SEC file no. S7 - 40 - 02
Dear Mr Katz
Disclosures required by Sections 404, 406 and 407 of the Sarbanes-Oxley Act 2002 and other issues
On 22 October the SEC posted to its website proposed rules that will govern the disclosure requirements contained in sections 404, 406 and 407 of the Sarbanes-Oxley Act. These apply equally to US institutions and foreign registrants. In summary, the rules require the disclosure of:
- The number, and names of, persons that the Board has determined to be the `financial experts' serving on the company's Audit Committee, whether they are independent of management and, if not, why not.
- An annual internal control report stating: management's responsibilities for establishing and maintaining adequate internal controls and procedures for financial reporting for the company; management's conclusions about the effectiveness of the company's internal controls and procedures for financial reporting as of the end of the company's most recent fiscal year; and that the company's external auditors have attested to, and reported on, management's evaluation of the company's internal controls and procedures for financial reporting.
- Whether the company has adopted a code of ethics that covers their principal executive officers and senior financial officers and, if not, why not.
While we fully appreciate that it is usual for disclosure requirements to apply equally to US and foreign registrant firms, we are concerned that the nature of these requirements is such that they would result in the SEC determining corporate governance arrangements on the part of foreign registrants. This would seem at odds with public assurances given by the SEC, whether in terms of public speeches or statements made at the open conference held on 16 October. We would therefore ask that the SEC consider:
- The need to be more accommodating to foreign registrants in its definition of `financial experts'. In particular, we are concerned about the ability of foreign registrants to find independent experts of Board calibre with experience of reviewing, preparing, auditing or analysing US financial statements, with additional expertise in the home country's accounting rules and reconciliation of financial statements with the US. It would seem to us to be more appropriate for the definition to be based more on understanding the home country rules, or international accounting standards, and being able to bring to bear an independent view on the reconciliation.
- The need to accommodate disclosures on internal control established in other jurisdictions. It is a requirement of the UK Combined Code on Corporate Governance, as applied by the UK Listing Rules, that the Board should maintain a sound system of internal control. Directors are required, at least annually, to conduct a review of the effectiveness of the group's system of internal control and should report to shareholders that they have done so. The review covers all controls, including financial, operational and compliance controls and risk management.
- The need for foreign registrants to meet the code of ethics requirement by stating whether the Board had applied home country governance rules. In the UK, this would mean compliance with the Combined Code, the Companies Act 1985 disclosures on directors' remuneration, as revised by Statutory Instrument 2002 No. 1986, and any sector-specific codes, such as the ethical framework for the financial services industry currently being developed by the UK Financial Services Authority.
We are supportive of the US authorities introducing measures on audit, accounting and governance aimed at strengthening investor confidence in companies listed on the US markets. We believe, however, that there are valid reasons for ensuring that foreign registrants are not subjected to super equivalent requirements and that it is incumbent on the SEC to make sure that its guidance reflects similar requirements in place outside the US.
In writing, we would also observe that we are still awaiting the conclusion of the SEC's review of the need to extend the Section 402 (k) (3) exemption for loans to directors and executive officers by depository institutions to foreign registrant banks. We understand that this point is currently `under advice' and would underline the need for equivalent treatment if foreign registrant banks are not to be subjected to an additional anti-competitive burden.
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.