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A BRIEF GUIDE TO CORPORATE COMPLIANCE ISSUES UNDER THE SARBANES-OXLEY ACT OF 2002

By Brent Eller and Marcus Williams
[July 2002]

In the wake of Enron and a number of other recent corporate governance and accounting scandals, Congress recently passed the Sarbanes-Oxley Act of 2002. The Act, which was signed into law by President Bush on July 30, 2002, provides for private oversight of accounting firms that perform public company audits and imposes many new obligations on public companies and their officers and directors. This Advisory Bulletin provides a very brief overview of some of the compliance issues facing public companies under the Act and the general compliance timeline. For additional information or to seek guidance about specific issues, please contact one of Davis Wright Tremaine’s corporate finance attorneys.

PROVISIONS CURRENTLY IN EFFECT

A number of the Act’s provisions went into effect immediately. These include the following:

• Each financial report filed with the SEC that requires GAAP financial statements must reflect all material correcting adjustments that have been identified by the reporting company’s auditors. Those auditors must be a public accounting firm in accordance with GAAP and registered under the SEC’s rules and regulations.
• An issuer may not, directly or indirectly (including through a subsidiary) make personal loans to or for any director or executive officer of the issuer. The Act exempts currently outstanding loans as long as they are not materially modified or renewed after July 30, 2002, as well as certain consumer loans that are made in the ordinary course of the issuer’s consumer credit business.
• If an issuer must prepare an accounting restatement because, as a result of misconduct, the issuer failed to provide materially accurate and complete financial disclosure, the issuer’s chief executive officer and chief financial officer must reimburse the issuer for any bonus, incentive-based and equity-based compensation he or she received from the issuer during the 12 months following the erroneous report. The officer must also reimburse the issuer for any profits he or she realized from the sale of securities of the issuer during that 12-month period.

WITHIN 30 DAYS

Other significant provisions of the Act become effective 30 days after the bill was signed into law (i.e., by August 29, 2002):

• Statements of changes in ownership of issuers’ equity securities by officers, directors, and principal stockholders under Section 16(a) of the Securities Exchange Act of 1934 must be filed within two business days after the change in ownership occurs. Within one year, reporting persons must file these reports electronically.
• The SEC must adopt rules requiring each issuer’s CEO and CFO to certify in each annual or quarterly report filed under the Exchange Act that they have reviewed the report, that it is materially true, does not omit any material facts if the omission would cause the statements made to be misleading, and fairly presents the issuer’s financial condition and results of operations. The officers also will be required to make certain certifications regarding the issuer’s internal controls. Assuming the rules are enacted by August 29, 2002 (as required by the Act), issuers with calendar year fiscal years would be required to make these certifications beginning with their quarterly reports for the period ending September 30, 2002.

WITHIN 180 DAYS

Within 180 days of enactment (i.e., by January 26, 2003), the following provisions will apply:

• Insiders will be restricted from trading in an issuer’s securities during pension fund blackout periods.
• Disclosure requirements will be substantially increased for off-balance sheet transactions, and the SEC will provide standards for:
  • disclosures of pro forma financial information,
  • limitations on non-audit services that can be provided by an issuer’s certifying accountants,
  • audit partner rotation and conflicts of interest, and
  • various other provisions increasing the responsibilities and addressing ethical conflict issues for audit firms and attorneys.
• The SEC must issue final rules requiring issuers to disclose in their periodic reports whether they have adopted a code of ethics for their senior financial officers and whether their audit committees have at least one member who is a “financial expert.” An issuer who has not adopted a code of ethics or who does not have a financial expert on its audit committee must explain this lack in the report.

WITHIN 270 DAYS

The SEC is required to adopt rules, within 270 days after the Act became law (i.e., by April 26, 2003), that prohibit market listing for any security unless the issuer complies with the following requirements:

• The issuer’s audit committee must be comprised solely of independent directors, and the committee must be directly responsible for the appointment, compensation, and oversight of the issuer’s certifying accountants.
• The audit committee must establish procedures for receiving, retaining and addressing accounting- and audit-related complaints and must provide for the confidential, anonymous submission by the issuer’s employees of concerns regarding questionable accounting or auditing matters.
• The audit committee must have the authority to engage independent counsel and other advisers, and the issuer must provide funding to compensate those professionals.

OTHER PROVISIONS HAVING AN UNSPECIFIED DATE

Certain of the Act’s provisions are required to be implemented by new SEC regulations, but the Act establishes no deadline for the adoption of these regulations. These include the following:

• To the extent provided in SEC regulations, an issuer’s annual reports will have to contain certain disclosures regarding management’s assessment of the issuer’s internal control structure and financial reporting procedures. The issuer’s audit firm will be required to attest to and report on this assessment.
• The SEC may adopt rules requiring “rapid and current” disclosure of information concerning material changes in the issuer’s financial condition or operations. The SEC has already taken some steps in this direction by proposing rule amendments that increase the triggering events and decrease the time for filing a current report on Form 8-K, and Act should provide additional support for significant modification of the Form 8-K filing requirements.

CONCLUSION

A number of the Act’s requirements—including the modification of the filing requirements for Section 16 reporting persons, the CEO and CFO certification requirements for financial statements included in Exchange Act reports, and various accountability provisions—are already in effect or will go into effect in the very near future. Accordingly, we urge you to contact your Davis Wright Tremaine corporate finance attorney to address specific questions about the Act and the supporting regulations.

FOR FURTHER INFORMATION, PLEASE CONTACT THE AUTHORS:

Brent Eller, Seattle
(206) 628-7786
brenteller@dwt.com

Marcus Williams, Portland
(503) 778-5370,
marcuswilliams@dwt.com

This Corporate Finance Advisory is a publication of the Business Transactions/Corporate Finance Group of Davis Wright Tremaine LLP. Our purpose in publishing this Advisory is to inform our clients and friends of recent developments in business, corporate finance and securities laws. It is not intended, nor should it be used, as a substitute for specific legal advice as legal counsel may only be given in response to inquiries regarding particular situations.

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