Sarbanes-Oxley Act: Planning & Compliance

Sunday, October 1, 2006 - 00:00

Reacting to the corporate scandals which had seized public attention, Congress enacted the Sarbanes-Oxley Act of 2002 and NYSE, AMEX and NASDAQ adopted new rules addressing corporate governance. These changes were undertaken in order to prevent similar scandals from occurring in the future. Sarbanes-Oxley not only created new oversight and accountability rules for directors, officers, auditors and corporate counsel, it also put corporate counsel center stage in assuring the effectiveness of the disclosure regime that it creates.

Sarbanes-Oxley Act: Planning & Compliance was edited by three partners from Kirkpatrick & Lockhart Nicholson Graham LLP: Diane E. Amber, Lorraine Massaro and Kristen L. Stewart. It also includes contributions from ten other lawyers from various practice areas within that firm.

This loose-leaf treatise (for which a substantial update will be available in November) identifies and analyzes the new obligations created by the Sarbanes-Oxley Act and the rules of the NYSE, AMEX and NASDAQ for boards of directors, audit and other board committees, management, auditors and lawyers. It provides practical compliance guidance and should be read cover to cover by all corporate counsel. Even corporate counsel serving non-profits and private organizations now realize that their clients will be expected by courts and regulatory bodies to adhere to the governance and compliance principles of Sarbanes-Oxley. I found it so valuable (and readable) that I could not put it down.

This regularly updated treatise concentrates a wealth of information into one easy-to-use volume. It is divided into ten chapters outlining director, management, auditor and attorney responsibilities under Sarbanes-Oxley. There are also two appendixes addressing the rules governing companies with securities listed on the New York Stock Exchange and NASDAQ. Each chapter provides a step-by-step guide to the applicable requirements, practical guidance and recommendations for specific actions to be taken. Looking at this book from the perspective of corporate counsel, this review illustrates its value by selecting a few highlights.

Following a valuable concise overview in Chapter 1 of the Sarbanes-Oxley Act and its implementation, Chapter 2 walks corporate counsel through the certification process for CEOs and CFOs and provides sample certification forms. For instance, since there is more than one option for drafting a proper Section 906 certification, Samples 2 and 3 demonstrate two approaches that have been taken by companies to satisfy Section 906 requirements. Sample 2 illustrates a Section 906 certification that does not contain language expressing that the certification is made "knowingly," while Sample 3 demonstrates a certification including a "knowledge" qualifier which emphasizes that any violations must be made knowingly. By including these samples side by side, corporate counsel can compare both samples and decide which they prefer.

Chapter 2 also provides corporate counsel with practical suggestions with respect to steps that can be taken by CEOs and CFOs to assure the accuracy of their certifications under Sections 302 and 906. It covers the formation of a disclosure committee to design, implement and oversee a company's disclosure controls and procedures, makes recommendations as to its composition, outlines its responsibilities and provides a detailed list of the actions it should take to discharge those responsibilities. It recommends steps to be taken by CEOs and CFOs to prepare for providing their Section 302 and 906 certifications, including listing the items to be covered in their meetings with the disclosure committee as well as listing other things to be considered, such as obtaining "subcertifications" from those who are knowledgeable about or helped prepare the information being certified.

Chapter 2 alerts corporate counsel to the fact that Section 302 certifications use a "fair presentation" standard for disclosures with respect to a company's financial information that is broader than the financial disclosure requirements under Generally Accepted Accounting Principles (GAAP). It informs them of the code of ethics requirements applicable to CEOs and senior financial officers set forth in Section 406 as well as those of the NYSE, AMEX and NASDAQ - and of the differences between these requirements. The discussion of provisions to be included in such codes of ethics for the reporting of violations and for the protection of whistleblowers is of particular interest to corporate counsel.

Chapter 3 discusses disclosure requirements. Corporate counsel need to know that the new rules expand to 27 the number of items that must be included in Form 8-K disclosures and that "real time issuer disclosure" is implemented by generally reducing the 8-K filing deadline to four business days after the triggering event took place. Corporate counsel will appreciate the useful chart detailing the 8-K reporting items and whether they are new or renumbered items. There is also a calendar indicating when an 8-K must be filed depending on the day in the week the triggering event took place.

Practical guidance is offered in Chapter 3 for corporate counsel who must handle the new Form 8-K and MD&A disclosure requirements and the expanded disclosures for the use of pro forma and other financial information not based on GAAP - many of these requirements being based on lessons taught by the Enron and WorldCom scandals. For example, item 1.01 in Form 8-K requires companies to file an 8-K when it enters into, terminates or materially amends a material definitive agreement not made in the ordinary course of business. The authors offer corporate counsel practical help in identifying which agreements trigger that requirement. Corporate counsel will be particularly interested in the discussions of disclosures with respect to such issues as off-balance sheet transactions, reasons for departures of executive officers and directors, changes in shell company status and non-GAAP financial measures.

When discussing the impact of the new rules on boards of directors in Chapter 4, the authors emphasize the intent of Sarbanes-Oxley to create a system that ensures that "independent directors" are truly independent and expands the role of the audit committee. Chapter 4 covers director independence requirements under the SEC regulations and the NYSE, AMEX and NASDAQ rules. Also of great interest to corporate counsel is the discussion of NYSE, AMEX and NASDAQ rules applicable to the independence and operations of nominating and compensation committees.

Chapter 5 provides a detailed description of regulatory requirements applicable to audit committees and auditors designed to remedy problems uncovered in investigations of companies involved in the scandals. The independence requirements of the SEC and the NYSE, AMEX and NASDAQ are discussed, as well as the charter and financial sophistication rules of the NYSE, AMEX and NASDAQ. There are detailed discussions of the responsibilities of the audit committee and of the requirement that audit committees include an Audit Committee Financial Expert. Particularly helpful to corporate counsel are the descriptions of the non-audit services that either the auditor is prohibited from providing or where audit committee pre-approval is required. Also discussed are auditor rotation requirements and cooling off periods for employing accountants. Of great interest to corporate counsel is the description of the power of audit committees to hire outside advisers, including counsel.

Chapter 6 delves into the history and responsibilities of the Public Company Accounting Oversight Board (PCAOB). Its impact on public companies and its regulations, designed to assure auditor independence, are discussed.

Chapter 7 describes the Sarbanes-Oxley rules providing for advance notice to plan participants of pension plan blackout periods and prohibiting directors and executive officers of a company from trading during its pension plan blackout periods in equity securities that are connected to their service to the company. There is a detailed example that covers the effects of a blackout period on an executive's ability to trade stock or exercise stock options, which illustrates how separate classes of stock and derivative securities may be treated differently. The authors also offer an example to illustrate the tracing process involved whenever an executive challenges a claim that she engaged in trading during a blackout period. This Chapter also covers changes in the reporting of insider stock transactions, including the requirement that Form 4 filings be made within two business days of a transaction.

Another area in which corporate counsel will be called upon to provide advice is Sarbanes-Oxley's prohibition of loans to directors and officers (Section 402). Chapter 8 discusses the complexities involved. Of great assistance to corporate counsel is the discussion of how the loan prohibition applies to a number of the common situations.

Chapter 9 on the conduct of attorneys is of importance to both corporate counsel and outside practitioners. The Section 307 "up the ladder" reporting requirements of the Sarbanes-Oxley Act outline the steps that counsel must take whenever a triggering event takes place. The authors also set forth in Chapter 9 best practices for conducting an inquiry after a potential problem is reported. They discuss the interplay between the attorney-client privilege and a regulator's or prosecutor's requirement that the privilege be waived as a sign of good faith on the part of the company. They also caution practitioners that documents and communications created during an investigation may be required to be disclosed in the future.

Chapter 10 analyses the criminal sanctions and SEC enforcement tools available under Sarbanes-Oxley. It discusses the relevance of the Federal Sentencing Guidelines and gives useful examples of the application of the Sentencing Guidelines in calculating penalties. The authors advise companies to implement a compliance program to uncover potential violations, which may mitigate penalties if the compliance program is deemed to be effective under the Sentencing Guidelines. Included is a checklist of the seven factors that can be used to determine the effectiveness of a compliance program. This chapter provides suggestions with respect to internal investigations upon discovery of a violation and with respect to responding to a government investigation. It concludes by discussing the SEC's expanded authority to bar individuals as directors or officers and to freeze assets.

There were few, if any, references to general counsel in the news reports about the scandals. The general counsel seemed so remote from the questionable transactions as to be largely "invisible." A careful reading of this treatise forces one to the conclusion that Sarbanes-Oxley has had a significant impact on the role of general counsel. By establishing new disclosure rules, encouraging legal compliance programs that compel general counsel to become more deeply involved in the details of the business, and focusing on the role of the general counsel in uncovering issues that should be brought to the attention of the CEO, audit committee and the board, Sarbanes-Oxley and the new SEC rules enormously enhance the importance of the general counsel and the role of the legal department in the eyes of the board and the CEO. General counsel can no longer be invisible.

Sarbanes-Oxley Act: Planning & Compliance is published by Aspen Publishers and is available on their website, by searching for "Sarbanes-Oxley." The price is $195 for the volume.