Sullivan & Cromwell
September 30, 2002
Mr. Jonathan G. Katz, Secretary,
Re: Ownership Reports and Trading by Officers, Directors and Principal Security Holders -- File No. S7-31-02
We are submitting this letter of comment in response to the Commission's request contained in Securities Exchange Act Release No. 34-46421 for comments on the implementation of the provisions relating to Section 16(a) of the Securities Exchange Act of 1934 (the "Exchange Act") contained in the Sarbanes-Oxley Act of 2002 (the "Sarbanes-Oxley Act"). We are also commenting on the revisions to Forms 3, 4 and 5 and the related instructions that were posted on the Commission's website in mid-September.
As discussed below, we suggest that the Commission amend Form 4 to make it much easier for reporting persons to fill out by themselves, in plain English. We urge the Commission to permit Section 16 forms to be filed as an e-mail attachments in pdf format. We suggest that the 5:30 p.m. deadline for accepting Section 16 reports filed electronically be extended and that Section 16 reports submitted electronically and accepted be considered filed on the same day that the report is accepted. Finally, we suggest that the Commission amend Item 405 of Regulation S-K so that proxy-statement or annual-report disclosure of relatively minor filing errors will not be required where those errors are corrected promptly.
Amend Form 4 to Make It More User-Friendly
When members of Congress discussed what became Section 403 of the Sarbanes-Oxley Act, they thought they were not imposing an unreasonable burden on filing persons. See, for example, the remarks of Senator Jean Carnahan, who said "These are not complicated forms. I have a copy here. It is a simple 2-page form. . . . The Office of Management and Budget estimates that the form should not take more than 30 minutes to fill out. . . ."1
Unfortunately, our experience does not confirm that the filing process is "not complicated." Of course, lawyers may be consulted only on the more difficult questions regarding the Section 16 forms, but we have certainly seen many, many situations where it is not possible to prepare a Form 4 or 5 in a mere 30 minutes. However, in principle we see no reason why the forms need to be as complicated as they are. We think it should be possible to permit filings that would accomplish all the purposes of Section 16 of the Exchange Act by allowing filing persons to submit simple statements in plain English stating what they have done.
We have previously suggested that Form 4 should be revised to eliminate the box format and replace it with a textual format similar to the approach of Schedules 13G and 13D.2 Specifically, we suggested that the information contained at the top of page 1 of the present Form 4, in boxes 1 through 7, be replaced with a cover page like the cover pages of Schedule 13D and 13G and that the information presently required to be presented in Table I and Table II be modified into items like those in Schedule 13D and 13G that reporting persons could respond to by writing words in plain English. We again encourage the Commission to consider this approach.
There is really no reason to require filing persons to figure out how to fill out the boxes and enter the transaction codes. Moreover, people reading the forms after they have been filed will be better able to understand what they mean if they are written in English rather than being presented in the current tabular format. Many transactions that are now described in the boxes could be reported with simple declarative sentences, like "On March 1, 2002, I sold 500 shares of common stock at $15 per share. I now own 2,500 shares." Given the wide accessibility to Section 16 forms that is expected after electronic filing goes into effect, forms like this would be much easier for investors to understand - and for insiders to report.
However, since Release No. 34-46421 was issued, the Commission has actually made the forms even more complicated by adding new columns on Forms 4 and 5 for the "deemed execution date, if any," which will be applicable only to a limited number of filing situations. We assume that these changes were done in this manner because there was not enough time for the Commission or the staff to rethink the nature and purpose of the forms within the time permitted by the Sarbanes-Oxley Act. Now that the deadline is past, it is appropriate to reconsider these questions.
We believe that the staff of the Commission may have the impression that most issuers prepare and file Section 16 forms for their reporting insiders. While we are aware of many issuers that do so, there are also a number that do not and, in our experience, an even larger number of reporting persons that do not or cannot rely upon the issuer to prepare and file their Section 16 reports. Persons who serve on different boards of directors sometimes prefer to do their own reports. Outside directors may purchase or sell shares in the open market without informing the issuer in advance, and some issuers require that advance notice be given if the issuer is to prepare the Section 16 filing on time. The largest category of persons who often do not wish to have the assistance of the issuer in connection with Section 16 filings are ten percent stockholders, especially those that are not prepared to disclaim any control purpose or that constitute a Section 13D group. Section 16 forms that are prepared by these kinds of stockholders can be quite complex and, in some cases, can strain the capacity of issuers to assist them. In other cases, there may be various degrees of hostility between the issuer and the stockholder group, and in any event assistance may be unwelcome. In all of these kinds of cases, reporting persons will need to prepare their own report forms.
We also understand that the Commission staff has stated that the box format of the current forms is helpful in doing statistical analyses of forms that have been filed. However, we believe that it should be possible to prepare the statistics just as well with a different format and that in any event reporting persons should not be subject to greater burdens and liabilities in connection with the preparation of Section 16 reports just for the sake of statistics.
Finally, we also note that it would be much easier for reporting persons to Edgarize their filings if there are no complicated charts and boxes that have to be filled out and if all relevant material is set forth in textual form.
Permit Filings by E-mail in "pdf" Format or a Secure On-line form
When Senator Carnahan proposed her amendment to require Section 16 reports to be "filed electronically" within one year of the enactment of the Sarbanes-Oxley Act, she did not specify that the Edgar system should be used and did not seem to think that it would be very difficult for reporting persons to make electronic filings to comply with the Act. We would again like to encourage the Commission to permit signed Section 16 filings to be made in the form of e-mail attachments in "pdf" format.
Acknowledgements of such filings could be made by a reply e-mail. The Commission could also create a dedicated e-mail address for Form 4 filings that contains an automatic return receipt feature. These dedicated addresses are currently used by numerous regulatory agencies that accept time-sensitive materials electronically. Indeed, in view of the increasing use of e-mail and pdf technology, we believe it should be possible to conclude that filing in this manner is satisfactory to meet the requirement of Section 403(a)(4)(A) of the Sarbanes-Oxley Act.
The Commission should also consider developing a form that could be filled out online over a secure internet connection and then submitted after completion. Examples of such forms can be found in many internet businesses that have developed such procedures to enable customers to purchase goods or services over the internet. They are reliable, can be programmed to require all necessary information to be filled in before acknowledging completion and can send immediate confirmations. For this system to work well, the forms would have to be easy for reporting persons to understand and respond to by themselves, and we think that this approach could be used if the Commission is prepared to eliminate the box format and simplify the reporting forms as we have urged above.
As we have previously stated, an Edgar-based electronic filing system is not well-suited for filings that have a complex format and are time sensitive. The Edgarization of even a short document can often consume several hours, adding even more pressure to insiders trying to comply with the two-business-day requirement.
Further, Section 403(a)(4)(C) of the Sarbanes-Oxley Act requires each issuer to post on its corporate website filings made electronically not later than the end of the business day following the filing. A document filed via Edgar is not easily converted into a format that can be posted to a corporate website, and it will be difficult for issuers to meet this requirement without requiring reporting persons to send their filings to the issuer in pdf format or in some other electronic format that issuers can easily retrieve. If that were to be done, there is no reason for not allowing the same format to be used in filings with the Commission. The pdf format is used widely and is already included in many corporate websites. The Commission should consider more seriously these types of technological issues in determining whether to allow pdf and other types of electronic filing.
In enacting the Sarbanes-Oxley Act, Congress surely envisioned a relatively simple electronic filing system. Allowing filings to be made in pdf format and exploring new user-friendly technologies will help accomplish the goal of prompt and accurate filings; insisting rigidly on courier-delivered paper filings and Edgar filings will not.
Extend the Deadline for Accepting Edgar Filings
Under the current Commission procedures, electronic submissions are accepted on Edgar through 10:30 p.m. Eastern time, but any such filings transmitted and accepted after 5:30 p.m. Eastern time receive a "next day" file date. Reporting persons located in time zones west of the Eastern time zone face a significant disadvantage because they have fewer business hours to prepare and file Section 16 reports, a problem that becomes especially burdensome in light of the two-business-day reporting deadline.
We recommend that the Commission should either permit filers to file by 5:30 p.m. local time, or, for the sake of convenience, 12:00 midnight Eastern time. Moreover, Section 16 reports submitted electronically and accepted by Edgar should receive a file date the same day the report is accepted. Until the Commission has streamlined the rules and procedures of electronic submission of Section 16 reports, we suggest that the filing deadline should also be extended for fax and e-mail filings.
Amend Item 405 of Regulation S-K
The accelerated reporting requirements will undoubtedly put time pressures on both issuers and reporting persons that will likely result in Form 4 reports containing more than usual inadvertent mistakes.
Under current practice, reporting persons who discover that their Section 16 reports contain an error file an amended report setting forth corrected information. If the corrected report is filed after the filing deadline for the original report, Item 405 of Regulation S-K requires the issuer to disclose, in its proxy statement at which directors are elected, or in its next annual report on Form 10-K, the identity of the reporting persons who failed to file a required report on a timely bases.
In light of the increased likelihood of inadvertent mistakes resulting from the accelerated reporting requirements, the Commission should revise Item 405 so that proxy-statement or annual-report disclosure of relatively minor filing errors will not be required where those errors are corrected promptly. In the alternative, if the Commission decides not to amend Item 405, the Commission should consider adopting a one-year safe harbor rule with respect to such disclosure. We recommend that issuers be permitted to exclude from disclosure under Item 405 any amended reports filed within two weeks of the date the original reports were due to be filed with the Commission.
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We appreciate this opportunity to comment on the Commission's proposal and would be happy to discuss any questions the Commission may have with respect to this letter. Any such questions may be directed to Richard R. Howe (212-558-3612).
Very truly yours,
SULLIVAN & CROMWELL