Speech by SEC Commissioner:
Remarks before the UCLA Law Third Annual Institute on
Corporate Aspects of Mergers and Acquisitions
Commissioner Annette L. Nazareth
U.S. Securities and Exchange Commission
New York, New York
October 23, 2006
I would like to thank Professor Thompson for that kind introduction and to say how pleased I am to speak to you today. Although this is only the third annual gathering of this group, you have been privileged to hear from some very distinguished keynote speakers in the past, so I am very honored to be included among them.
Today I would like to focus on the Commission's efforts to address something that goes beyond corporate mergers and acquisitions in particular, but that certainly affects them. And that is the Commission's efforts to address regulatory conflicts in cross border transactions in a manner that is as pragmatic as possible in the face of the globalization of the securities markets. To demonstrate our efforts to reduce the incidence of inconsistent regulatory approaches and minimize costs, I will discuss several recent initiatives, including those regarding consolidation in the international financial markets and credit rating agencies. I will also discuss Commission rules implementing the Sarbanes Oxley Act, tender offer best price rules, and foreign issuer deregistration.
Before I begin my remarks, though, please allow me to remind you that my remarks represent my own views and not necessarily those of the Commission, my fellow Commissioners, or members of the staff.1
Globalization of Securities Markets
Supervisory authorities such as the Commission have long recognized the inevitability of globalization. Thus, there have been a whole host of efforts to achieve cooperation among such authorities as well as to further the goal of consistent international standards. International accounting standards are, of course, one of the premier ongoing efforts in that regard. But there have been many others as well, including work on the Basel II standard. Ultimately, even greater synergies and efficiencies will be achieved in the marketplace as the differences among regulatory approaches give way to consistent, high quality standards that are internationally recognized. Many of these standards take the form of principles as opposed to specific rules. These principles provide the guiding compass on which national authorities base their rules. Of course, the essence of good regulation is achieving the proper balance between principles based regulation and rules based regulation.
Over the years, the Commission has participated in numerous international fora, such as the Financial Stability Forum and the International Organization of Securities Commissions, or IOSCO, and has become increasing active in working alongside foreign regulators, international markets, and their participants. I have been the Commission's representative on the Financial Stability Forum since that organization was formed, and I believe that the Commission's participation in this and other fora has allowed us to gain invaluable insights and close working relationships with our counterparts all over the world. We have engaged in joint efforts with supervisory authorities in many jurisdictions on regulatory and enforcement issues that have facilitated, among other things, cross border securities activities, while advancing market integrity and investor protection.
Consolidation of Financial Markets
One very important area where the Commission is undertaking significant efforts to address the conflicts in international regulatory standards relates to the proposed consolidations of transatlantic financial markets. As you may know, I served as Director of the Division of Market Regulation for several years. Thus, perhaps it goes without saying that this M&A topic is near and dear to my heart. As a result, I could never pass up such an excellent opportunity to share my views to such a sophisticated, talented-and did I say captive-audience.
Not a day goes by that the press does not provide news about the latest steps towards consolidation of the financial markets. Just last week, for example, Chicago Merc agreed to buy the Chicago Board of Trade for about $8 billion dollars. This move would form the world's largest financial market, with a combined market value of nearly $26 billion. Not far behind could be the possible results of a proposed merger of NYSE and Euronext, and Nasdaq's ownership of a significant interest in the London Stock Exchange. John Thain has described the NYSE's historic move to consolidate with Euronext as the manifestation of a vision of building a truly global marketplace with a breadth of product and geographic reach that will benefit investors, issuers, and shareholders alike. I am not expressing a view on the merits of any particular proposed consolidation. Rather, it is up to the shareholders of each entity to decide for themselves whether any such combination would make business sense.
It is vitally important to have a clear and accurate understanding of the regulatory ramifications of these types of transactions. The Commission is taking steps to provide this information, and is making real strides to address the inevitable concerns that have arisen about potential regulatory conflicts.
Much ink has been spilled about the fears associated with the potential application of U.S. law to European issuers as a byproduct of such mergers, but I believe that much of it has been unwarranted. In fact, built into the NYSE/Euronext proposed merger is the idea that multiple regulatory structures would apply, similar to the manner in which Euronext already operates. After all, Euronext itself was formed when a number of exchanges from different countries merged to take advantage of the harmonization of financial markets.
The distinction between those mergers and the proposed merger with NYSE, however, is that this one would reach across the pond into the United States-the home of spacious skies, amber waves of grain, purple mountain majesties, and Sarbanes Oxley. If the merger is ultimately successful, however, its consummation would not necessarily mean that foreign companies listed on Euronext would become subject to U.S. law. The structure of the merger as currently contemplated would be such that non U.S. markets would not become U.S. registered exchanges, nor would Euronext offer its products directly in the United States. As a result, the merger would not result in the mandatory registration of the non U.S. markets' listed companies in the U.S., nor would our federal securities laws necessarily apply to the non U.S. exchanges.
In late September, Chairman Christopher Cox and the Chairman's Committee of the Euronext regulators met in Lisbon, Portugal, in anticipation of the potential combination between NYSE and Euronext. They discussed the development of a possible framework for consultation, information sharing, and mutual cooperation in the interest of meeting their respective regulatory mandates in the areas of investor protection, orderly functioning, and integrity of the markets. The regulators also affirmed that joint ownership or affiliation of markets alone would not lead to regulation from one jurisdiction becoming applicable in the other and also affirmed their shared belief in the importance of local regulation of local markets.
Credit Rating Agencies
In addition to its efforts to address concerns and lay the framework for mutual cooperation relating to the consolidation of international financial markets, the Commission is cooperating with its international regulatory brethren on a number of other fronts. In what may be the best example, the Commission participates along with one hundred or so other securities regulators in IOSCO.
In fact, the Commission participates in IOSCO more actively than you may realize. The vice chairman of the organization's Technical Committee, which is tasked with developing best practices, principles, and standards for securities matters, is our own Commissioner Roel Campos. IOSCO has a long and successful history of promoting high standards of regulation that foster just, efficient, and sound markets. It provides an invaluable international setting to share information and cooperate on issues of common concern, and has been particularly effective in establishing best practices in a number of areas.
One of the most recent areas of focus by IOSCO was the issue of credit rating agencies. Certainly, there has been a great deal of interest in this particular area both in the Unites States and beyond. This is probably due to the fact that the largest credit rating agencies are international in their operations. These firms rate not just U.S. based issuers and securities, but also foreign issuers and bonds issued by foreign governments.
In 2003, IOSCO formed a task force, chaired by the Commission, to develop international principles relating to credit rating agencies that would address issues raised by issuers, investors, regulators, and others. This effort culminated later that year, when the Technical Committee published the "IOSCO Statement of Principles Regarding the Activities of Credit Rating Agencies." The Principles set forth high level objectives that are designed to improve the quality, integrity, and transparency of the credit-rating process. Also-and importantly-they apply to all credit rating agencies, regardless of their size or the jurisdiction in which they operate.
The Principles were well received by the international community, and regulators and credit rating agencies eventually suggested that IOSCO develop a code of conduct that would help credit rating agencies put the Principles into practice. As a result, IOSCO asked the Commission to chair a task force to develop such a code, which it completed in December of 2004. Although at the outset of the task force's work it became clear that there were conflicting concerns and contradictory solutions, the group undertook to clarify the fundamentals. They focused on the principle that credit rating agencies existed to benefit investors. They also sought comment from market participants around the world. The final product of these efforts-the "Code of Conduct Fundamentals for Credit Rating Agencies"-has been widely praised and the major credit rating agencies agreed to sign on to its provisions. The Code's influence has been felt in the United States directly, as was evident during the Congressional deliberations leading up to its passage of the Credit Rating Agency Reform Act of 2006, which became law in September. Much of the information that credit rating agencies need to furnish to the Commission when they apply to become registered under the Act is entirely consistent with the fundamental provisions of the IOSCO Code, such as the sections concerning conflicts of interest and safeguarding confidential information. Thus, I believe it is fair to say that our new domestic legislation was influenced by, and is largely a reflection of, international standards that have now been embraced by many jurisdictions.
Other Commission Efforts
On a topic perhaps closer to the hearts of the M&A experts in the room, I will mention that the Commission has just adopted amendments to the tender offer best price rule. Although I expect that our staff will provide you with the specifics later today, the amendments clarify that the rule applies only to the consideration paid for securities tendered in a tender offer, and exempt from the rule compensation received pursuant to employee benefit arrangements. The amendments also provide a safe harbor for arrangements that are approved by independent directors.
In recognition of the special circumstances of foreign private issuers-and in keeping with my theme of the importance of recognizing and accommodating the globalization of the securities markets-I note that the amendments made certain accommodations for foreign private issuers. First, foreign private issuers may obtain approval for purposes of the safe harbor by any and all members of the board or any committee of the board authorized to approve the arrangement according the laws or regulations of their home countries. In addition, foreign private issuers may rely on the independence requirements of the laws, regulations, codes, or standards of their home countries when determining the independence of the directors approving the arrangements. As I expressed at the open meeting on the best price rule, I am pleased that the amendments provide foreign private issuers with flexibility to rely on the standards of their home countries. Overall, I strongly supported the staff's recommendations regarding the amendments to the best price rule and believe that they demonstrated good judgment in tackling an important issue.
I would hope that the Commission's efforts in implementing recent rules in a manner that contemplates the special circumstances of foreign companies will come as no surprise to you. In fact, the Commission has been sensitive to these concerns for years, and in many high profile areas. In its implementation of the Sarbanes Oxley Act, for example, the Commission modified its rules in a number of areas to address how they apply to foreign companies.
The Commission adopted rules under Sarbanes-Oxley that prohibit national securities exchanges and associations from listing the securities of any issuers that do not comply with the Act's audit committee requirements. Based on significant input from and dialogue with foreign regulations and foreign private issuers, however, the Commission included several provisions that address the special circumstances of particular foreign jurisdictions. For example, we allow non management employees to serve as audit committee members and shareholders to select or ratify the selection of auditors. These modified provisions are consistent with requirements in many other countries.
Then, perhaps even more importantly, there have been the Commission's efforts to accommodate foreign companies in implementing Section 404. The Commission recently extended the compliance with provisions of Section 404 for certain foreign private issuers. And this was not the first time. The Commission in the end would like to be sensitive to the particular needs of foreign private issuers and to minimize the burdens that 404 may impose on them. Under the Commission's extension, the foreign private issuers may wait to provide the registered public accounting firm's attestation report until they file annual reports for fiscal years ending on or after July 15 of next year.
The extension is not the only accommodation relating to 404 that the Commission may ultimately make to foreign private issuers, however. Just a few days ago, the Commission announced that it intends to consider guidance to management regarding 404 at an open meeting in December. What may be particularly relevant is that the Commission will address final rules relating to the deregistration of foreign private issuers at the same meeting. Thus, instead of tuning out "SOX Channel 404," foreign private issuers may want to "adjust the rabbit ears" for a clearer picture.
What foreign private issuers will see is that the Commission has made it clear that it intends to "get it right" in the implementation of Section 404 and will take specific steps to make the 404 process more efficient and cost effective. The guidance that we plan to give in December will represent an additional step in a series of orchestrated actions designed to improve the implementation of the Section 404 requirements. And the Commission has not tried to play "hide the ball." We know that there are cost and efficiency issues for issuers both foreign and domestic, and we are taking steps to address them.
I hope that my remarks today have demonstrated the Commission's concerted efforts to address the inevitable regulatory conflicts raised by the globalization of the securities markets. I believe that these efforts have resulted in better cooperation with foreign regulators and with international groups such as IOSCO, and in more consistent approaches to regulation. I expect that markets will continue to globalize, and it is my expectation that efforts such as these will become even more important. Once again, thank you for having me here today.