December 10, 2002
Giovanni P. Prezioso, General Counsel
Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549-0609
Dear Mr. Prezioso,
Re:Conflict with Russian Law under Section 301 of the Sarbanes-Oxley Act of 2002
Permit us to briefly bring to your attention two conflicts with Section 301 of the Sarbanes-Oxley Act (the "Act") that exist under Russian law. We are raising these issues on behalf of our actual and potential foreign private issuer clients, you having invited such issuers to communicate with the Staff during the "Live from the SEC" seminar organized by the American Bar Association's Section of International Law & Practice on October 16, 2002. We understand that other members of the Staff have issued similar invitations at other gatherings. We are writing to you in advance of the publication of proposed rules under Section 301 of the Act, in the hope that the Commission's proposed rules may contain ameliorative measures.1
The first of these conflicts relates to the requirement that all members of the audit committee also serve on the board of directors (see Section 10A(m)(3)(A) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")). This directly contradicts Section 85.6 of the Russian law governing joint stock companies2 (the "JSC Law"), which prohibits members of the audit committee from serving on the board of directors: "Members of a company's auditing commission/internal auditor 3 may not simultaneously be members of the company's board of directors/supervisory board or hold other positions in the company's governing bodies."4
The second point we wish to raise is that, under the Act, the audit committee is subordinate to, or the alter ego of, the board of directors. For example, Section 205 defines the audit committee as being "established by and amongst the board of directors of an issuer" and further specifies that, in the absence of such a committee, the term refers to the "entire board of directors of the issuer."5 In contrast, under the JSC Law, the members of the audit committee are elected by the company's shareholders, not by the board of directors, a fact which would seem to create another conflict with the provisions of Section 301.6
As you are aware, the consequences of non-compliance with these and other provisions of Section 301 can be severe. The Act directs the Commission to adopt rules that would require the "national securities exchanges and national securities associations to prohibit the listing of any security of an issuer that is not in compliance."7 Consequently, unless the rules to implement Section 301 are drafted in such a manner as to encompass the situation under Russian law referred to above, Russian issuers already listed in the U.S.8 could lose their listings and Russian companies that intend to pursue such listings may be forced to seek capital in other markets9.
We finally note that, notwithstanding the conflicts between Russian law and the Act which we have identified above, at present there is widespread recognition in Russia of the importance of enhanced corporate governance and transparency for Russian public companies, whether listed outside Russia or not. Thus, the Russian Federal Commission on the Securities Market has adopted a model Code of Corporate Governance and the major Russian stock exchanges will be encouraging-under penalty of delisting-each of their respective listed companies to adopt their own codes of governance, with the implied expectation that they track the model as closely as possible10.
Should you wish to direct any specific questions on the foregoing to us, please feel free to do so. You can reach the undersigned at the address and telephone number shown above or, alternatively, at 44 7771 541 502 or 7 (095) 410-1184.
Very truly yours,
/s/ Mitchell M. Gitin
Mitchell M. Gitin
Alan L. Beller
Director, Division of Corporate Finance
(Securities and Exchange Commission)
Paul M. Dudek
Chief, Office of International Corporate Finance
(Securities and Exchange Commission)
Annette L. Nazareth
Director, Division of Market Regulation
(Securities and Exchange Commission)
|1|| We have not specifically suggested going down the route of conferring exemptions in the rules which will ultimately be proposed and adopted to implement Section 301 of the Act (or encouraging Russia foreign private issuers to seek ad hoc exemptive relief where conflicts with Russian law exist) so as not to foreclose the Staff's consideration of other ameliorative approaches. We would, however, like to point out that while different sections and subsections of the Act vary as to whether explicit exemptive or quasi-exemptive authority is conferred upon the Commission under them (e.g., compare the wording of amended Sections 10A(m)(3)(A) and (B) of the Securities Exchange Act of 1934), we note the general exemptive authority conferred in Section 36 of the Exchange Act.
|2|| A joint stock company is similar to an American corporation in many respects. Under current Russian law, all Russian companies whose shares are publicly traded are open joint stock companies. Such companies generally use the abbreviation "OJSC" or sometimes simply "JSC" to indicate their corporate form. Other designations arising under earlier legislation governing similar entities are also still seen, including "OAO" and "AO."
|3|| The term in Russian for "auditing commission" is revizionnaya komissiya, which could also be translated as "inspection commission."
|4|| Russian Federation Law on Joint Stock Companies, Section 85.6 (law N. 208-FZ of 26 December 1995, as amended) (the "JSC Law") (emphasis supplied); our discussion herein assumes that, for purposes of compliance with the Act, Russian companies will treat the revizionnaya komissiya as the equivalent of an audit committee and that it is the activities of this body which must be brought into harmony with the Act.
|5|| See Section 3(a)(58)(A) and (B) and Section 10A(m)(2) of the Exchange Act.
|6|| See Section 48.1, pt. 10 and Section 85.1 of the JSC Law.
|7|| See Section 10A(m)(1)(A) of the Exchange Act.
|8|| Currently five Russian companies are listed on the New York Stock Exchange ("NYSE"): A.O. Tatneft (TNT), Mobile TeleSystems (MBT), Rostelecom (ROS), Vimpel-Communications (VIP), and Wimm-Bill Dann Foods OJSC (WBD). Twenty-eight additional Russian companies file periodic reports with the Commission, some of which may ultimately seek to emulate Rostelecom, which migrated from a Level I ADR Program to a Level II Program registered under the Exchange Act. Finally, we estimate that at the present time there are over a dozen Russian companies-some of which we act for on various matters-that are considering seeking a U.S. listing and, in view of the current state of United States-Russia relations and improvements in the Russian economy since the August 1998 financial crisis in Russia, this number could, over time, increase dramatically.
|9|| By way of illustration, the undersigned recently attended a full-day workshop in Moscow sponsored by Vedomosti, a leading business newspaper that is a joint venture among The Wall Street Journal, The Financial Times, and Independent Media, reviewing the recent listing of Lukoil, one of Russia's premier companies, on the London Stock Exchange (the "LSE"). The representatives of the LSE attending the conference stressed to the Russian companies in the audience that the LSE has an advantage over the NYSE and Nasdaq as a venue for overseas listings of Russian companies because LSE has no (and has no intention of adopting) Sarbanes-Oxley equivalent, but rather relies on a code of compliance that is essentially voluntary, with obligatory disclosure of departures from the code. While this is not to suggest that that is a superior approach, it does emphasize that the competition for "foreign listings" is fierce, especially for foreign listings of Russian companies, and the provisions of Sarbanes-Oxley that conflict with Russian law, as referred to above, will be a serious problem in this regard. We recognize that the Commission is not directly interested in the jostling for competitive position between the LSE and the NYSE; instead, its concerns are properly with transparency, the integrity of US markets and implementing the "high bar" set up by the Act. What is of concern in Russia, however, is not any disinclination or corporate incapacity to get over the "high bar," but the legal inability to do so because of the direct conflict with applicable provisions of Russian domestic law.
|10|| Under applicable Russian law, a Russian company now must first be listed on a Russian domestic stock exchange before it can receive permission from the Federal Commission on the Securities Market of Russia for an overseas listing.