COMPLIANCE & SOX

1. COMPLIANCE& SOX

2. SARBANES-OXLEY ACTAt Issue • If the governance of the modern corporation isn’t completely broken, it is going through a severe crisis of confidence. At risk is the very integrity of capitalism. • Directors who fail to direct and CEOs who fail at moral leadership are arguably the most important challenge facing corporate America today. Business Week (May 6, 2002)

3. SARBANES-OXLEY ACTThe Solution Starts At Home • The recent corporate collapses have involved many breakdowns: in ethics, in trust, in common sense, to name a few. But perhaps the most troubling breakdown is in corporate oversight. • Directors, senior executives, and Wall Street analysts all failed miserably by missing – or concealing – danger signals until it was too late. • Regulators will no doubt have plenty to say on the issue, but the most zealous reformers should be the companies themselves. Fortune (May 27, 2002)

4. CORPORATE GOVERNANCE STANDARDS • 1900: NYSE requires distribution of annual reports to stockholders • 1909: NYSE requires annual stockholders’ meeting • 1926: NYSE adopts “one share, one vote” standard • 1929: Stock market crash • 1932: Increased financial disclosure and independent audits become mandatory • 1934: SEC is formed • 1955: Shareholder approval required for certain corporate acquisitions

5. CORPORATE GOVERNANCE STANDARDS • 1968: AMEX publishes first guide establishing listing standards • 1977: NYSE requires establishment of an audit committee comprised of independent directors • 1985: NASDAQ initiates its first corporate governance listing standards • 1987: Treadway Commission (COSO) established to define responsibilities of the auditor in detecting and preventing fraud

6. CORPORATE GOVERNANCE STANDARDS • 1999: NYSE/AMEX/NASD adopt new rules based on Blue Ribbon Committee on Improving the Effectiveness of Audit Committees • 2002: Sarbanes-Oxley Act (July 30, 2002)

7. SARBANES-OXLEYMajor Objectives • Improve corporate governance • Reform public accounting (auditing) • Reform Wall Street practices • Attack insider trading and obstruction of justice (document retention) “Restore confidence in capital markets”

8. SARBANES-OXLEY ACTMajor Provisions • Title I: Public Company Accounting Oversight Board • Title II: Auditor Independence • Title III: Corporate Responsibility, Disclosure, and Governance • Title IV: Enhanced Financial Disclosures

9. SARBANES-OXLEY ACTOther Provisions • Title V – Analyst Conflicts of Interest • Title VI – Commission (SEC) Resources and Authority • Title VII – Studies and Reports • Title VIII – Corporate and Criminal Fraud Accountability • Title IX – White-Collar Crime Penalty Enhancements • Title X – Corporate Tax Returns • Title XI - Corporate Fraud and Accountability

10. PUBLIC COMPANY ACCOUNTING OVERSIGHT BOARD • Established by Sarbanes-Oxley • Broad powers to regulate audits and auditors of public companies • Appointed by the SEC

11. PCAOB • Register public accounting firms • Establish auditing standards • Inspect registered public accounting firms • Conduct investigations and disciplinary proceedings – with ability to sanction auditors and audit firms

12. AUDITOR INDEPENDENCE • Prohibits certain “nonaudit services” • Bookkeeping, financial systems design, appraisal or valuation, actuarial, internal auditing outsourcing, management or human resources, broker-dealer or investment banking, others per PCAOB • Audit committee must pre-approve all auditing and non-auditing services • Audit partner rotation • Audit firm rotation was discussed

13. AUDITOR INDEPENDENCE • Audit Committee is directly responsible for oversight of external auditors • Auditor required to discuss • All critical accounting policies and practices • All alternative accounting and disclosure treatments • Other material written communications • “Cooling – off” period • CEO, CFO, Controller, etc.

14. CORPORATE RESPONSIBILITY & GOVERNANCE • Audit Committee = independent directors • Audit Committee has responsibility to appoint, compensate, and oversee public accounting firm performing the audit • Audit Committee has responsibility to resolve disagreements over financial reporting between management and external auditors • Audit Committee must establish “whistle-blower” procedures • New penalties for retaliation against them

15. CORPORATE RESPONSIBILITY & GOVERNANCE • Requires executives and financial officers (CEO & CFO) to certify financial reports are accurate, complete and fairly presented • Also must certify the state of internal controls • Outlaws improperly influencing the auditor

16. CORPORATE RESPONSIBILITY & GOVERNANCE • Reimbursement of bonuses and profits if public was misled • Removal of “substantial unfitness” standard • Prohibits trading during a pension “blackout” period • Minimum standards for attorneys • Both in-house and outside counsel • Any reimbursed funds from guilty parties be added to a fund for the benefit of victims

17. ENHANCED FINANCIAL DISCLOSURES • Off-balance sheet arrangements and obligations • Prohibits loans to executives and directors • Insider trades within two business days • Adoption of code of ethics for senior financial officers and requirements • Whether at least one member of the audit committee is an “Audit Committee Financial Expert”

18. ENHANCED FINANCIAL DISCLOSURES • Reconciliation of non GAAP revenue to most directly comparable GAAP measure • Requires management to establish and maintain adequate internal controls and report annually on: • Management’s responsibility for such • Effectiveness of such internal controls • Assessment of internal controls by management is to be subject of an attestation report by the external auditor

19. PRIVATE COMPANIESWho Should Adopt SOX • May soon go public • Contemplating a combination with a public company • Large Not-for-profit entities • Audit committees becoming common • Significant absentee owners • Creditors may require SOX

20. PRIVATE COMPANIESWhat parts of SOX? • More than internal controls • Independent audit committees • “Financial expert” • Compensation & funding of committee • Approval of nonaudit services • Certification of financial statements • Codes of ethics • Whistle-blower procedures and protections

21. CORPORATE AMERICAAfter SOX • Must have autonomous & vigorous audit committees • “Take charge” • Financial information is inherently judgmental • Financial statements are NOT precise • Users must appreciate this fact • FMV reporting will increase volatility • Non-financial disclosures will become more important • Auditors’ opinions on overall “fairness” of statements • Financial reporting should be as clear and concise as possible Committee for Economic Development March 28, 2006

22. CORPORATE AMERICAAfter SOX Give SOX (esp. 404) a chance to work • PCAOB has issued new guidelines • Learning curve effects • Excessive executive compensation can be tamed by Compensation Committees • Directors must be selected and appraised by independent nominating committees • Issue of Non-Executive Chair • Direct nomination by shareholders Committee for Economic Development March 28, 2006