summary by Fund, and Detailed Yearly Summary by Fund. Aggregate Summary: This is the highest level summary schedule. This schedule summarizes by expense category the aggregate original billed amount, the aggregate revised billable amount, and the resulting payment to be made to the client, including interest. Yearly Summary: This schedule presents all information summarized in the Aggregate Summary tab on a yearly basis. 16

18 Summary by Fund: This schedule presents all information summarized in the Aggregate Summary tab for the entire Scope Period by billing fund number and unique invoice code. Detailed Yearly Summary by Fund: This schedule is the same as the Summary by Fund but provides annual detail. The Company disclosed its methodology for determining client payments in the Revised May 2016 Summary. As part of our review and analysis of client payment database we noted the following: The Revised May 2016 Summary notes that if an over charge was calculated for one expense category, and an under charge was calculated for another expense category, the over and under charges were netted in determining the payment to a client. This netting occurs for each entity invoiced across the entire Scope Period. Also, if it was deemed that the client was under charged in the aggregate for any entity invoiced, that net under charge was disregarded in the payment calculation (i.e. the under charged amount was not offset against a net over charge for another entity invoiced). These disregarded under charged amounts are summarized on the Aggregate Summary as Underbilling Adjustment. Because the methodology used involves deducting allocable costs from amounts billed, the amount reflected as an Underbilling Adjustment was added to the repayment amount. Clients are invoiced at the fund level or issued a composite invoice for multiple funds, and a fund may have multiple invoices in a particular month (for example, one for custody services, one for fund administration services). If a charge was split across multiple invoices, the aggregate billing was considered to calculate the over or under charge compared to the applicable historical cost rate. In some instances, the client business teams identified agreements between the Company and a particular client outside of the fee schedule or other formal contract. 20 In any instance where such agreements were known or identified, the Company incorporated the terms of those agreements into the client s payment calculation. When possible, we reviewed such agreements and available related supporting documentation. In instances where a customer was historically issued a credit for previous expense billings, the Company attempted to align such credits with the original billing to zero out the related payment amount, and did not calculate any interest on the original expense billing. However, if the credit could not be definitively allocated to the original billing, interest was still calculated on the original billing amount in full (but not on the credit), thereby resulting in a conservative overpayment of interest. 20 Such agreements were identified by client business teams with historical knowledge of the business relationship and through review of Company files and s. 17

19 D. Client Payment Database and Client Statement Testing The Company documented client payment calculations in the client payment database and prepared a Client Statement for each client that had a billing error. We were asked by the Company to analyze and test its process for determining client payments. To do so, we performed detailed procedures to analyze and validate all information contained in the client payment database to identify any errors or exceptions in the calculations of amounts to be paid. We communicated under payment errors and exceptions to the Company which updated the client payment database to correct the errors. We subsequently conducted additional tests to ensure that the required changes were made accurately and completely. The Company elected not to correct for any identified over payments. 21 Our analysis and testing of the client payment database included the following: Reconciliation of Amounts Billed to Historical Billing Data: Reconciled the historical amounts billed for each expense category presented in the client payment database to the available historical billing information to validate the accuracy and completeness of the amounts. Historical Cost Testing: We verified that the historical cost rates calculated by the Company and its external advisors were applied to client specific volumes for each category of expense based on the month or period the expense was incurred, or based on the original billing date, consistent with the methodology discussed above. SWIFT Volume Testing: We verified that the SWIFT volume information contained in the client payment database agreed with the Company s historical SWIFT volume records based on transaction date, fund code, and SWIFT source (MCH or SMAC). We noted in some instances the Company s records were not sufficient to specifically identify historical SWIFT volumes to a particular billing. In such instances, SWIFT volumes were not allocated to the billing, resulting in a payment of the entire amount originally billed. Review of Non SWIFT Volume Assumptions: We reviewed the non SWIFT volume assumptions applied by the Company (as explained in the Revised May 2016 Summary) in allocation of the historical costs in the client payment database. For example, per the Revised May 2016 Summary, volumes for the Checks and check writing privileges category is either extracted from the billing data, if available, or imputed using estimated historical 21 In the Revised May 2016 Summary, the Company disclosed that if further analysis results in a determination that the payment to a client should have been lower, we will not ask clients to refund any excess payment. Accordingly, as part of our procedures, the Company chose not to adjust the client payment database for instances where it may have overpaid a client. 18

20 billing rates. We tested these assumptions in the client payment database to ensure consistency with the Revised May 2016 Summary document. Application of Unusual Fee Schedule Terms: As previously discussed, for clients with fee schedule language that the Company determined differed from prevalent language in a way that might affect the amounts to be paid, 22 Company counsel analyzed such language to determine how it should be applied in the respective client s payment calculation. The application was also reviewed by the client business teams in their review of the client payment calculations. For a small number of funds, most of which are closed, the Company was not able to identify a fee schedule. In those cases, as described in the Revised May 2016 Summary, the Company assumed no unusual terms or restrictions applied to the related billings when determining the amount to be paid. We performed recalculations to validate that such language was properly incorporated into the client payment database. If a fee schedule prohibited the Company from billing one or more of the in scope categories of expense, we confirmed that any billings related to those categories were paid in full. In instances where a fee schedule contained a stated rate for an in scope category of expense, we confirmed that the client payment database reflects the treatment of such stated rates as discussed in the Revised May 2016 Summary. As previously discussed, the Company generally assumed that the terms of current fee schedules were in effect for the entire Scope Period. In such instances, we validated in our testing that the terms of the current fee schedule were applied to the entire Scope Period. However, to the extent that additional historical fee schedules were identified that could be linked to client specific funds, the Company considered them as part of its calculations of amounts billed in error. In our testing, we validated that the Company applied the terms of any particular fee schedule to the effective period of that fee schedule (with the earliest identified fee schedule being applied from the beginning of the Scope Period until the effective date of the next fee schedule, and so forth, from a chronological standpoint). Recalculation of the Interest Accrued: Interest owed to the clients was calculated on all transactions with payment amounts. As explained above and in the Revised May 2016 Summary, funds identified by the Company as ERISA funds had interest calculated using the IRS Repayment Rates. All non ERISA funds had interest calculated based on LIBOR rates. We re performed all interest calculations using applicable rates obtained from third party sources. 22 For purposes of the review, a non standard fee schedule was considered to be a fee schedule that limited the Company s ability to bill for one or more of the expense categories, or allowed the Company to bill an amount other than cost for one or more of the expense categories. 19