British Bankers Association

Mr Jonathan Katz
Securities and Exchange Commission
450 Fifth Street, NW
Washington DC 20549 - 0609
                                  Ian Mullen
Chief Executive
Direct Line: 020 7216 8873
Direct Fax: 020 7216 4373

23 August 2002

SEC file no. S7 - 21 - 02

Dear Mr Katz

Sarbanes-Oxley Act 2002: SEC consultation on certification of disclosures and other issues

The UK banking industry fully recognises the right of the US authorities to introduce effective measures to strengthen and restore investor confidence in companies listed on the US markets and can see that the measures contained within the Sarbanes-Oxley Act ("the Act") have been enacted with that purpose in mind.

We are, however, concerned about the effect of the US seeking to impose rules of this nature on foreign registrants that are already subject to equivalent or superior measures under the domestic regime in which they principally operate and consider there to be grounds for exemption where the application of the Act would place companies under similar - and potentially conflicting - requirements. The SEC historically has permitted the home country of foreign registrants to implement corporate governance standards and not to export US standards in disregard of the sovereignty of other nations. We would press for early confirmation that this will continue.

We also note that, specifically in regard to the provision of loans by companies to directors and employees, the Act provides an exemption for loans made by depository institutions subject to restrictions applied by the Federal Reserve Act, but makes no similar exemption for institutions governed by equivalent arrangements overseas. As this stands, it is anti-competitive.

Super equivalence

It is quite right for the US authorities to expect that investors should expect the same standards of conduct from companies raising finance on the US markets, irrespective of whether they are domiciled principally in the US or overseas. This, however, is very different from saying that the US should regard itself as being in a position to determine that it is better placed than other relevant authorities to establish the precise rules that ought to apply to companies domiciled outside their jurisdiction.Unless exemption to the Act is given to foreign registrants, many such companies will be subjected to super equivalent rules; leading at best to duplication and at worst to conflict and confusion.

We believe, therefore, that the SEC should be willing to use its discretion to continue to operate differential treatment for foreign issuers and arrange suitable exemption.

Taking the UK as an example, we can illustrate the difficulties the Act would create in four key areas:

  • The Section 301 rules on the composition of audit committees.

  • The Section 302 rules on the certification of the accounts.

  • The Section 401 rules on the disclosure of off balance sheet transactions.

  • The Section 402 rules on the provision of loans

Section 301 on the composition of audit committees

We would contend that the UK is as advanced as the US in terms of the development of its corporate governance regime. In January 2002 the European Commission published a Comparative Study of Corporate Governance Codes relevant to the European Union and member states. From this, it can be seen that the UK has a long history of defining corporate governance through voluntary code, accounting for six of the ten pre-1998 codes.

Of the codes applicable to UK publicly listed companies, it is the Combined Code on Corporate Governance that has the greatest prominence. It is widely adhered to and, while non-statutory, it is a requirement of the Listing Rules of the Financial Services Authority that companies report to shareholders on whether they have complied with the provisions of the Combined Code and to explain departures.

The Combined Code includes provisions relating to the composition and role of Audit Committees and, as part of its response to events surrounding the collapse of Enron, the UK Government has established two high level reviews - one to look at audit and accounting issues and one to look specifically at the role and effectiveness of non-executive directors - and has also commenced a review of the FSA Listing Rules. It is therefore expected that the arrangements in the UK will be subject to refinement in light of the lessons to be learnt from the circumstances that led to the collapse of Enron and other subsequent US corporate failures.

The UK arrangements have been evolving for almost a decade, are well defined, broadly complied with and are in the process of being further refined. We do not believe, therefore, that it is necessary or appropriate for the US authorities to define the corporate governance arrangements, including the composition and role of audit committees, that should apply to UK and other overseas companies listed in the US.

Section 302 rules on the certification of the accounts

Section 302 requires that signing officers state that they have reviewed the accounts and that, based on their knowledge, they do not contain an untrue statement of material fact, or omit to state a material fact necessary to make the statements not misleading. They are also required to make statements on internal controls and to confirm that they have disclosed any deficiencies to the company's auditors and audit committee.

While we would not disagree with the spirit of requirements of this nature as a matter of principle, we are concerned that applying them to foreign registrants will lead to duplication, ambiguity and conflict:

  • It is already the case that the directors of UK companies are placed under a statutory obligation to prepare accounts that give a `true and fair' view of the state of affairs and of the profit/loss and that this is underpinned by statutory liability.

  • UK accounts are drawn up within a clear context of materiality.

  • Under the Combined Code on Corporate Governance, a company's Board has explicit responsibility for maintaining `a sound system of internal control to safeguard shareholders' investment and the company's assets'. Directors are required, at least annually, to conduct a review of effectiveness and to report to shareholders on the matter.

  • Current proposals to reform UK Company Law include a proposed new statutory statement of directors' duties and an extension of obligations on directors and employees to the provision of information to auditors, underpinned by new criminal penalties.

Therefore, it can be seen that the UK has a long tradition of requiring accounts to be prepared on a true and fair basis and that all material information should be taken into account and reflected in the accounts. Responsibility for internal controls is clearly defined and there are statutory requirements placed on directors and employees that will shortly be backed by criminal penalties.

Section 401 rules on the disclosure of off balance sheet transactions

Section 401 requires the SEC to issue new rules on the disclosure of off-balance-sheet transactions and pro-forma information and to study a principles-based accounting system. We would make two observations in this regard:

  • The accounting and disclosure rules on off-balance-sheet transactions differ considerably between the US and the UK GAAP. UK GAAP is based on the economic substance of the transactions and an appropriate balance has been found on whether transactions should be on or off balance sheet. Under Financial Reporting Standard 5, `Reporting the Substance of Transactions', it is the substance of transactions and not their legal form that determines their accounting treatment. In determining the substance of a transaction, "all its aspects and implications should be identified and greater weight given to those more likely to have a commercial effect in practice. A group or series of transactions that achieves or is designed to achieve an overall commercial effect should be viewed as a whole." Where an entity has a quasi-subsidiary "the substance of the transactions entered into by the quasi-subsidiary should be reported in consolidated financial statements". Detailed rules are set out on determining whether a transaction has given rise to an asset or liability for the reporting entity, based on the concept of the right or other access to benefits and exposure to the risks inherent in those benefits.

  • UK financial reporting standards - and those being developed by the International Accounting Standards Board - are already firmly grounded on adherence to principles rather than compliance with the letter of detailed rules.

At present, UK companies listed on the US markets are required to reconcile to US GAAP and, therefore, will be subjected to any additional requirements that the SEC decides to introduce. We would stress the importance however in these and other areas of the US seeking to converge with international standards.

Section 402 rules on the provision of loans

Section 402 prohibits the provision of loans by companies to directors and employees. Section 402 (k) (3), however, provides an exemption for loans made or maintained by depository institutions subject to restrictions applied by the Federal Reserve Board.

From the above decision, it would seem it has been concluded that there are grounds for excluding deposit-taking institutions from the prohibition on the provision of company loans to directors and employees. We fail to see the grounds for not extending a similar provision to similar foreign entities and unless such an extension is provided, we would consider this particular aspect of the Act to have imposed an anti-competitive burden on foreign deposit-taking institutions listed on the US markets.

Closing remarks

We would reiterate that we are supportive of the US authorities introducing new measures on audit, accounting and governance aimed at strengthening investor confidence in companies listed on the US markets. Though, we believe there are valid reasons for ensuring that foreign registrants are not subjected to super equivalent requirements and for ensuring that they are afforded exemptions made available to similar US entities.

This letter is copied to the UK Coordinating Group on Audit and Accounting, the Department of Trade and Industry, the Accounting Standards Board, the Financial Services Authority and the European Commission.

Kind regards,

Yours sincerely

Ian Mullen
Chief Executive