Corporate Governance: The New Age The Expanded Role of Outside Counsel and Standards of Professional Conduct for Attorneys March 10, 2003 Turnaround Management Association Gary I. Levenstein, Chairman, Corporate, Securities & Finance Department

The Sarbanes-Oxley Act July 30, 2002 SEC has authority to promulgate certain rules Intended to prevent future corporate misdeeds and protect shareholders New standards and acts of corporate accountability New penalties for violations

Provisions Affecting Corporate Officers and Directors Certification of Periodic Reports under Section 906 Every report containing financial statements must be accompanied by CEO’s and CFO’s written statement Penalty applies when the officer has knowledge of noncompliance

Provisions Affecting Corporate Officers and Directors Certification of Periodic Reports under Section 302 Section 302 is much more specific than Section 906 Rules require the CEO and CFO to attest to certain rules

Provisions Affecting Corporate Officers and Directors Disgorgement of Bonuses and Profits under Section 304 If an issuer is required to prepare an accounting restatement due to the material noncompliance of the issuer, CEO and CRO must reimburse issuer for any bonus and/or profits received during 12-month period following first public issuance or filing with SEC of the non-complying report Act does not define “misconduct” SEC may exempt any person from these provisions

Provisions Affecting Corporate Officers and Directors Bars on Personal Loans to Officers and Directors under Section 402 Illegal for any issuer to extend a personal loan to any director or executive officer Loans excluded Existed before July 30, 2002 Loans made by FDIC-insured banks subject to insider lending restrictions

Provisions Affecting Corporate Officers and Directors Improper Influence of Officer/Director on Audit under Section 303 Illegal to mislead an auditor for the purpose of making financial statement materially misleading

Provisions Affecting Corporate Officers and Directors Enhanced Section 16 Reporting Requirements under Section 403 Requires directors, officers, 10% shareholders to disclose any change in their ownership by end of 2 nd business day following transaction day Reports must be filed electronically, SEC puts on web site, issuer must put on its web site

Provisions Affecting Corporate Issuers Audit Committees under Section 301 SEC must direct national securities exchanges to prohibit the listing of the securities of any issuer that does not have an audit committee that complies with requirements

Provisions Affecting Corporate Issuers Audit Committees under Section 301 (cont’d) Requirements for the committee Must be composed of independent directors Must establish procedures to review and respond to complaints Must have authority to hire independent counsel, other advisors at issuer’s expense Responsible for appointment, compensation, and oversight of issuer’s auditor; auditor must report to committee

Provisions Affecting Corporate Issuers Code of Ethics under Section 406 Each issuer must disclose whether they have adopted a code of ethics If not, must explain the reason SEC must amend prescribed Form 8-K to require immediate disclosure of any change in code of ethics

Provisions Affecting Corporate Issuers Disclosure Requirements under Section 409 Section 13 amended to require “rapid and current basis” of any additional information regarding changes in financial condition

Provisions Affecting Corporate Issuers Disclosure of Off-Balance Sheet Transactions under Section 401 Each annual and quarterly report required to be filed must disclose all material off-balance transactions that may have an effect on finances

Provisions Affecting Providers of Professional Services Accounting Oversight Board under Title I Act establishes the Board to replace the peer review system Jurisdiction extends to all public accounting firms, they must register with the Board SEC has oversight and enforcement authority over the Board Board must conduct inspections to assess compliance

Provisions Affecting Providers of Professional Services Requirements for Auditors under Title II A public accounting firm may not perform audit services for an issuer if either the lead partner, or the partner who reviews the audit, has performed audit services for the issuer for five consecutive fiscal years

Provisions Affecting Providers of Professional Services Requirements for Auditors under Title II (cont’d) A public accounting firm may not perform any audit service if the CEO, CFO, or Controller was employed by that auditor and participated in any part of the audit during the one-year cooling-off period prior to the initiation of the audit An auditor may perform other non-audit services that are approved in advance by audit committee

Provisions Affecting Providers of Professional Services Requirements for Auditors under Title II (cont’d) Public accounting firm that performs an audit for an issuer must report Critical accounting policies and practices Alternative treatments for financial information within GAAP that have been discussed with management of issuer Written communication between firm and management

Provisions Affecting Providers of Professional Services Obligations for Securities Analysts under Section 501 SEC must promulgate Rules within one year of the Act designed to address conflicts of interest arising from securities analysts’ recommending securities in public reports

Provisions Addressing Criminal Actions White Collar Crimes and Penalties An individual debtor filing for bankruptcy will not be discharged from any debt related to A violation of any securities laws, regulations, or orders Common law fraud involving a transfer of any security Any person who knowingly alters any record or document with the intent to obstruct or influence administration must be fined and/or imprisoned (not to exceed 20 years)

Provisions Addressing Criminal Actions White Collar Crimes and Penalties (cont’d) Any person who knowingly executes or attempts to execute a scheme to defraud any person must be fined and/or imprisoned (not to exceed 20 years) Any one attempting wire fraud or securities fraud is subject to same penalties as those who actually committed the crime

Provisions Addressing Criminal Actions White Collar Crimes and Penalties (cont’d) Tampering with documents to be used in official proceedings carries a maximum penalty of 20 years imprisonment Violations of ERISA carry up to ten years of imprisonment Willful violation of Exchange Act penalty increased to a fine of up to $5 million and/or imprisonment not exceeding 20 years Mail fraud and wire fraud carry maximum 20 years imprisonment

Provisions Addressing Criminal Actions Whistleblower Protection under Section 806 Public companies prohibited from discriminating against an employee who provides assistance with investigations

Regulation of Attorney Conduct Expanded Role of Outside Counsel States’ ethics rules do regulate attorney conduct, but SEC states that these rules have not proven a deterrent Proposed Rule set forth diligent reporting requirements and proposed more active involvement of the attorney in alerting the SEC

Regulation of Attorney Conduct Definitions and Scope of the Final Rule Final Rule requires an attorney to report any evidence of a material violation by the issuer to the issuer’s chief legal officer and CEO If attorney believes reporting internally is futile, may report “up the ladder”

Regulation of Attorney Conduct Definitions and Scope of the Final Rule (cont’d) “Appearing and practicing” before the SEC means Transacting any business with the Commission Representing an issuer in any Commission proceeding Providing advice in respect if the U.S. securities laws of the Commission’s rules Advising an issue as to whether information or a statement, opinion, or other writing is required under the U.S. securities laws of the Commission’s rules

Regulation of Attorney Conduct Definitions and Scope of the Final Rule (cont’d) “Issuer” Any person who issues or proposes to issue any security Exceptions Any person controlled by an issuer, where an attorney provides legal services to such person on behalf of the issuer, regardless of whether the attorney is employed or retained by the issuer

Regulation of Attorney Conduct Definitions and Scope of the Final Rule (cont’d) Final Rule imposes various reporting requirements on the attorney “Report” means to make known directly, either in person, by telephone, by , electronically or in writing

Regulation of Attorney Conduct Definitions and Scope of the Final Rule (cont’d) “Evidence of a material violation” means credible evidence that it is reasonably likely that a material violation has occurred, is ongoing, or is about to occur “Material violation” means a material violation of an applicable U.S. federal or state securities law, material breach of fiduciary duty, or a similar material violation of any U.S. federal law

Regulation of Attorney Conduct Definitions and Scope of the Final Rule (cont’d) “Appropriate response” means a response to evidence of a material violation reported to officers or directors and action is taken which leads attorney to believe the problem is being corrected

Regulation of Attorney Conduct Definitions and Scope of the Final Rule (cont’d) “Reasonable” or “Reasonably” denotes, with respect to actions of an attorney, conduct that would not be unreasonable for a prudent and competent attorney “Reasonably believes” means that an attorney believes the matter in question and that the circumstances are such that the belief is not unreasonable

Regulation of Attorney Conduct Up-the-Ladder Reporting Attorney is required to report a violation to CLO or CEO Unless the attorney reasonably believes an appropriate response has been taken, the attorney must report the evidence “up the ladder” To the audit committee, independent committee of the board, or the entire board

Regulation of Attorney Conduct Sanctions, Discipline and Safe Harbor Violation of any rule is subject to disciplinary authority of the Commission May result in attorney being censured, or temporarily or permanently denied the privilege of appearing or practicing before the Commission

Regulation of Attorney Conduct Proposed Noisy Withdrawal Requirement Under certain circumstances, attorneys appearing before the Commission were required or permitted to withdraw from such presentation Numerous comments have led the Commission to extend the comment period, and is soliciting comments on proposed alternative positions which prescribe attorney withdrawal in a narrower set of circumstances

Regulation of Attorney Conduct Proposed Noisy Withdrawal Requirement (cont’d) Required when attorney has not received an appropriate response to a report of material violation and believes material violation is occurring or is about to occur, and is likely to result in injury to the financial interest of the issuer or the investors

Regulation of Attorney Conduct Proposed Noisy Withdrawal Requirement (cont’d) Within one business day of withdrawing, attorney is required to give written notice to the Commission, indicating withdrawal was based on professional considerations Attorney required to disaffirm anything submitted to the Commission that the attorney has prepared or assisted in preparing that the attorney believes may be false or misleading

Regulation of Attorney Conduct Proposed Noisy Withdrawal Requirement (cont’d) Does not breach the attorney-client privilege Alternative is that the attorney notifies the issuer, not the Commission, that the withdrawal is based on professional considerations, without requiring the attorney to disaffirm documents submitted to the Commission Proposed amendment to Form 8-K, adding an item specifically for disclosure of attorney withdrawal

Regulation of Attorney Conduct Implications of the Proposed Rule and Final Rules More stringent requirements on attorney conduct Reasonableness standard could lead the client to be hesitant to be fully open with the attorney ABA has called for a “knowledge” standard instead of a reasonableness standard

Regulation of Attorney Conduct Implications of the Proposed Rule and Final Rules (cont’d) Business Roundtable has commented that the Proposed Rule could “deter officers, directors and employees from seeking advice from counsel on sensitive matters” Director & Officer Insurance

Corporate Governance: The New Age The Expanded Role of Outside Counsel and Standards of Professional Conduct for Attorneys March 10, 2003 Turnaround Management Association Gary I Levenstein, Chairman, Corporate, Securities & Finance Department