In response to Enron, WorldCom and other corporate scandals, the White House, SEC, U.S. Senate, House of Representatives, NYSE, and the Nasdaq have all been working to take appropriate action to restore the integrity of and confidence in the public markets. NVCA is involved on all of these fronts to ensure that the reforms attack the deficiencies, but do not throw out the proverbial baby with the bathwater.
The House passed the Corporate and Auditing Accountability, Responsibility, and Transparency Act by a bipartisan vote of 334 to 90 in April. It creates a new oversight body that would certify accountants and have the authority to punish. Companies would be required to disclose information about their financial health more quickly and in plain English. Insiders would be required to inform the SEC on the next business day and the public on the second business day when they sell stock in their own company. Executives would be prohibited from buying or selling company stock during any period where employee retirement participants are unable to buy or sell securities.
The Senate’s bill was passed unanimously on July 15. Like the House legislation, it creates an independent oversight board for auditors. It sets standards for audit committees and for executives, and it imposes penalties and increased jail time when standards are violated. The legislation establishes additional criteria for financial statements and requires enhanced disclosures regarding conflicts of interest. The SEC is directed to adopt rules to improve the independence or research and disclose potential conflicts of interest.
Importantly, despite rancorous debate, both bills are silent on the accounting treatment of employee stock options.
The SEC has issued five significant proposals that would increase and accelerate reporting of financial results, significant accounting policies, trading in company equity securities by insiders and a new regulatory body to oversee the accounting industry.
Perhaps the most aggressive steps toward reform have been undertaken by the NYSE and Nasdaq. The exchanges’ corporate governance initiatives would make significant changes in the composition, role and management of the boards of publicly traded companies. These proposals are subject to change. And even if the initial Nasdaq proposals are adopted in late summer 2002 and the NYSE proposals in fall 2002, the listing requirements are expected to provide for a one- to two-year transition period.
The first and by far the most important standard proposed by the NYSE is the definition of independence for boards of directors. The second requires shareholder approval of all stock options plans.
Both exchanges tighten the definition of independence, but the new Nasdaq definition calls for minor adjustments that should have no impact on our industry. However, under the new and more specific NYSE definition, no director would qualify unless he or she has no material relationship with the listed company. The definition of independence for audit committee purposes, under the NYSE proposal, includes the proviso that a 20% shareholder may not vote or serve as the chair of the audit committee, a rule that may affect some venture capitalists.
Ensuring that venture capitalists continue to qualify as independent directors is critical because the NYSE and Nasdaq would require independence for all who sit on the audit, nominating corporate governance, and compensation committees and a majority of a listed company’s board. The proposed tightening of the concept of director independence would mean that directors once considered independent or unaffiliated for some board purposes may no longer be viewed as independent for NYSE listing standards.
In April, I testified before the Senate Finance Committee in support of a SEC proposal to require shareholder approval for all stock option plans in which officers or directors participate. Likewise, the Nasdaq proposal requires shareholder approval of plans for officers or directors. New director grants would need approval by the compensation committee. The NYSE proposal would require shareholders to approve all equity-compensation plans and any re-pricing of plans.
What most of these reforms have in common is increasing the responsibility of boards. While the apparent lax oversight on the part of some boards has proved to be disastrous, good corporate ethics cannot be mandated. Given the new requirements for directors, in terms of time, responsibilities and qualifications, many companies may have difficulty filling director seats. Thus, the NVCA is concerned about onerous burdens being placed on boards and will continue to advocate for rules that increase public confidence in the capital markets without hobbling the performance of companies.
Mark Heesen is the president of the National Venture Capital Association.