NYSE-Listed Corporations: Your Time Is Now

Much of the waiting for final rules promulgated by the Sarbanes-Oxley Act of 2002 (the Act), including new corporate governance standards approved by the SEC on Nov. 4, 2003 for New York Stock Exchange (NYSE)-listed companies, is over. It is now time for NYSE-listed corporations to set into motion the implementation and effective management of these myriad new rules. Extensive new disclosure is required to be included in proxy statements and Forms 10-K filed on or after Jan. 15, 2004, and consequently, processes should already have been put in place to allow adequate time for companies to review the effectiveness of newly adopted procedures.

After reading the new rules and the associated commentary, it is clear that the Exchange does not take a “one-size-fits-all” approach. A great deal of interpretation and flexibility is left to each board, or in some cases, the board committees, to make determinations according their company's size, specific needs, businesses or circumstances. The most important tool to ward off an unforeseen disclosure oversight or omission is communication among the board, its committees and management. Some highlights and ideas for the implementation of the new rules follow.

Director of Independence

• Rule:

NYSE-listed companies are now required to have a majority of independent directors on the board [NYSE 303A.02(a)]. The independence of each board member must be formally determined by the board of directors pursuant to independence criteria established by the company as well as certain criteria set forth in the listing standards of the Exchange. A board may adopt and disclose categorical standards in determining independence and make a general disclosure of whether a director meets such independence criteria, without detailing the basis of the immaterial relationships between the director and the company.

• Implementation:

The composition of the board should be revisited annually after careful review of responses to the D&O questionnaires and discussions with members of the board. It is essential that the directors and officers are well acquainted with the NYSE's and board's own independence criteria so they can immediately notify the appropriate person on the board or member of company management of any relevant change of circumstance. In some cases, such communication may prevent an event from occurring that would change the independence status of a director or tip the board's balance.

For example, a director receives a call from his or her daughter announcing that she has just become engaged to an accountant in the Milwaukee office of the corporation's outside auditor. A director familiar with the NYSE independence criteria that prohibits employment in a professional capacity by immediate family members (which definition includes sons-in-law) will know to place a call to the appropriate person on the company's board or member of management to discuss the matter. If the board member loses his or her independence status as a result of the daughter's marriage, the count of independent versus non-independent directors will change. Possible circumstances such as these argue that the number of independent directors should outweigh the number of non-independent directors by a margin greater than one or two so that such events do not upset the board's majority of independent directors.

Also, when considering the slate of nominees for election to the board, “look-back period” requirements and upcoming retirements of independent directors should be reviewed, keeping in mind a future board comprised of a majority of independent directors.

Charitable Contributions

• Rule:

In connection with the determination of independence of the directors, the new NYSE rules also require that if a director of a corporation is an executive officer of a charitable organization to which the corporation has made a donation within the preceding 3 fiscal years in excess of $1 million or 2% of such charitable organization's consolidated gross revenues, the name of such charitable organization must be disclosed in the company's proxy statement [NYSE 303A.02(6)(v)].

• Implementation:

After obtaining the names of charitable organizations at which their directors serve as executive officers, NYSE-listed companies should alert their department or foundation handling contributions that company contributions to such institutions must be tracked and if such contributions exceed the threshold, they must be reported to the appropriate person in the company (eg, the office of the corporate secretary, chair of the nominating committee).

Communications with Non-Management Directors

• Rule:

A company must disclose a method for interested parties to communicate directly with the presiding director or with the non-management directors as a group (NYSE 303A.03).

• Implementation:

If appointing and disclosing the name of a permanent presiding director, the director's availability to respond to communications should be taken into consideration and discussed with such director. Additional staffing requirements either at the corporation or the office of the presiding director should be reviewed in advance of the disclosure of the method of communication.

It has been the experience of many corporations that if the option to communicate with the directors via email exists, the ferreting out of “junk mail” sent to the board is very time-consuming. The non-management directors should be polled about what types of communication they wish to review themselves. Although all communications addressed to the directors may not require that they be read or responded personally, adequate staffing will be required to review, forward and respond to such mail. Many companies have implemented a log system, by which correspondence to the board or presiding director is screened by the corporate secretary's office, logged in and only the substantive mail is forwarded to the directors. The board or presiding director is then sent a copy of the log periodically.

Audit Committees

• Rule:

Each member of an audit committee must be financially literate as determined by the company's board in its business judgment, or must become financially literate within a reasonable period of time after his or her appointment to the audit committee. The audit committee must also have one member whose accounting or related financial management expertise, as interpreted by the board, qualifies him or her as a “financial expert.” Also, if an audit committee member simultaneously serves on the audit committee of more than three public companies, and a company does not limit the number of audit committees on which its audit committee members may serve, the board must formally determine and disclose that such simultaneous service would not impair the ability of the member to serve effectively on the corporation's audit committee [NYSE 303A.07(a)].

• Implementation:

Review of audit committee service on other boards should be evaluated when determining members of the audit committee. If members of a company's audit committee sit on more than three audit committees, and in the judgment of the board, their service on such committees would not impair their ability to serve on that company's audit committee, the board should consider adopting a policy that members of its audit committee may sit on a number of audit committees greater than three. However, it should be kept in mind that membership on audit committees of public companies is disclosed in proxy statements, thereby making it easy to track the total number of audit committees on which a director sits. If there is an internal policy that allows for membership on more than three audit committees, the conclusion could be drawn that the company was avoiding disclosure of “excessive” audit committee memberships. It is prudent for the director who sits on more than three audit committees to coordinate with those companies on how the disclosure in their proxy statements will be handled.

The current requirements of the audit committee to review and discuss financial statements and earnings releases, etc., entail extensive time commitments for audit committee members and should be carefully considered when appointing members to the audit committee.

Web-site Posting

• Rule:

It is now required for NYSE-listed companies to include on their Web sites their corporate governance guidelines, committee charters and codes of business conduct and ethics (NYSE 303A.09; 303A.10).

• Implementation:

Well in advance of the required posting dates, corporations should have a system in place to post governance documents and reports on their Web sites. Depending on the internal information technology capabilities of the corporation, the services of an outside vendor may be needed, or alternatively, a link to the SEC Web site is sufficient for those publicly filed reports. If the company uses the SEC link or links to an external site, the use of a disclaimer of the information obtained on the outside linked site should be posted on the company Web site.

Director Orientation and Continuing Education

• Rule:

Companies are required to address in their corporate governance guidelines their policy regarding director orientation and continuing education (NYSE 303A.09).

• Implementation:

The topic of continuing education for directors is often a delicate one and most directors have strong feelings on the matter. For example, a director who concurrently sits on one or more boards while running a large company may feel that he or she is abreast of current trends in corporate governance, financial disclosure issues and other topics relevant to serving on the board. If board members' locations make it inconvenient for the board to convene easily, it often works best to either bring a continuing education program into the corporation in conjunction with a board meeting or, alternatively, to make directors aware of continuing education programs near their individual location.

(see box below)

- TIPS -

• Staffing/Timing

Once a company has reviewed its staffing needs in the corporate governance area, which may include members of the legal, controller's, financial reporting and internal audit groups, it is time to sit down with a blank calendar for the upcoming year and a list of due dates for the company's regulatory filings, annual shareholder meeting matters as well as new implementation dates for compliance with recently adopted SEC and NYSE rules. Given the new SEC accelerated filing dates and information garnering required to comply with new disclosure rules, it is imperative to begin this process as far in advance of these filing dates as possible.

• Board and Committee Calendars and Agendas

The calendars and agendas for the board of directors' and board committees' meetings should also be reviewed carefully to ensure they mesh with timely approvals and recommendations to meet upcoming disclosure deadlines (eg, review and determination of the financial expert(s) on the audit committee, adoption of required charters and corporate governance guidelines in advance of the proxy statement printing deadline).

Directors' and Officers' Questionnaires

Obtaining information from officers and directors has typically been done yearly by companies through the use of questionnaires sent to executive officers and directors prior to the preparation of annual disclosure documents (D&O Questionnaires). The questions often tracked items required to be disclosed under Regulation S-K under the Securities Act of 1933 and the Securities Exchange Act of 1934. The D&O Questionnaire is the opportunity for the company to ask the questions of the directors necessary to obtain information needed for disclosure under new NYSE and SEC rules. Be sure to revisit and revise your D&O Questionnaire carefully to include all questions that will give you the answers needed to provide the new required disclosure and the information needed for your company to be a corporation with solid corporate governance.

Much of the waiting for final rules promulgated by the Sarbanes-Oxley Act of 2002 (the Act), including new corporate governance standards approved by the SEC on Nov. 4, 2003 for New York Stock Exchange (NYSE)-listed companies, is over. It is now time for NYSE-listed corporations to set into motion the implementation and effective management of these myriad new rules. Extensive new disclosure is required to be included in proxy statements and Forms 10-K filed on or after Jan. 15, 2004, and consequently, processes should already have been put in place to allow adequate time for companies to review the effectiveness of newly adopted procedures.

After reading the new rules and the associated commentary, it is clear that the Exchange does not take a “one-size-fits-all” approach. A great deal of interpretation and flexibility is left to each board, or in some cases, the board committees, to make determinations according their company's size, specific needs, businesses or circumstances. The most important tool to ward off an unforeseen disclosure oversight or omission is communication among the board, its committees and management. Some highlights and ideas for the implementation of the new rules follow.

Director of Independence

• Rule:

NYSE-listed companies are now required to have a majority of independent directors on the board [NYSE 303A.02(a)]. The independence of each board member must be formally determined by the board of directors pursuant to independence criteria established by the company as well as certain criteria set forth in the listing standards of the Exchange. A board may adopt and disclose categorical standards in determining independence and make a general disclosure of whether a director meets such independence criteria, without detailing the basis of the immaterial relationships between the director and the company.

• Implementation:

The composition of the board should be revisited annually after careful review of responses to the D&O questionnaires and discussions with members of the board. It is essential that the directors and officers are well acquainted with the NYSE's and board's own independence criteria so they can immediately notify the appropriate person on the board or member of company management of any relevant change of circumstance. In some cases, such communication may prevent an event from occurring that would change the independence status of a director or tip the board's balance.

For example, a director receives a call from his or her daughter announcing that she has just become engaged to an accountant in the Milwaukee office of the corporation's outside auditor. A director familiar with the NYSE independence criteria that prohibits employment in a professional capacity by immediate family members (which definition includes sons-in-law) will know to place a call to the appropriate person on the company's board or member of management to discuss the matter. If the board member loses his or her independence status as a result of the daughter's marriage, the count of independent versus non-independent directors will change. Possible circumstances such as these argue that the number of independent directors should outweigh the number of non-independent directors by a margin greater than one or two so that such events do not upset the board's majority of independent directors.

Also, when considering the slate of nominees for election to the board, “look-back period” requirements and upcoming retirements of independent directors should be reviewed, keeping in mind a future board comprised of a majority of independent directors.

Charitable Contributions

• Rule:

In connection with the determination of independence of the directors, the new NYSE rules also require that if a director of a corporation is an executive officer of a charitable organization to which the corporation has made a donation within the preceding 3 fiscal years in excess of $1 million or 2% of such charitable organization's consolidated gross revenues, the name of such charitable organization must be disclosed in the company's proxy statement [NYSE 303A.02(6)(v)].

• Implementation:

After obtaining the names of charitable organizations at which their directors serve as executive officers, NYSE-listed companies should alert their department or foundation handling contributions that company contributions to such institutions must be tracked and if such contributions exceed the threshold, they must be reported to the appropriate person in the company (eg, the office of the corporate secretary, chair of the nominating committee).

Communications with Non-Management Directors

• Rule:

A company must disclose a method for interested parties to communicate directly with the presiding director or with the non-management directors as a group (NYSE 303A.03).

• Implementation:

If appointing and disclosing the name of a permanent presiding director, the director's availability to respond to communications should be taken into consideration and discussed with such director. Additional staffing requirements either at the corporation or the office of the presiding director should be reviewed in advance of the disclosure of the method of communication.

It has been the experience of many corporations that if the option to communicate with the directors via email exists, the ferreting out of “junk mail” sent to the board is very time-consuming. The non-management directors should be polled about what types of communication they wish to review themselves. Although all communications addressed to the directors may not require that they be read or responded personally, adequate staffing will be required to review, forward and respond to such mail. Many companies have implemented a log system, by which correspondence to the board or presiding director is screened by the corporate secretary's office, logged in and only the substantive mail is forwarded to the directors. The board or presiding director is then sent a copy of the log periodically.

Audit Committees

• Rule:

Each member of an audit committee must be financially literate as determined by the company's board in its business judgment, or must become financially literate within a reasonable period of time after his or her appointment to the audit committee. The audit committee must also have one member whose accounting or related financial management expertise, as interpreted by the board, qualifies him or her as a “financial expert.” Also, if an audit committee member simultaneously serves on the audit committee of more than three public companies, and a company does not limit the number of audit committees on which its audit committee members may serve, the board must formally determine and disclose that such simultaneous service would not impair the ability of the member to serve effectively on the corporation's audit committee [NYSE 303A.07(a)].

• Implementation:

Review of audit committee service on other boards should be evaluated when determining members of the audit committee. If members of a company's audit committee sit on more than three audit committees, and in the judgment of the board, their service on such committees would not impair their ability to serve on that company's audit committee, the board should consider adopting a policy that members of its audit committee may sit on a number of audit committees greater than three. However, it should be kept in mind that membership on audit committees of public companies is disclosed in proxy statements, thereby making it easy to track the total number of audit committees on which a director sits. If there is an internal policy that allows for membership on more than three audit committees, the conclusion could be drawn that the company was avoiding disclosure of “excessive” audit committee memberships. It is prudent for the director who sits on more than three audit committees to coordinate with those companies on how the disclosure in their proxy statements will be handled.

The current requirements of the audit committee to review and discuss financial statements and earnings releases, etc., entail extensive time commitments for audit committee members and should be carefully considered when appointing members to the audit committee.

Web-site Posting

• Rule:

It is now required for NYSE-listed companies to include on their Web sites their corporate governance guidelines, committee charters and codes of business conduct and ethics (NYSE 303A.09; 303A.10).

• Implementation:

Well in advance of the required posting dates, corporations should have a system in place to post governance documents and reports on their Web sites. Depending on the internal information technology capabilities of the corporation, the services of an outside vendor may be needed, or alternatively, a link to the SEC Web site is sufficient for those publicly filed reports. If the company uses the SEC link or links to an external site, the use of a disclaimer of the information obtained on the outside linked site should be posted on the company Web site.

Director Orientation and Continuing Education

• Rule:

Companies are required to address in their corporate governance guidelines their policy regarding director orientation and continuing education (NYSE 303A.09).

• Implementation:

The topic of continuing education for directors is often a delicate one and most directors have strong feelings on the matter. For example, a director who concurrently sits on one or more boards while running a large company may feel that he or she is abreast of current trends in corporate governance, financial disclosure issues and other topics relevant to serving on the board. If board members' locations make it inconvenient for the board to convene easily, it often works best to either bring a continuing education program into the corporation in conjunction with a board meeting or, alternatively, to make directors aware of continuing education programs near their individual location.

(see box below)

- TIPS -

• Staffing/Timing

Once a company has reviewed its staffing needs in the corporate governance area, which may include members of the legal, controller's, financial reporting and internal audit groups, it is time to sit down with a blank calendar for the upcoming year and a list of due dates for the company's regulatory filings, annual shareholder meeting matters as well as new implementation dates for compliance with recently adopted SEC and NYSE rules. Given the new SEC accelerated filing dates and information garnering required to comply with new disclosure rules, it is imperative to begin this process as far in advance of these filing dates as possible.

• Board and Committee Calendars and Agendas

The calendars and agendas for the board of directors' and board committees' meetings should also be reviewed carefully to ensure they mesh with timely approvals and recommendations to meet upcoming disclosure deadlines (eg, review and determination of the financial expert(s) on the audit committee, adoption of required charters and corporate governance guidelines in advance of the proxy statement printing deadline).

Directors' and Officers' Questionnaires

Obtaining information from officers and directors has typically been done yearly by companies through the use of questionnaires sent to executive officers and directors prior to the preparation of annual disclosure documents (D&O Questionnaires). The questions often tracked items required to be disclosed under Regulation S-K under the Securities Act of 1933 and the Securities Exchange Act of 1934. The D&O Questionnaire is the opportunity for the company to ask the questions of the directors necessary to obtain information needed for disclosure under new NYSE and SEC rules. Be sure to revisit and revise your D&O Questionnaire carefully to include all questions that will give you the answers needed to provide the new required disclosure and the information needed for your company to be a corporation with solid corporate governance.