Sabarnes Oaxley Act

THE SARBANES-OXLEY ACT OF 2002 Sweeping Changes to Corporate Governance and the Accounting Industry

On July 25, the U.S. House of Representatives and Senate overwhelming passed H.R. 3763, known as the "Sarbanes-Oxley Act of 2002" (the "Act"). The Act enacted on the 30th of July, the Act applies to all companies that are required to file periodic reports with the Securities and Exchange Commission (the "SEC"). It contains a number of sweeping reforms for issuers of publicly traded securities, auditors, board members and lawyers that follows below:

I. Corporate Responsibility

A. Audit Committees

The Act requires the SEC, within 270 days of the date of its enactment, to direct the national securities exchanges and national securities associations so as to prohibit listing of any security that does not comply with certain Audit Committee requirements.

It shall also be directly responsible for the appointment, compensation and oversight of the work of the registered public accounting firm of the issuer, including the resolution of any disagreements between management and the Auditor regarding financial reporting.

Each member of the Audit Committee must be a member of the board of directors and be "independent." In order to be considered independent, he or she, other than in the member's capacity as a member of the Audit Committee, the board of directors or any other board Committee,

(i) accept any consulting, advisory or other compensatory fee from the issuer or;

(ii) be an affiliated person of the issuer or any subsidiary of the issuer. The SEC may provide for exemptions from the rule.

The Audit Committee establishes procedures for the receipt, retention and treatment of complaints received by the issuer regarding accounting, internal accounting controls or Auditing matters, as well as the confidential, anonymous submission by employees of the issuer of concerns regarding questionable accounting or Auditing matters.

The Audit Committee has the authority to engage independent counsel and other advisers as it determines necessary to carry out its duties.

The issuer is responsible for providing appropriate funding (as determined by the Audit Committee) for payment of compensation to Auditors and to any advisers employed by the Audit Committee.

B. Officers and Directors

The principal executive and financial officer/s of an issuer to certify the following in each annual report (Form 10-K) or quarterly report (Form 10-Q):

- the signing officer has reviewed the report;

-based on the officer's knowledge, the report does not contain neither any untrue statement of a material fact nor omission;

- based on the officer's knowledge, the financial statements, and other financial information in the report fairly present, in all material respects, the financial condition and results of operations of the issuer for the periods presented in the report;

-the signing officers: are responsible for establishing and maintaining internal controls; designing of such internal controls to ensure that material information relating to the issuer and its consolidated subsidiaries is made known to such officers by others within those entities; have evaluated the effectiveness of the issuer's internal controls within 90 days prior to the report; and have presented in the report their conclusions about the effectiveness of the internal controls based on their evaluation as of that date;

- the signing officers have disclosed to the issuer's Auditors and the Audit Committee of the board of directors (or persons fulfilling the equivalent function): all significant deficiencies in the design or operation of internal controls which could adversely affect the issuer's ability to record, process, summarize, and report financial data and have identified for the issuer's Auditors any material weaknesses in internal controls; and any fraud, whether or not material, that involves management or other employees who have a significant role in the issuer's internal controls; and

- the signing officers have indicated in the report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Another certification is required from the chief executive and financial officer to certify in each Form 10-K and Form 10-Q that such report fully complies with the requirements of the Exchange Act and that the information contained in the report fairly represents, in all material respects, the financial condition and results or operations of the issuer.

The Act imposes fines up to $1,000,000 and criminal penalties up to 10 years for making the certification knowing that the periodic report does not comply with the Exchange Act and fines of up to $5,000,000 and criminal penalties of up to 20 years for willfully certifying any periodic report knowing that it does not comply.

The Act makes it unlawful for any officer or director of an issuer or any person acting under their direction, to take any action to fraudulently influence, coerce, manipulate or mislead Auditors.

If an issuer is required to prepare an accounting restatement due to his/her material noncompliance, as a result of the misconduct, the chief executive officer and the chief financial officer of the issuer must reimburse the issuer for

(i) any bonus or other incentive-based or equity-based compensation received by that person from the issuer during the 12-month period following the first public issuance or filing with the SEC (whichever occurs first) of the financial document embodying such financial reporting requirement, and

(ii) any profits realized from the sale of securities of the issuer during that 12-month period. The SEC may provide for exemptions.

The terms "material noncompliance," "misconduct," or "other incentive-based or equity-based compensation" are not defined in the Act. These terms will presumably be defined later by the SEC in rules and regulations.

Subject to certain exceptions, the Act makes it unlawful for any director or executive officer of an issuer of any equity security (other than an exempted security) to purchase, sell or otherwise acquire or transfer any equity security of the issuer (other than an exempted security) during "any pension fund blackout period."

This provision would prohibit directors and officers from trading in the issuer's securities while employees of the issuer are prohibited from trading in issuer's securities in their 401(k) accounts.

C. Attorneys

The Act requires attorneys to report evidence of material violations of securities law or a breach of fiduciary duty or similar violation by the issuer or its agents to the general counsel or chief executive officer of the issuer.

If the general counsel or chief executive officer does not appropriately respond to the evidence, the attorney must report the evidence to the Audit Committee, to another Committee of the company's board of directors composed solely of independent directors or to the board of directors.

II. Accounting Standards and Oversight/Auditor Independence

A. New Public Company Accounting Oversight Board

The Act creates a 5 member regulatory board, organized within 270 days of the date of enactment, with investigative and enforcement powers to oversee the accounting industry and discipline Auditors. The SEC will oversee the accounting oversight board and coordinate with it their investigations.

Its main duties are:

- register public accounting firms that prepare Audit reports for issuers;

- establish or adopt Auditing, quality control, ethics, independence and other standards relating to the preparation of Audit reports;

- conduct inspections of registered public accounting firms;

- conduct investigations and disciplinary proceedings concerning, and impose appropriate sanctions where justified upon, registered public accounting firms and associated persons of such firms;

- perform such other duties or functions as the accounting oversight board (or the SEC, by rule or order) determines are necessary or appropriate to promote high professional standards with respect to Auditors and Audit reports, or to otherwise carry out the Act; and

- enforce compliance with the Act and the rules and regulations issued under the Act.

Only two members of the accounting oversight board may be present or former certified public accountants. If one of those two members is the chairperson of the board, that person may not have been a practicing CPA for at least five years prior to his or her appointment to the board.

Members will serve full-time and may not, concurrent with service on the accounting oversight board, be employed by any other person or engage in any other professional or business activity.

The SEC will appoint the chairperson and other initial members of the accounting oversight board and designate a term of service for each member. The term of service of board members is five years, except the initial members (other than the chairperson) that will have staggered terms (one year, two years, etc.). No member may serve more than two terms.

Members may be removed from the accounting oversight board by the SEC "for good cause" prior to expiration of the term of such member. Vacancies will be filled by same appointment process for the remainder of the term for which the predecessor was appointed.

Auditing Standards - The accounting oversight board shall include in the Auditing standards that it adopts that each registered public accounting firm shall:

- prepare and maintain Audit work papers for a minimum of seven years;

- provide for a concurring or second partner review of such Audit report; and

- describe in each Audit report the scope of the Auditor's testing of the internal control structure and procedures of the issuer.

Accounting Standards – The SEC can recognize accounting standards as "generally accepted" for purposes of the securities laws any accounting principles established by a standard setting body that meets certain standards, including that its members serve in the public interest and are not associated with a registered public accounting firm.

Foreign public accounting firms that prepare audit reports with respect to any issuer are subject to the Act and the rules of the accounting oversight board and the SEC issued thereunder.

The SEC or the Accounting Oversight Board may exempt any foreign public accounting firm, or any class of such firms, from any provision of the Act or the rules of the oversight board or the SEC issued under the Act.

B. Limitation on Non-Audit Services

A registered public accounting firm is prohibited from offering the following types of services to issuers that they also Audit:

- bookkeeping or other services related to the accounting records or financial statements of the Audit client;

- financial information systems design and implementation;

- appraisal or valuation services, fairness opinions or contribution-in-kind reports;

- actuarial services;

- internal Audit outsourcing services;

- management functions or human resources;

- broker or dealer, investment adviser or investment banking services;

- legal services and expert services unrelated to the Audit; and

- any other service that the accounting oversight board determines, by regulation, is impermissible.

The Audit Committee of an issuer must approve in advance in an Form 10-Ks and Form 10-Qs any non-Audit services performed by a registered public accounting firm, including tax services. The registered public accounting firm cannot perform any of the non-Audit services included in the list above even with approval of the Audit Committee. There are certain de minimus exceptions for non-Audit services.

The Audit Committee of an issuer may delegate to one or more designated members of the Audit Committee the authority to grant required advance approvals.

The prohibition against non-Audit services begins 180 days after the date of commencement of operations of the accounting oversight board, which is to commence operations no longer than 270 days after the 30th of July.

C. Audit Partner Rotation

The Act requires registered public accounting firms to change the Audit and review partners for an issuer every five years.

D. Reports to Audit Committees

The Act requires registered public accounting firms to timely report to the Audit Committee of an issuer:

- all critical accounting policies and practices to be used;

- all alternative treatments of financial information within GAAP that have been discussed with management of the issuer, ramifications of the use of such alternative disclosures and treatments, and the treatment preferred by the Auditor; and

- other material written communications between the Auditor and management of the issuer.

E. Certain Prohibitions on Hiring Employees of Auditor

A registered public accounting firm cannot perform Audit services if the issuer's chief executive officer, controller, chief financial officer, chief accounting officer or any person in an equivalent position was employed by the registered public accounting firm during the one-year period preceding the date of initiation of the Audit.

F. Study of Mandatory Rotation of Auditors

The Comptroller General of the United States is to conduct a study and review of the potential effects of requiring the mandatory rotation of Auditors and submit a report on same to the Senate Committee on Banking, Housing, and Urban Affairs and the House Committee on Financial Services not later than one year following enactment of the Act. "Mandatory rotation" refers to the imposition of a limit on the period of years in which a particular Auditor may be the Auditor of record for a particular issuer.

III. Enhanced Financial Disclosures

A. Disclosure

The Act amends Section 16 of the Exchange Act to require 10% beneficial owners, directors and officers to file the statements required by Section 16:

- at the time of registration of a security on a national securities exchange or by the effective date of a registration statement filed pursuant to Section 12(g),

- within 10 days after he or she becomes a 10% beneficial owner, director or officer; and if there has been a change in ownership involving the security, before the end of the second business day following the day on which the subject transaction has been executed or at such other time as the SEC shall establish by rule if the SEC determines that the two-day rule is not feasible.

Such statements will eventually be required to be filed electronically and made available on the issuer's corporate website.

The Act requires companies to disclose in plain English as quickly as possible ("on a rapid and current basis") material changes in their financial condition and other significant company news. Disclosures may include trend and qualitative information and graphic presentations, as the SEC determines by rule.

Within 180 days of enactment, the SEC shall issue rules requiring quarterly and annual financial reports filed with the SEC to disclose all material off-balance sheet transactions, arrangements, obligations (including contingent obligations), and other relationships of the issuer with unconsolidated entities or other persons that may have a material current or future effect on the issuer's financial condition, results of operations, liquidity, capital expenditures, capital resources or significant components of revenues or expenses.

Within 180 days of enactment of the Act, the SEC is to issue rules providing that pro forma financial information included in any report filed with the SEC or in any public disclosure or press release shall be presented in a manner that does not contain an untrue statement of a material fact or omit to state a material fact necessary to make the financial information not misleading. Such pro forma financial information must be reconciled with the financial condition and results of operations of the issuer under GAAP.

The SEC issues rules requiring annual reports made pursuant to Section 13 of the Exchange Act to include an internal control report describing the responsibility of management for establishing and maintaining an adequate internal control structure and procedures for financial reporting and assessing the effectiveness of the structure and procedures. The Auditors will be required to attest to and report on such assessment. (Note: Currently proposed rules of the SEC would also require internal control reports to be included in reports made pursuant to Section 15 of the Exchange Act.).

The Act requires issuers to disclose whether the Audit Committee includes one person who is a "financial expert." A "financial expert" is a person who has, through education and experience as a public accountant or Auditor or a principal financial officer, comptroller or principal accounting officer of an issuer or from a position involving the performance of similar functions:

- an understanding of GAAP and financial statements;

- experience in the preparation or Auditing of financial statements of generally comparable issuers;

- the application of such principles in connection with accounting for estimates, accruals, and reserves;

- experience with internal accounting controls; and

- an understanding of Audit Committee functions.

B. Code of Ethics

The Act requires each issuer to disclose whether (and if not, why not) it has adopted a code of ethics for senior financial officers.

Issuers are required to file a Form 8-K to disclose any change in the code of ethics or any waiver of the code of ethics.

The Act defines a code of ethics to mean standards that are reasonably necessary to promote:

- honest and ethical conduct, including the handling of actual or apparent conflicts of interests between personal and professional relationships;

- full, fair, accurate, timely and understandable disclosure; and

- compliance with governmental rules and regulations.

The Act requires finalize rules within 180 days after the date of enactment.

C. Corporate Loans

Subject to certain limited exceptions, the Act makes it unlawful for any issuer, directly or indirectly, including through any subsidiary, to grant loans to directors or officers that are not available to outsiders.

This provision does not apply to loans existing on the date of enactment of the Act, provided that there is no material modification to any term of any such loan or any renewal of any such loan on or after the date of enactment of the Act.

D. SEC Review of Periodic Reports

The Act requires the SEC to review public filings (Form 10-K) no less frequently than once every three years.

IV. Securities Regulation

A. Research Analysts

The Act prohibits Wall Street investment firms from retaliating against research analysts who criticize investment banking clients of the firm.

B. Civil Lawsuits

The Act lengthens the time that investors have to file lawsuits against corporations for securities fraud to five years from the date of the questionable conduct, or two years from the discovery of the conduct, whichever is earliest.

C. Whistle-Blowers

The Act establishes for corporate whistle-blowers broad new protections, including making it easier for them to prove their cases in court.

The Act allows corporate whistle-blowers to file lawsuits seeking compensatory damages if their employer retaliates against them.

V. Criminal Penalties

A. Obstruction of Justice

The Act broadens the definition of document destruction and doubles maximum prison sentences, in some cases setting them at up to 20 years.

B. Fraud

The Act makes it a crime to engage in any "scheme or artifice" to defraud investors/shareholders. Punishment includes fines and not more than 25 years in prison.

The Act raises the maximum sentence for defrauding pension funds to 10 years in prison.

C. Bankruptcy Protection

The Act provides that a person who has outstanding judgments against them for (i) securities law violations or (ii) common law fraud, deceit or manipulation in connection with the purchase or sale of any security may not discharge such obligation in a bankruptcy proceeding.