From: JohnO'Byrne@newyorklife.com Sent: Wednesday, November 27, 2002 4:08 PM To: rule-comments@sec.gov Cc: Nancy Thomas; cpenman@eoa.org; epetry@eoa.org; Gretchen_a_winter@baxter.com Subject: File Number S7-40-02 - Comment Letter from Ethics Officer Association November 27, 2002 To: rule-comments@sec-gov From: Nancy Thomas-Moore Chair EOA Board of Directors Gretchen A. Winter Vice-Chair EOA Board of Directors Reference: File No. S7-40-02 The Board of Directors of the Ethics Officer Association (EOA) thanks you for the opportunity to present our views and recommendations regarding the proposed rule ondisclosure required by Section 406 of the Sarbanes-Oxley Act. The EOA Board recognizes the impact that the Sarbanes-Oxley Act will have on improving the corporate governance activities of companies that do business in the United States. In particular, the requirement that companies either adopt and disclose a code of ethics, or explain why the company does not have a code of ethics, will benefit the companies, their employees and the investing public. It is apparent from recent corporate compliance and ethics failures that the need to focus organizations on compliance, business conduct and ethics has never been more critical. Recent ethical failures by corporations, and the resulting crisis in public and investor confidence, have had significant detrimental effects on our economy, our institutions and our society. The EOA Board fully supports the government's efforts to prevent future ethical failures and to restore investor trust. Background on the EOA The Ethics Officer Association is a national organization of professionals that have come together to facilitate the exchange of ideas and information regarding compliance management, business conduct standards and business ethics. The EOA currently has over 800 members, including representatives from every major industry in the U.S. The EOA Board is composed of individuals representing twenty-one organizations that are EOA members. A list of current Directors and the organizations that they represent is included as Exhibit I. The comments presented in this document are those of the EOA Board as an entity and may not represent the views of all EOA member companies. In addition, some individual Directors may also be independently providing comments for their organizations to the Securities and Exchange Commission. Recommendations The EOA Board offers recommendations in response to the questions posed by the Commission in section B, 2 in regard to codes of ethics. Our comments appear below. Applicability of Codes of Ethics The term "code of ethics" refers to codes of ethics, codes of conduct and other policies and procedures that delineate conduct expectations. (Questions one and three). Should the rules address whether a company has a code applicable to its principal executive officer or should the rule only require that the company disclose whether it has a code that applies to its senior financial officers? Should the rules cover a broader group of officers? The EOA Board recommends that the code of ethics be applicable to as broad a range of employees within the organization as possible. By applying a code of ethics to all employees, companies send the strongest possible message of top management support to their employees. Also, by applying the code broadly, it avoids ambiguity about when the code applies in specific workplace situations. There should be no doubt in any employee's mind as to whether ethical conduct is expected. Consistent with the recommendations of the New York Stock Exchange proposed listing standards, and the EOA Board proposal for changes to the Organizational Sentencing Guidelines, we propose a requirement that "organizations must have established and communicated conduct expectations and organizational values through a code of ethics or other mechanism appropriate to the organization". Finally, it is the Board's view that the discriminatory application of a code of ethics to a select group of higher ranking company officials transmits a limiting and inappropriate message to company employees. Therefore, we agree with the comments of the SEC in the proposed rule about the broadest possible application of codes of ethics. Definition of a code of ethics (Question two) Should the code be expanded as proposed to include 1) avoidance of conflicts of interest, 2) prompt internal reporting, and 3) accountability for adherence to the code. The EOA Board agrees with the definition of a code of ethics in the proposed rule to include these items. The resulting six key attributes are reasonably designed to deter wrongdoing and to promote ethical behavior. We believe that those six items sufficiently cover key ethical concerns yet still allow companies to draft codes tailored to their respective business operations. Applicability of Code to Directors (Question four). Should the proposed rules require companies to disclose if the code of ethics applies to directors, and should codes apply to directors? The New York Stock Exchange (NYSE) proposed listing standards already require that the code apply to directors, and we believe that all companies should have codes of ethics or other conduct standards that apply to directors when they are representing the company. However, companies should have the latitude to develop codes that are appropriate to the circumstances of individual boards, and also have the option to develop distinct codes that apply to directors and /or employees. The EOA Board believes that any and all such codes should conform to the six key attributes referred to in our above comment on Question 2 and to the similar standards included in the NYSE proposal. Procedures to Describe Compliance (Question five) Should companies be required to describe procedures to ensure compliance with the code of ethics? We do not believe that companies should be required to describe the actual procedures followed to achieve compliance with the code. Since 1991, EOA member companies have used the standards for "an effective program to prevent and detect violations of law" contained in Chapter Eight of the United States Sentencing Guidelines for Organizations as their model for ethics and compliance programs. These standards are currently undergoing review by the United States Sentencing Commission through its Ad Hoc Advisory Committee. Not only has the U.S. Sentencing Guidelines description of an "effective program" served as the model for major corporations, it has also been adopted, in whole or in part, by other governmental bodies, including the U.S. Department of Justice, Health & Human Services, and the Environmental Protection Agency. The U.S. Supreme Court, in a series of cases, limited liability for companies that had developed effective ethics and compliance programs. See, e.g., Burlington Industries, Inc. v. Ellerth, 524 U.S. 742, 141 L.Ed 2d 633, 118 S.Ct. 2257 (1998). Perhaps most significantly, because of its impact on boards of directors, in 1996 the influential Delaware chancery court issued an opinion in the Caremark case that stated that directors who fail to ensure that their companies have effective compliance programs could be subject to personal civil liability to shareholders for breach of the fiduciary duty of care. The court noted in dicta that, "any rational person attempting in good faith to meet an organizational governance responsibility would be bound to take into account (the U.S. Sentencing Guidelines) and the enhanced penalties and the opportunities for reduced sanctions that (they) offer". A significant feature of the Organizational Guidelines is the requirement that a specific individual(s) of appropriate rank and authority within the organization be assigned responsibility to oversee compliance. We recognize and agree with the recent statement by Commissioner Glassman to the effect that a corporate responsibility officer (often referred to as an "ethics officer") must be in place and must "have sufficient seniority and authority to take the actions necessary under the circumstances." Because the standards set forth in the Sentencing Guidelines have achieved such widespread acceptance, we do not believe that the disclosure of a company's procedures to assure compliance with its code of conduct would significantly improve investor knowledge or enhance investor confidence. Procedures for Granting a Waiver (Question six). Should the company describe its procedures for granting a waiver from a provision of its code of ethics? The EOA Board recommends that the proposed rules, consistent with the proposed NYSE listing requirements, require that waivers of the code of ethics for executive officers and directors be made by the board or a board committee and that all such waiver be publicly disclosed. However, there is genuine uncertainty about what is meant by the term "waiver". For example, many company policies include provisions for exceptions under certain circumstances and with specified approval requirements and/or guidance provided by a designated conflicts committee or compliance officer, or other appropriate party. A permissible exception pursuant to such policies should not be considered a waiver. The term "waiver" should be defined to be a material, substantive departure from the code of conduct approved by a senior authority in the organization. We do not believe that the proposed rule should require disclosure of "implicit waivers" of the code. Implicit waivers could be construed to include interpretations of gray areas of the code. A decision that the code does not apply to a given situation should not be considered a waiver. Such an interpretation could cause employees to decide not to seek guidance about potential conflicts of interest for fear that the company would be required to publicly disclose their inquiries. Such a result would not be in the interests of employees, companies, or their investors. Disclosure of Dates of Adoption (Question seven). Should companies be required to disclose the dates of adoption of its code and the dates of the most recent update to the code? The EOA Board agrees that disclosure of the date of the most recent update is a good practice. However, disclosure of the date of adoption of the code would not be possible or meaningful for the many companies that have maintained codes of conduct for many years, or even decades. In addition, it would be helpful if guidance were given as what constitutes a revision. To keep codes current, companies will routinely change, at a minimum, contact names, functional areas, resources, etc. We assume that only substantive changes to the code would constitute an update. Filing the Code as Part of an Annual Report. (Question eight). Should the company have to file the code as an exhibit to its annual report? The EOA Board recommends that the SEC adopt a standard requiring that codes should be readily available to the public. However, we recommend that the method of making the code available should be non-prescriptive, and left to the individual companies. Requiring the code to be included, as part of an annual report would be expensive for companies due to high printing and mailing costs. There are viable alternatives, such as posting the code on a website and offering the complete code to those members of the public who request copies. Disclosure of the Code through Other Required Reports (Question nine). Should the code be required to be disclosed through other reports and registration statements? While the EOA Board believes that the code should be published and available in a convenient and unambiguous manner, we recommend against requiring that the code be included in other SEC reports and registration statements. This is due to the technical nature of registration statements, and the historical sentiment against "disclosure creep" into these complicated and limited purpose documents. The EOA Board greatly appreciates the opportunity to provide these comments. Please feel free to contact us through the EOA office at 617-484-9400 if you would like to discuss this matter. Respectfully submitted, ETHICS OFFICER ASSOCIATION BOARD OF DIRECTORS Chair, Board of Directors Nancy Thomas-Moore, Director, Ethics & Business Conduct, Weyerhaeuser Company Vice Chair, Board of Directors Gretchen A. Winter, Vice President & Counsel, Business Practices, Baxter International Inc. Charles E. Abbott, Director Ethics & Compliance, Textron, Inc. T. Michael Andrews, Vice President ? Business Practices, Stewart & Stevenson Services, Inc. Frank Z. Ashen, Executive Vice President, New York Stock Exchange Jesse Battino, Vice President, Human Resources, Sequa Corporation James D. Berg, Director, Ethics and Business Practice, International Paper Company Francis J. Daly, Corporate Director Ethics & Business Conduct, Northrop Grumman Corporation Patricia J. Ellis, Vice President Ethics and Compliance, Raytheon Company Jacquelyn B. Gates, Ethics Officer, The World Bank Patrick J. Gnazzo, Vice President Business Practices, United Technologies Corporation Jerry D. Guthrie, Corporate Director Ethics, Compliance BellSouth Nancy McCready Higgins, Vice President, Lockheed Martin Corporation Robert Holmes Jr., Vice President Ethics & Business Practices, Alabama Power Barbara H. Kipp, Partner, Global Ethics & Business Conduct Leader, PricewaterhouseCoopers Thomas C. Mayer, Director, Office of Business Practices, Caterpillar Inc John H. O'Byrne, Vice President, New York Life Insurance Company Edward S. Perry, Executive director, Ethics Officer Association Eric Pressler, Director - Legal Compliance & Business Ethics , PG&E Corporation Alan R. Yuspeh, Senior Vice President Ethics, Compliance, Corporate Responsibility, HCA