Cleary, Gottlieb, Steen & Hamilton

August 19, 2002

Mr. Jonathan G. Katz
Secretary
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549

Re: Proposed Rules Regarding Certification of Disclosure in Companies' Quarterly and Annual Reports (File No. S7-21-02)

Dear Mr. Katz:

We are submitting this letter in response to the request of the Securities and Exchange Commission (the "Commission") for comments on the Commission's proposed rules implementing specified statutory certification requirements for principal executive officers and principal financial officers under Section 302 of the Sarbanes-Oxley Act of 2002 (the "Act").1 The proposed rules were discussed in Release No. 34-46300 (the "Release"). We appreciate the opportunity to comment on the matters discussed in the Release.

We understand that the Commission will be required to adopt rules that conform to the specific requirements of Section 302 of the Act. Our comments are therefore limited to a small number of issues either not addressed in the Release or in respect of which we believe clarification from the Commission would be desirable.

I. The Commission should phase in the certification requirements with respect to foreign private issuers only after reviewing local law and consulting with local regulators.

The Release states that, in response to the requirements of the Act, the Commission intends to apply the certification requirements to foreign private issuers filing reports on Form 20-F and Canadian issuers filing reports on Form 40-F under the Commission's Multijurisdictional Disclosure System (the "MJDS"). The Commission's June certification proposal set forth in Release No. 34-46079 (the "June Release"), by contrast, would not have applied to foreign private issuers. The Commission acknowledged in the June Release that Form 20-F, unlike Form 10-K, is not required to be signed by a company's principal executive officer or principal financial officer, but may instead be signed by any authorized officer of the company. In addition, it recognized that "mandatory requirements regarding internal procedures raise several issues [for foreign private issuers], since those requirements may be inconsistent with the laws or practices of the foreign private issuers' home jurisdiction and stock exchange requirements." In implementing Section 302, we believe it is important that the Commission take into account the concerns it raised in the June Release.

Guided by principles of comity, the Commission and U.S. self-regulatory organizations have historically deferred to home-country regulation where doing so would not jeopardize the interests of U.S. investors. Consistent with this deference, foreign private issuers have been exempted from the requirements to file proxy statements and quarterly and current reports under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and their securities are not subject to Section 16(a) reporting or Section 16(b) short-swing profit liability. In 1999, the Commission revised Form 20-F to conform to the disclosure format adopted by the International Organization of Securities Commissions, rather than the disclosure format that applies to U.S. issuers filing annual reports on Form 10-K.2 In the area of corporate governance, foreign private issuers are not subject to the board composition and independence requirements of The New York Stock Exchange (the "NYSE") or Nasdaq. The Corporate governance initiative of the NYSE reaffirms this approach even in the wake of the Act.3

Requiring immediate compliance by non-U.S. issuers with Section 302, without taking into account local law and practice, would be a significant departure from the historical practice of the Commission and U.S. self-regulatory organizations. It would also significantly increase the level of intrusion of U.S. securities regulation into the affairs of non-U.S. issuers, which would be particularly problematic because the certification required under Section 302 is predicated on an American management structure that is inapposite in many countries.4 The certification requirements focus on the chief executive officer and chief financial officer as the ultimate executive stewards of a company's disclosures and internal controls, under the oversight of an independent audit committee. This focus conflicts with the way many non-U.S. companies are required by law to be governed.

In Germany, to take one example, the corporate governance structure of stock corporations (Aktiengesetz) - the German counterpart of U.S. corporations - has two tiers comprising a management board (Vorstand) and a supervisory board (Aufsichstrat). The executive whose functions are most similar to those of a U.S. chief financial officer is generally a member of the management board. The management board, while composed of the company's most senior executive officers, is the corporate body whose duties under the German Stock Corporation Act5 most closely correspond to those of a U.S. board of directors. In addition, there is generally no member of the management board who fits the U.S. model of a chief executive officer to whom all other executives report and are subordinate.

By statute, the members of a company's management board represent the company jointly. Although a provision in the company's articles may deviate in part from this principle, it is not possible to give any one or more members of the management board a right to make a decision over the objection of a majority of the management board's members.6 Even if certain managerial tasks are delegated to individual members or committees of the management board, this delegation does not relieve the other members of the management board from their responsibilities and liability. Accordingly, it is the management board, and not the individuals comprising it, that is ultimately responsible for the management of the company. It would therefore be inappropriate to require specific members of the management board to shoulder additional liability on behalf of the others.

In addition, management boards do not have independent members. Members of the management board provide full time management services to the company under services agreements with the company. The role of independent directors of a U.S. corporation is instead in part subsumed within the function of the supervisory board, a non-managerial supervisory, advisory and consultative body for which there is no analog in U.S. corporate structure. (For all but the smallest corporations, the supervisory board is by law composed of equal numbers of representatives of the shareholders and representatives of the employees.) It is therefore inconsistent with German law to require, as would be the case under the language of Section 302, that the certifying officers report on internal controls to a body that is "independent" according to U.S. standards. Finally, we note that making intentional misstatements or concealments of the affairs of the company in the company's annual financial statements and other publicly released reports is subject to administrative and criminal sanctions.7

There has been increasing concern that the Act, and the Commission through rulemaking, will impose unprecedented new rules and procedures on foreign private issuers that may be inconsistent or conflict with local law and practice.8 Before departing dramatically from past practice in such a short timeframe and, as indicated in the German example, creating serious conflicts with foreign law and corporate governance standards, the Commission should consult with non-U.S. regulators and issuers as to ways in which the proposed rules might be harmonized with local law and practice. For example, rather than the specific certifications required by Section 302(a)(4) of the Act, a non-U.S. company might certify as to its implementation of controls reasonably designed to collect, process and disclose information required under the U.S. securities laws.9 The application of alternative certification requirements to foreign private issuers can provide enhanced protection of U.S. investors, without unnecessary intrusion into home-country regulation or practice. Accordingly, we urge the Commission to delay implementation of Section 302 of the Act for foreign private issuers until it has had adequate time to consult with its non-U.S. counterparts and develop rules that implement the legislative intent of Section 302 in a manner consistent with local law and practice.

II. The rules should confirm that the certification requirements do not apply to reports on Form 6-K or 8-K.

Section 302 of the Act requires certifications to be made "in each annual or quarterly report" filed or submitted under Section 13(a) or 15(d) of the Exchange Act. The proposal in the June Release also would have covered only annual and quarterly reports. For the reasons discussed below, we endorse the decision of both the Commission and Congress to apply the certification requirements only to annual and quarterly reports. In order to provide clear guidance to reporting issuers, the Commission should confirm in the final rules implementing Section 302 that the certification requirements apply only to annual reports on Form 10-K and quarterly reports on Form 10-Q, in the case of domestic issuers, and annual reports on Forms 20-F and 40-F, in the case of foreign private issuers and Canadian issuers filing under the MJDS, and not to reports on Forms 6-K and 8-K, which are event-driven and not required to be filed on an annual or quarterly basis.

Foreign private issuers that are required to file reports under the Exchange Act have an annual obligation to file a Form 20-F or 40-F. Their only additional reporting obligation is to furnish a Form 6-K with respect to any material information provided to shareholders, regulators or stock exchanges pursuant to their home jurisdiction requirements. As a result, Form 6-K is not required to be furnished on any scheduled or periodic basis -- annual, quarterly or otherwise. Moreover, no particular format or content is mandated for Form 6-K reports, even if financial information is included. Accordingly, the certifications required by Section 302, which largely address the accuracy of the financial statements and the completeness of the information contained in covered reports, would in any event be inapposite to Form 6-K reports.10

Current reports on Form 8-K, which are required to be filed by U.S. issuers, raise similar issues. Once again, these reports are not required to be filed on a scheduled or periodic basis and thus could not reasonably be considered to be "annual or quarterly" reports. Moreover, no specified format for Form 8-K reports generally is mandated. As a result, the certifications in Section 302 would not be consistent with the nature of reports on Form 8-K.

III. The final rules should include the formulation for materiality used in the Act.

As indicated in the Release, the certifications specified by the Act use the traditional formulation for "material" information, whereas the certifications contained in the June Proposal would have used a "plain English" approach. According to the Release, the Commission will adopt a form of certification that conforms to the language of Section 302 of the Act. We strongly support this position. The traditional formulation of materiality used in the Act is subject to a large body of interpretive authority that has been developed over time by courts and the Commission.11 Although determinations of materiality are by their very nature imprecise, investors, issuers and securities practitioners have developed expertise in and familiarity with the traditional formulation of the materiality standard. The use of an alternative standard would risk confusion among issuers and investors as well as creation of conflicting precedent as to the standard for determining the information required to be disclosed in Commission reports.

IV. Section 302 should not apply to special-purpose structured financing vehicles.

The Commission has recognized that structured finance has become one of the dominant means of capital formation in the United States, and that this type of financing has many benefits to businesses, investors and the economy generally.12 As the importance of this financing technique has grown, the Commission has also recognized that applying to structured financing vehicles provisions of the securities laws that were written to apply to operating companies often hinders this type of financing without producing any real benefit to investors or strengthening market integrity.13 Section 302 of the Act is another example of a provision that cannot by its terms be applied to structured finance vehicles, and whose application to such vehicles would not significantly further investors' interests.

Section 302 is intended to place an added measure of accountability for certain reporting matters squarely on specified individuals who have a measure of control over a reporting institution's operations and financial reporting, in addition to the responsibility of the reporting institution itself. This goal cannot be achieved with structured financing vehicles because such vehicles typically do not have individuals who exercise such control. Further, it is not necessary to apply the principles of Section 302 to such vehicles because no significant aspect of such vehicles' operations and reporting is discretionary, and therefore they do not produce financial reports that give rise to the types of abuses we believe were intended to be addressed by Section 302 and the Act more generally. In addition, such vehicles are already structured with a variety of built-in safeguards that ensure the integrity of any reports produced more effectively than would any certification requirement.

Structured financing vehicles are organized in various ways depending on a variety of legal, accounting and other considerations. However, they do not generally have an internal structure typical of an operating company. They typically have neither a chief executive officer and chief financial officer nor any individuals performing similar functions. If a vehicle is established in corporate form, it has individual directors and perhaps officers; if it is in trust form, it may (but does not necessarily) have one or more individual trustees. However, none of these individuals has any material discretion over the operations of the vehicle, the application of its funds or the reporting of its financial information. The governing documents of the vehicle are specifically designed to leave no such discretion, instead specifying what is to be done with, and how to account for, each dollar collected. These vehicles often do not require any individual directors, officers or trustees, but instead have institutions that serve as trustees (such as in the case of grantor trusts). There may (but will not necessarily) be a servicing institution that performs strictly-defined functions to collect and service the assets, although there is typically a trustee or other agent that takes in and distributes collections and otherwise administers the structure. However, even these institutions do not have the type of discretion and control that justifies the focused accountability embodied in Section 302. If there is discretion vested in a servicing entity, it is limited to specified actions directly related to the vehicle's assets; a servicer does not have responsibility to prepare anything like traditional financial statements that might involve estimates or judgments, and its discretion over the entity's operations is limited to carefully circumscribed asset-specific decisions such as what action to take if an asset defaults. This is fundamentally different from the pervasive influence over a reporting company of a chief executive officer or chief financial officer. A trustee, administrator or similar agent generally has even less discretion, merely applying funds in a carefully prescribed order to the vehicle's obligations.

The operations of a structured financing vehicle are much simpler than those of an operating company. Cash from a vehicle's assets is received into a special account and is then either reinvested in new assets meeting specified criteria or paid over to investors. Given the nature of the operations of structured financing vehicles, they do not typically produce traditional financial statements. The only financial data relevant to structured financing vehicles are a limited number of key asset-related parameters. The Commission has recognized in the past that reporting and information requirements drafted with operating companies in mind cannot sensibly be applied to these vehicles.14 The safeguards of traditional audits and management certifications are not the best way to ensure the accuracy of the type of specialized reports that these vehicles provide. Instead, these structures already incorporate third-party oversight of assets and cash accounts because all cash is typically collected in an account maintained by the independent trustee or agent, which is required to monitor the account. Both when a transaction is being structured and on an ongoing basis, every aspect of a structured financing vehicle's narrowly-defined business is subject to the scrutiny of the rating agencies, which require such safeguards as regular compliance certifications and independent accountant reviews of asset data in order to ensure the integrity of the structure.

For these reasons, we believe it would be both difficult and unnecessary to apply Section 302 to structured financing vehicles, and the Commission should use its broad authority under Section 36 of the Exchange Act to exempt this class of issuers from application of Section 302.

V. The Section 302 and 906 certifications should be harmonized.

Section 906 of the Act, which became effective on July 30, 2002, includes a separate chief executive officer and chief financial officer certification requirement in connection with "periodic reports containing financial statements" filed by an issuer with the Commission, and imposes criminal penalties for inaccurate certifications knowingly or willfully furnished by a chief executive officer or chief financial officer. The Commission refers to the Section 906 certification requirements in the Release,15 but does not provide any guidance as to their meaning in connection with Section 302. The lack of Commission guidance in respect of Section 906 has already resulted in inconsistency among companies in connection with recent Form 10-Q filings as to the form of certification and the method of providing the certification to the Commission.

Giving immediate effect to Section 906 would appear to conflict with the requirement for rulemaking by the Commission in connection with Section 302, a point supported by the Act's legislative history.16 The failure to harmonize Sections 302 and 906 will result in companies' filing two separate sets of certifications, each containing different language and each potentially filed in a different manner. Although we understand that enforcement of Section 906 lies with the Department of Justice, rather than the Commission, we urge the Commission to work together with the Department of Justice to develop a single form of certification (and related guidance as to the method of submission) that could be used to satisfy the requirements of both Sections 302 and 906. As noted above, this single certification should be required only with respect to reports on Forms 10-K, 10-Q, 20-F and 40-F, and not to reports on Forms 6-K and 8-K.

* * *

We thank you for the opportunity to submit this comment letter. We would be happy to discuss with you any of the comments described above or any other matters you feel would be helpful in your review of the proposed rules. Please do not hesitate to contact Leslie N. Silverman or Janet L. Fisher in New York (212-225-2000) or Edward F. Greene in London (44-207-614-2200) if you would like to discuss these matters further.

Very truly yours,

CLEARY, GOTTLIEB, STEEN & HAMILTON

cc: The Honorable Harvey Pitt, Chairman
The Honorable Cynthia A. Glassman, Commissioner
The Honorable Harvey J. Goldschmid, Commissioner
The Honorable Paul S. Atkins, Commissioner
The Honorable Roel C. Campos, Commissioner

_______________________________
1 Sarbanes-Oxley Act of 2002, Pub. L. No. 107-204, 116 Stat. 745 (2002).
2 SEC Release Nos. 33-7745; 34-41936; International Series Release No. 1205 (Sep. 28, 1999).
3 See Press Release of the NYSE, "NYSE Approves Measures to Strengthen Corporate Accountability" (Aug. 1, 2002).
4 The legislative history of the Sarbanes-Oxley Act appears to support accommodation of foreign private issuers. During the Senate conference debate to approve the bill, Senator Enzi stated:
While foreign issuers can be listed and traded in the U.S. if they agree to conform to [U.S. generally accepted accounting principles] and New York Stock Exchange rules, the [Commission] historically has permitted the home country of the issuer to implement corporate governance standards. Foreign issuers are not part of the current problems being seen in the U.S. capital markets, and I do not believe it was the intent of the conferees to export U.S. standards disregarding the sovereignty of other countries as well as their regulators.
5 This Act governs the German stock corporation.
6 German Stock Corporation Act, Section 77.
7 See German Commercial Code, Section 331, and German Stock Corporation Act, Section 400.
8 See, e.g., Financial Times, Aug. 13, 2002, at 2; Aug. 12, 2002, at 16 (describing concerns expressed by U.K. and other European officials about the Act).
9 Cf. proposed Rule 15d-15 in the June Proposal. Again, to cite Germany as an example, the management board is required under German law to establish risk management systems and procedures for a German company.
10 We note that Rules 10b-5 and 12b-20 under the Exchange Act apply in respect of reports on Form 6-K, and thereby subject foreign private issuers furnishing such reports to liability for material misstatements and omissions with respect to the matters covered thereby.
11 See, e.g., See Basic v. Levinson, 485 U.S. 224, 231 (1988); TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976); SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (2d Cir. 1977); Exchange Act Rules 10b-5 and 12b-20.
12 See, e.g., Release No. IC-19105 (Nov. 19, 1992) (adopting Rule 3a-7 under the Investment Company Act of 1940, as amended (the "Investment Company Act")); Release No. IC-18736 (June 5, 1992) (proposing Rule 3a-7).
13 For example, Form S-3 permits issuers of investment grade asset-backed securities to use that form without meeting the registrant and transaction requirements applicable to operating companies; Rule 415 under the Securities Act of 1933, as amended (the "Securities Act"), permits mortgage related securities to be registered for offering on a delayed or continuous basis regardless of the form on which they are registered; Regulation S under the Securities Act provides more favorable treatment for asset-backed securities than they would receive based on the classifications applicable to other securities; and Rule 3a-7 under the Investment Company Act was adopted specifically to exempt structured financing vehicles from the extensive regulation of the Investment Company Act because the Commission found those regulations unnecessary to protect investors in such vehicles. Listing requirements have also been modified for securities of structured finance vehicles under long-standing accommodations that recognize their special characteristics.
14 For example, when such vehicles are subject to the periodic reporting obligations of the Exchange Act, the Commission has historically permitted them to satisfy these obligations by furnishing reports that are substantially different from those required of operating companies. Depending on the type of assets and financing structure involved, for example, structured finance vehicles may report payment, prepayment and default levels and other information relevant to a cash flow instrument, but not provide audited financial statements. Similarly, in adopting Rule 144A the Commission stated that in the case of asset-backed securities, the requirement that would otherwise mandate the availability of specified financial information may instead be satisfied with information concerning the structure and assets of the securitization.
15 See Release, at n. 11.
16 During the floor debate of the Act in the Senate, Senator Enzi said:
I . . . realize inconsistencies appear in sections 302 and 906. The SEC is required to complete rulemaking within 30 days after the date of enactment with regard to CEO certification under section 302. However, section 906 suggests that certification would be required upon enactment, thus the penalties would go into effect before the certification requirement is completed through the rulemaking process. I believe it was the intent of Congress that the penalties under section 906 should not become effective until the rulemaking process is finalized.

148 Cong. Rec. S7350-7365 (daily ed. July 25, 2002)(statement of Sen. Enzi).