Annual Update for Form 10-K and Proxy Statement Preparation - Charges, Mortgages, Indemnities

By Edward S. Best, James B. Carlson, Robert E. Curley, Scott J. Davis, Jeffrey I. Gordon, Robert A. Helman, Michael L. Hermsen, James J. Junewicz, Kenneth E. Kohler, Philip J. Niehoff, Elizabeth Raymond, Laura D. Richman, David A. Schuette, Frederick B. Thomas, Mark R. Uhrynuk and James R. Walther

The Sarbanes-Oxley Act of 2002, the Securities and Exchange Commission's adoption of implementing regulations for that legislation and the SEC’s pursuit of its own initiatives have resulted in numerous changes in the required disclosures for publicly traded companies in the United States and for foreign companies that have securities listed or traded in the United States.

This Securities Update summarizes the changes in disclosure requirements over the past year-many of which have only recently become effective-that companies must comply with in preparing this year’s Form 10-K Annual Report and annual meeting proxy statement. This Update is intended to serve as a checklist of items to be considered or complied with rather than a complete description of the items listed. We have included references to the relevant SEC regulations and adopting releases, as well as to the Securities Updates that we have circulated to our clients and friends on these subjects. All of these materials are available on our website at http://www.mayerbrownrowe.com/sarbanesoxley/. If you receive this Update electronically, you may also simply click on the embedded links to go directly to the cited material.

A table summarizing the new requirements and indicating which of them apply to small business issuers and to foreign private issuers is included as Attachment A to this Securities Update.

General Form 10-K Changes
Cover Page - Accelerated Filer Status

The SEC has amended its regulations under the Securities Exchange Act of 1934 (the "Exchange Act") to accelerate the time schedules for filing annual reports on Form 10-K and quarterly reports on Form 10-Q, from 90 to 60 days after year-end for Form 10-K and from 45 days to 35 days after quarter-end, respectively. See SEC Release No. 34-46464 (September 5, 2002) and SEC Release No. 34-45741 (April 12, 2002)(proposing release). The new time frames will apply only to U.S. domestic reporting companies that have a public float of $75 million or more, have been subject to the Exchange Act’s reporting requirements for at least 12 calendar months and have filed at least one annual report with the SEC (referred to as "accelerated filers") and will be phased in over a three-year period. A new "check the box" disclosure has been added to the cover page of Form 10-K to indicate whether the filing company meets the criteria for designation as an "accelerated filer." Also, the dollar amount of the company’s "public float" of common stock that is required to be stated on the cover page must be as of the end of the company’s second fiscal quarter. The first reduction in the filing period for an accelerated filer will begin with a Form 10-K for its first fiscal year ending on or after December 15, 2003 and thus will not affect the filing deadline for a Form 10-K covering calendar year 2002, which will be March 31, 2003. The check-the-box disclosure is nonetheless required on the cover page of this year’s Form 10-K.

Further information regarding the accelerated filing requirements is provided in our Securities Update, dated September 12, 2002 ("Accelerated SEC Periodic Reporting Requirements").

Item 1-Website Availability of Information

Under a new disclosure requirement adopted by the SEC in connection with its accelerated filing requirements, the business description required by Item 1 of Form 10-K for accelerated filers now must include the filing company’s Internet address, if it has one. All other filing companies are "encouraged" by the SEC to include this information. In addition, accelerated filers must state whether they make their Exchange Act reports (Forms 10-K, 10-Q, 8-K and amendments to each) available free of charge on or through their websites as soon as reasonably practicable after they are filed with the SEC and, if not, why not. The SEC’s disclosure instruction notes that not having an Internet website is, where applicable, a possible response to this question. Accelerated filers that do not make their Exchange Act reports available on a website free of charge as soon as reasonably practical after filing with the SEC must also state whether they will voluntarily provide electronic or paper copies of their filings free of charge on request. The relevant disclosure requirements are set forth in Regulation S-K, Item 101(e)(3) and (4). Further information on these requirements may be found in the SEC releases and our Securities Update cited in Paragraph 1 above.

Item 12-Shareholder Approved and Other

Stock Plans Table

A new tabular disclosure is required in Item 12 of Form 10-K ("Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters"). The new table, which must be in the following format specified in Regulation S-K, Item 201(d), is intended to indicate the extent to which the filing company has equity compensation plans or arrangements that have not been approved by its shareholders:

	(a)	(b)	(c)
Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights	Weighted-average exercise price of outstanding options, warrants and rights	Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
Equity compensation plans approved by security holders
Equity compensation plans not approved by security holders
Total

This disclosure requirement was adopted by the SEC in 2001, but with a phase-in provision under which 2003 is the first year that most companies must include this table in their annual disclosures. See SEC Release No. 34-45189 (December 21, 2001) and SEC Release No. 34-43892 (January 26, 2001) (proposing release).

The table is required to be included in Item 12 of each year’s Form 10-K. It is required in proxy statements only if shareholder action is proposed to be taken with respect to a stock compensation plan at the shareholders meeting to which the proxy statement relates. If included in an annual meeting proxy statement, the tabular presentation can be incorporated by reference into Item 12 of the company’s Form 10-K, so long as the proxy statement is filed within 120 days after the filing company’s year-end. See General Instruction G. (3) to Form 10-K.

Item 14-Controls and Procedures

New Item 14 ("Controls and Procedures") has been added to Part III of Form 10-K. Item 14 requires disclosure of the conclusions of the filing company’s principal executive officer and principal financial officer about the effectiveness of the filing company’s "disclosure controls and procedures." The term "disclosure controls and procedures" is defined by the SEC as controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in its Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC'’s rules and forms. The terms includes controls and procedures designed to ensure that information required to be disclosed in those reports is accumulated and communicated to the issuer’s management, including its principal executive and financial officers, as appropriate to allow timely decisions regarding required disclosure. Disclosure must also be made as to whether there have been any significant changes in the filing company’s internal accounting controls or in other factors that could significantly affect its disclosure controls and procedures subsequent to the date of their evaluation, including any corrective actions taken with regard to any significant deficiencies or material weaknesses that have been identified. Since this new disclosure is to be in Part III of Form 10-K, the disclosure requirement may be satisfied by incorporation by reference from the filing company’s annual meeting proxy statement for those companies who voluntarily include this information in the proxy statement, so long as the proxy statement is filed with the SEC not later than 120 days after the end of the year covered by the Form 10-K. Further information concerning the SEC’s new concept of "disclosure controls and procedures" is provided in our Securities Updates cited in Paragraph 5 immediately below.

The SEC’s specific disclosure requirements are contained in new Item 309 of Regulation S-K. Further information is provided in SEC Release No. 34- 47235 (January 23, 2003) and SEC Release No. 34-46300 (August 2, 2002 (proposing release), and in our Securities Updates referred to in the following paragraph.

Certifications

The Sarbanes-Oxley Act requires two separate certifications of reports on Form 10-K and 10-Q, one under the jurisdiction of the SEC (Sarbanes-Oxley Act Section 302) and one under the jurisdiction of the Department of Justice (Sarbanes-Oxley Act Section 906). These separate certification requirements are described in our Securities Updates dated July 15, 2002 ("Certification of Disclosure and Enhanced Reporting Procedures"), September 4, 2002 ("SEC Adopts Rules Implementing Sarbanes-Oxley CEO/CFO Certification and Internal Controls Requirements"), and September 25, 2002 ("Suggested Disclosure Controls and Procedures").

Developments with respect to these certifications to date may be summarized as follows:

(a) Combination. Although the staffs of the SEC and the Department of Justice have discussed the possibility of combining the two certifications, no action has been taken in this regard to date.

(b) Placement. The SEC resolved the initial controversy concerning where and how the Section 302 certifications should be made with respect to an Exchange Act filing by specifying that the Section 302 certifications are to be placed immediately after the signatures of the signing officers and directors, rather than as an exhibit to the filing or as a separately submitted document (there were proponents of both of these latter alternatives).

See SEC Release No. 34-46427 (August 29, 2002). There is no official statement of where or how the Section 906 certifications are to be made. The SEC states that it has no authority in the matter and the Department of Justice has issued no official guidance. It appears that the majority of filing companies include their Section 906 certifications under the Exhibit "99.__" designation for the relevant Form 10-Q or 10-K filing, although some continue to submit their Section 906 certifications to the SEC separately from the related Exchange Act filing and then "furnish" (rather than "file") the certifications under Form 8-K, Item 9. See our September 4, 2002 Securities Update cited above for a further discussion of the alternatives.

(c) Required Content of Certifications. The SEC has proposed to change the required content of the Section 302 certification in several respects. The proposed changes would include the addition of certifications regarding the filing company’s internal financial controls and procedures, as required by Sarbanes-Oxley Act Section 404, and requiring that the testing of the filing company’s "disclosure controls and procedures" be as of the end of the fiscal period reported on, rather than as of a date within 90 days of the fiscal period end (as the regulation currently provides). See SEC Release No. 34-46701 (October 22, 2002).

Management’s Discussion and Analysis of Financial Condition and Results of Operation

The SEC staff has emphasized in recent months the central importance that it places on the MD&A discussion in annual reports. As articulated by the staff, MD&A should be used to describe to investors the company’s financial condition and operations as seen through the eyes of management. It should provide important information that is necessary to understand the company’s financial statements and the company’s operations and financial condition that are not provided by financial statements prepared in accordance with GAAP (to fill in the "gaps in GAAP" as SEC staff members have phrased it). In particular, the SEC staff has emphasized that MD&A should include discussions of currently known uncertainties and trends that may affect future results of operations and financial condition. The staff further emphasizes that MD&A should discuss in detail the company’s sources and uses of liquidity and capital, including any uncertainties or risks relating to the continuing availability of liquidity and capital in the amounts required by the company’s business plans.

The SEC has adopted detailed new requirements that are relevant to the preparation of MD&A, but with deferred effective dates that will result in the new requirements not being applicable to calendar year companies in this annual disclosure season. The new requirements, which are described in Part IV of this Securities Update, should nonetheless be considered in preparing the MD&A portion of this year’s Form 10-K since they reflect developing trends and the SEC’s current thinking.

The following paragraphs summarize the SEC’s new rules on public dissemination of non-GAAP financial measures and prior SEC guidance on the preparation of MD&A that has continuing relevance for filing

companies.

Use of Non-GAAP Financial Measures (New Regulation G; Amendment of Regulation S-K, Item 10)

Sarbanes-Oxley Act Section 401(b) directed the SEC to adopt rules requiring that public disclosures of financial information that is not calculated in accordance with generally accepted accounting principles (referred to in the Sarbanes-Oxley Act as "pro forma financial information," but referred to in the new SEC regulations as "non-GAAP financial measures") be presented in a manner that (a) is not false or misleading, and (b) reconciles the non-GAAP financial measure presented with the company’s financial condition and results of operations as determined under GAAP. Examples of non-GAAP financial measures include "adjusted," "normalized" or "core" earnings (i.e., historical GAAP earnings recalculated to eliminate items that are asserted to be nonrecurring or otherwise not appropriate to consider when assessing a company’s performance or earning power).

To implement the requirements of Section 401(b) of the Sarbanes-Oxley Act , the SEC has adopted new Regulation G governing all public uses of non-GAAP financial measures (including press releases, analyst’s presentations and the like) on or after March 28, 2003 and amended Item 10 of Regulation S-K to provide additional guidance for the use of non-GAAP financial measures in filings on Form 10-K or Form 10-Q made after March 28, 2003. In addition, the SEC amended Form 8-K to require that press releases or written announcements made after March 28, 2003 disclosing material nonpublic information about completed annual or quarterly fiscal periods (such as earnings releases) be "furnished" to the SEC under new Item 12, whether or not they contain non-GAAP financial measures. See SEC Release No. 34-47226 (January 22, 2003) and SEC Release No. 33- 8144 (November 4, 2002) (proposing release). The SEC’s new rules are described in our Securities Update dated February 19, 2003 ("SEC Adopts Rules on Use of Non-GAAP Financial Information and Earnings Releases").

Under Regulation G, whenever a subject company, or a person acting on its behalf, publicly discloses (in a press release, SEC filing or otherwise) numerical measures of financial performance, financial position or cash flows that include or exclude amounts that are included in the most directly comparable measure calculated in accordance with GAAP, the company must provide (a) a presentation of the most directly comparable financial measure calculated and presented in accordance with GAAP and (b) a reconciliation of the differences between the non-GAAP financial measure presented and the most directly comparable financial measure calculated in accordance with GAAP.

Under Item 10 of Regulation S-K, whenever a subject company includes non-GAAP financial measures of the type covered by Regulation G in an SEC filing, the company must provide, in addition to the information required by Regulation G, a statement as to why the non-GAAP financial information provides useful information to investors and, to the extent material, a statement as to the additional purposes, if any, for which the company’s management uses the non-GAAP financial information that are not otherwise disclosed. In addition, Item 10 prohibits certain types and uses of non-GAAP financial measures.

General SEC Guidance on Preparation of MD&A

The SEC issued general guidance on the preparation of MD&A in Securities Act Release No. 34-8056 (January 22, 2002) ("Commission’s Statement About Management’s Discussion and Analysis of Financial Condition and Results of Operation") covering the subjects of (a) liquidity and capital resources, including off-balance sheet arrangements, (b) non-exchange traded contracts accounted for at fair value and (c) the effects of transactions with related and other parties. While portions of this release have been superseded by the more specific disclosures required by subsequent SEC rule amendments, the discussion in the release contains helpful general guidance which should be considered in the preparation of MD&A.

In the release, the SEC emphasized that its existing MD&A disclosure rules require mandatory disclosure where there is a known trend or uncertainty that is reasonably likely to have a material effect on a company’s financial condition or results of operations. Accordingly, the SEC stated, MD&A should begin with management’s identification and evaluation of information that is important to providing investors and others an accurate understanding of the company’s current and prospective financial position and operating results. This includes potential future effects of known trends, commitments, events and uncertainties. In this connection, management should determine whether known trends, demands, commitments, events or uncertainties are reasonably likely to occur. If management cannot conclude that they are not reasonably likely to occur then management must objectively evaluate the consequences of their possible occurrence and must make disclosures in MD&A regarding their possible future effects unless management determines that a material effect on the company’s financial condition or results of operations is not likely to occur.

The SEC stated that management should consider the following:

Provisions in financial guarantees or commitments, debt or lease agreements or other arrangements that may trigger a requirement for an early payment, additional collateral support, changes in terms, acceleration of maturity or the creation of additional financial obligations, such as adverse changes in credit rating, financial ratios, earnings, cash flows or stock price, or changes in the value of underlying, linked or indexed assets.
Circumstances that could impair a company’s ability to engage in transactions that have been integral to historical operations or that are financially or operationally essential, or that could render that activity commercially impracticable, such as the inability to maintain a specified investment grade credit rating, level of earnings, earnings per share, financial ratios, or collateral.
Factors specific to a company and its markets that the company expects to be given significant weight in the determination of the company’s credit rating or that will otherwise affect the company’s ability to raise short-term and long-term financing.
Guarantees of debt or other commitments to third parties.
Written options on non-financial assets, such as real estate puts.

With respect to the effects of transactions with related parties and certain other parties, the SEC stated that a company should consider whether investors would better understand the company’s financial statements if MD&A included descriptions of all material transactions involving related persons or entities, with a clear discussion of arrangements that may involve transaction terms or other aspects that differ from those which would likely be negotiated with clearly independent parties. The discussion would include the elements of the transactions that are necessary for an understanding of the transactions’ business purpose and economic substance, their effects on the company’s financial statements, and the special risks or contingencies arising from the transactions. The discussion should also include how transaction prices were determined by the parties, any on-going contractual or other commitments resulting from the arrangement and, if the company’s disclosure represents that the transactions have been evaluated for fairness, a description of how the fairness evaluation was made.

The SEC also stated in the release that companies should consider the need for similar disclosure about parties who are not included in the definition of "related parties" but with whom the company or its related parties have a relationship which enables such parties to negotiate terms of material transactions that may not be available from other, more clearly independent, parties on an arms-length basis. The SEC cited entities established and operated by former senior management of the company or persons who have some other current or former relationship with the company as an example of persons that are not technically "related parties" but about whom disclosures should be considered. The SEC stated that the foregoing disclosures should be considered in addition to the requirements of Statement of Financial Accounting Standards No. 57 ("Related Parties Disclosures") and Item 404 of Regulation S-K.

Proxy Statement Disclosure Changes

New disclosure requirements, and proposed new disclosure requirements, for proxy statements are described herein under "Shareholder Approved and Other Stock Plans Table" and "Fees Paid to Auditors." In addition, filing companies may want to consider expanding their proxy statement discussion of corporate governance policies, including the matters that would be required under the NYSE proposals described below under "New York Stock Exchange Corporate Governance Proposals."

Disclosure Changes Proposed, But Not Effective For This Proxy Season
SEC Disclosure Rule Amendments with Deferred Compliance Dates and Proposed Amendments

Disclosure in MD&A of Off-Balance Sheet Arrangements, Contractual Obligations and Contingent Liabilities and Commitments

Section 401 of the Sarbanes-Oxley Act required the SEC to issue rules providing that annual and quarterly financial reports filed with the SEC must disclose all material off-balance sheet arrangements and otherrelationships of the issuer with unconsolidated entities or other persons that may have a material current or future effects on the issuer’s financial condition, changes in financial condition, results of operations, liquidity, capital expenditures, capital resources, or significant components of revenues or expenses.

The SEC has complied with this requirement by adding Paragraph (a)(4) ("Off-Balance Sheet Arrangements") to Item 303 of Regulation S-K, which specifies the required content of MD&A. The SEC has also added Paragraph (c)(2) to Item 303 requiring a new tabular disclosure in MD&A of all material contractual obligations of the filing company. See SEC Release No. 34-47264 (January 27 2003) and SEC Release No. 34-46767(November 4, 2002) (proposing release).

The disclosure requirements regarding off-balance sheet arrangements must be complied with for annual reports, proxy statements (if they are required to include financial statements) and registration statements for fiscal periods ending on or after June 15, 2003, while filing companies (other than small business issuers) must include the new required table of contractual obligations in such filed documents for fiscal years ending after December 15, 2003. These disclosure requirements, however, parallel in most respects prior SEC guidance on what MD&A discussions should contain (including the SEC release described in Part II above under "General SEC Guidance on Preparation of MD&A"). Accordingly, companies should consider following the new disclosure requirements prior to the stated compliance dates. In addition, the SEC stated in the adopting release for these off-balance sheet disclosure requirements that its prior guidance remains in effect and that the SEC "assumes" filing companies will continue to follow that guidance until the new rules apply to them.

The new disclosures regarding off-balance sheet arrangements are required to be set forth in a separately captioned section of MD&A, whereas the new tabular disclosure of contractual commitments may be included in any portion of MD&A that the filing company chooses.

The off-balance sheet arrangement disclosure will apply to transactions, agreements or other contractual arrangements involving an entity that is not consolidated with the filing company under which the filing company, whether or not a party to the arrangement, has or in the future may have: .

Any obligation under a direct or indirect guarantee or similar arrangement;
A retained or contingent interest in assets transferred to an unconsolidated entity or similar arrangement;
Derivatives, to the extent that their fair value is not fully reflected as a liability or asset in the financial statements; or
Any obligation or liability, including a contingent obligation or liability, to the extent that it is not fully reflected in the financial statements (excluding the financial statement footnotes).

The SEC points out that not all arrangements that are generally referred to as "off-balance sheet arrangements" will be covered by its new disclosure requirements. For example, securitizations of accounts receivable or other financial assets in which the filing company does not provide any recourse or liquidity support to the special purpose entity used in the off-balance sheet arrangement would not be covered by the new disclosure requirement.

If an off-balance sheet arrangement is material in the period reported on or may be material in future periods, the filing company will be required to provide the following information regarding the arrangement:

The nature and business purpose of the off-balance sheet arrangements.
The importance of the off-balance sheet arrangements to the filing company in respect of its liquidity, capital resources, market risk support, credit risk support or other benefits.
The amounts of revenues, expenses and cash flows of the registrant arising from such arrangements; the nature and amounts of any interests retained, securities issued and other indebtedness incurred by the filing company in connection with such arrangements; and the nature and amounts of any other obligations or liabilities (including contingent obligations or liabilities) of the filing company arising from such arrangements that are, or are reasonably likely to become, material and the triggering events or circumstances that could cause them to arise.
Any known event, demand, commitment, trend or uncertainty that will result in, or is reasonably likely to result in, the termination or material reduction in availability to the filing company of its off-balance sheet arrangements that provide material benefits to it, and the course of action that the filing company has taken or proposes to take in response to any such circumstances.

The new tabular disclosure regarding contractual obligations is required to be in the format set forth below. Filing companies will be allowed to disaggregate the specified categories of obligations indicated in the following table by using other categories that they deem suitable for their business, but the table will be required to include all of the obligations that fall within the specified categories. The table will be required to be accompanied by footnotes to the extent necessary to describe provisions that create, increase or accelerate obligations or other pertinent data.

The SEC had proposed that filing companies also be required to disclose, either in tabular format or in text, the expected amount, range of amounts or maximum amount of contingent liabilities or commitments that they expect to expire in less than one year, between one and three years, between three and five years and after five years. The SEC decided not to include this requirement in the final rule.

The final rule includes a safe harbor from private litigation liability provision for forward-looking information that is provided in response to the new disclosure requirements. The safe harbor provision is based on the safe harbor protections provided by Sections 27A of the Securities Exchange Act of 1933 and 21E of the Exchange Act.

Paymends due by period

Contractual Obligations	Total	Less than 1 year	1-3 years	3-5 years	More than 5 years
Long-Term Debt
Capital Lease Obligations
Operating Lease Obligations
Purchase Obligations
Other Long-Term Liabilities Reflected on the Registrant's Balance Sheet under GAAP
Total

Code of Ethics for CEO and Senior Financial Officers

Effective for annual reports for fiscal years ending on or after July 15, 2003, the disclosures required by Item 10 of Form 10-K ("Directors and Executive Officers of the Registrant") have been expanded to include disclosure of (a) whether the filing company has adopted a written code of ethics that applies to the company’s principal executive officer, principal financial officer, principal accounting officer, controller and persons performing similar functions and (b) if the company has not adopted such a code of ethics, the reason it has not done so. In addition, the code of ethics, if the company has adopted one, will be required to be filed as an exhibit (Exhibit 14) to its Form 10-K. Lastly, any change made to or waiver of any provision of the code of ethics will be required to be reported within five business days under new Item 10 of Form 8-K, or on the company’s website if the company has stated in its most recent Form 10-K that it will disclose any such changes to or waivers of its code of ethics on its website and has included its website address in its Form 10-K.

If a company chooses to use its website for the above disclosures, it must post the required information within the same five-business day period that is required for a Form 8-K filing reporting such information and must retain the information on its website for at least the following 12 months (and must maintain the availability of the information to the SEC and its staff for a total of five years).

The SEC’s specific disclosure requirements are set forth in new Item 406 of Regulation S-K. See SEC Release No. 34-47235 (January 23, 2003); SEC Release No. 34-46701 (October 2, 2002) (proposing release). The disclosure requirements are discussed in further detail in our Securities Update dated January 29, 2003 ("Disclosure of Codes of Ethics for Senior Officers").

Identification of Audit Committee Financial Expert

Effective for annual reports for fiscal years ending after July 15, 2003, filing companies must disclose in new Item 15 of Form 10-K ("Audit Committee Financial Experts") (a) whether the company has at least one person serving on its audit committee that the board of directors has determined to be an "audit committee financial expert", (b) the name of that person and (c) whether the person is "independent" as that term is used in Exchange Act Section 10A(m)(3). If the filing company does not have any financial expert serving on its Audit Committee, it must explain why it does not. If the company has more than one audit committee financial expert serving on its audit committee the SEC’s new disclosure rule states that the company may, but need not, name all of them, although it seems unlikely in most cases that the qualifying directors involved (or at least the one selected for disclosure) would be comfortable with only one being named. See SEC Release No. 34-47235 (January 27, 2003) and SEC Release No. 34-46701 (October 2, 2002) (proposing release). Further information regarding this disclosure requirement, including the definition of the term "audit committee financial expert," is provided in our Securities Update dated January 29, 2003 ("SEC Adopts Final Rules Requiring Disclosure of Audit Committee Financial Experts Pursuant to the Sarbanes-Oxley Act").

Fees Paid to Auditors

As part of a series of rule changes intended to strengthen the SEC’s requirements regarding auditor independence, the SEC has revised its required disclosures regarding fees paid to a filing company’s audit firm. Under the amended rules, fees paid to audit firms must be segregated and disclosed in the following four categories: audit fees; audit-related fees; tax fees; and all other fees. In addition, information must be provided for the preceding two fiscal years rather than solely for the most recent fiscal year, the information must be included in a company’s Form 10-K, under Part III, new Item 16 ("Principal Accountant Fees and Services"), as well as in its proxy statement, and the disclosure must include a description of the pre-approval policies and procedures of the company’s audit committee with respect to both audit and nonaudit services. The disclosure must also include a description, in qualitative terms, of the types of services provided under each of the categories other than "audit fees." See SEC Release No. 34-47265 (January 28, 2003) and SEC Release No. 34-46934 (December 2, 2002) (proposing release).

Compliance with these new disclosure requirements will be required commencing with the annual filings for a company’s first fiscal year ended after December 15, 2003. The SEC stated in its adopting release, however, that it encourages early adoption of the requirements by those companies who have not yet made their periodic annual filings.

In categorizing fees paid to audit firms, all services performed to comply with generally accepted auditing standards will be required to be classified as fees for "audit services," as well as all other fees for services that normally would be provided by an accountant in connection with statutory and regulatory filings or engagements. This category also includes fees for services that generally only the independent accountant can reasonably provide, such as comfort letters, statutory audits, attest services, consents and assistance with and review of documents filed with the SEC.

"Audit-related fees" are to include assurance and related services that traditionally are performed by a company’s independent public account. Examples of these fees are: employment benefit plan audits; due diligence related to mergers and acquisitions; accounting consultations and audits in connection with acquisitions; internal reviews; attest services that are not required by statute or regulation; and consultation concerning financial accounting and reporting standards.

"Tax fees" are to include fees for review of the filing company’s tax returns and its financial statement tax reserves. More generally, the SEC states that this category includes the services performed by professional staff in the independent accountant’s tax division other than those services that are related to the audit and may properly be included under "audit fees." Tax fees will include fees for: tax compliance, tax planning and tax advice, including fees for preparation of original and amended tax returns, claims for refund and tax payment-planning services; assistance with tax audits and appeals; tax advice related to mergers and acquisitions, employee benefit plans and requests for rulings or technical advice from taxing authorities.

Critical Accounting Policies

In May, 2002, the SEC issued proposed new disclosure requirements relating to the application by filing companies of what it termed "critical accounting policies." See SEC Release No. 34-45907 (May 10, 2002) ("Disclosure In Management’s Discussion And Analysis About The Application Of Critical Accounting Policies"). This rule proposal followed and amplified upon guidance previously issued by the SEC on this subject in SEC Release No. 34-45149 ("Cautionary Advice Regarding Disclosure About Critical Accounting Policies").

Release No. 45149 expressed the SEC’s concern that even technically accurate applications of GAAP "may nonetheless fail to communicate important information if it is not accompanied by appropriate and clear analytic disclosures to facilitate an investor’s understanding." The Release stated that companies should be careful to make investors aware of the sensitivity of their financial statements to the methods, assumptions and estimates underlying their preparation. In this connection, the SEC stated that filing companies should comply with the following standards:

Each company’s management and auditors should bring particular focus to the evaluation of the critical accounting policies used in the company’s financial statements.
Management should ensure that its disclosure in MD&A is balanced and fully responsive.
Companies should explain in MD&A the effects of the critical accounting policies applied by the company, the judgments made in their application and the likelihood of materially different reported results if different assumptions or conditions were to prevail.
Prior to the filing of annual reports on Form 10-K, audit committees should review the selection, application and disclosure of the filing company’s critical accounting policies. In this connection, audit committees should be apprised of the evaluative criteria used by management in their selection of the company’s accounting principles and methods and there should be "proactive discussions" between the audit committee and the company’s senior management and auditor about the company’s critical accounting policies.
If companies, management, audit committees or auditors are uncertain about the application of specific GAAP principals, theyshould consult with the SEC’s accounting staff.

The SEC’s new disclosure rules regarding critical accounting policies proposed in Release No. 34- 45907, which have not yet been adopted in final form, would require disclosures regarding (a) accounting estimates that a company makes in applying its accounting policies and (b) the initial adoption by a company of an accounting policy that has a material impact on the company’s financial presentation.

A company would be required to identify the accounting estimates reflected in its financial statements with respect to which the company made assumptions about matters that were highly uncertain at the time of estimation. Further disclosure would be required about those estimates if different estimates that the company could reasonably have used in the current period, or changes in the accounting estimates that are reasonably likely to occur from period to period, would have a material impact on the presentation of the company’s financial condition, changes in financial condition or results in operations. The company would be required to disclose for each of the critical accounting estimates that it identifies: the methodology and assumptions underlying them; the effect the related accounting estimates have on the company’s financial presentation; and the effect of changes in those estimates.

With respect to newly adopted accounting policies, a company would be required to disclose: what gave rise to the initial adoption; the impact of the adoption; the accounting principle adopted and the method of applying it; and the choices it had among accounting principles.

The SEC’s proposing release provides helpful guidance regarding the SEC’s views on this subject. For example, the proposing release states that the SEC expects that "very few" companies would have no critical accounting estimates and that the vast majority of companies would have between three and five types of critical accounting estimates that should be discussed in MD&A. In this connection, the SEC states that companies should take care to limit their discussion to those accounting estimates that are of greatest importance, stating that investors will not benefit from a lengthy discussion of a multitude of accounting estimates in which the truly critical ones are obscured. The SEC further indicates that it believes disclosure of past changes in critical accounting estimates should be included in MD&A, proposing that companies other than small business issuers would be required to discuss any material changes in accounting estimates during the prior three fiscal years. Small business issuers would be required to discuss any such changes during the prior two fiscal years.

New York Stock Exchange Corporate Governance Proposals

The New York Stock Exchange has proposed a series of changes in its rules affecting the corporate governance and annual disclosure requirements of its listed companies. The NYSE’s proposals, in the form adopted by its Board of Governors on August 1, 2002, are available on the NYSE’s website at http://nyse.com/. These changes cannot become effective until they have been published by the SEC for comment and the SEC thereafter approves them. To date, the SEC has not published the NYSE’s proposed rule changes, other than the NYSE’s proposal relating to shareholder approval requirements for stock compensation plans. In addition, the NYSE’s rule proposal states that most of the proposed rule changes, including all that would affect required annual disclosures for listed companies, will not become effective until six months, or in some cases 24 months, after final SEC approval.

The NYSE’s governance proposals that will affect proxy statements if and when they become effective are as follows:

(a) The basis for the board of directors’ determination that a director’s relationship that might affect the director’s independence is not material (and therefore can be disregarded) would be required to be disclosed in the company’s annual meeting proxy statement.

(b) A listed company’s board of directors would be required to hold regular executive session meetings without management or employee directors
present. In this connection, if a "presiding director" is selected to preside at all such meetings, that director would be required to be identified in the company’s annual meeting proxy statement. If a single presiding director is not selected, the listed company would be required to disclose the procedure by which the presiding directors for individual meetings of the board are chosen. Listed companies would also be required to disclose a method by which shareholders or other interested parties may communicate directly with the presiding director or with the non-management directors as a group.

(c) Listed companies would be required to adopt corporate governance guidelines and to post those guidelines on their websites, along with the charters of their most important board committees (including at least the audit, compensation and nominating committees) and their codes of business conduct and ethics (which would also be required under the NYSE rules). The companies’ annual reports would be required to state that the foregoing information is available on the companies' websites and that the information is available in print to any shareholder who requests it. Listed companies would also be required to make prompt disclosure to stockholders of any waiver of the code of business conduct and ethics in any individual case.

ATTACHMENT A

New Requirements	Compliance Date	Application to Small Business Issuers (Form 10-KSB)	Application to Foreign Private Issuers (Form 20-F)	Application to Canadian Issuers (Form 40-F)
Accelerated Filer Status (check the box)	Form 10-K for fiscal years ending on or after December 15, 2002	No Applicable	Not Applicable	Not Applicable
Website Address	Form 10-K for fiscal years ending on or after December 15, 2002	Not Applicable	Not Applicable	Not Applicable
Shareholder Approved and Other Stock Plans Table	Form 10-K and Form 10-KSB for fiscal years ending on or after March 15, 2002; Proxy statements for meetings occurring on or after June 15, 2002	√ Items 201(d) and 601(b)(10) of Regulation S-B Item 11 of Form 10-KSB	Not Applicable	Not Applicable
Controls and Procedures	August 29, 2002	√ Item 309 of Regulation S-B	√ Item 15(b) of Form 20-F	√ Instruction B(8) to Form 40-F
CEO and CFO Certifications	August 29, 2002	√ Item 307 of Regulation S-B Item 14 of Form 10-KSB	√ Instruction B(E) to Form 20-F and Item 15 of Form 20-F	√ Instruction B(6) to Form 40-F

New Requirements	Compliance Date	Application to Small Business Issuers (Form 10-KSB)	Application to Foreign Private Issuers (Form 20-F)	Application to Canadian Issuers (Form 40-F)
Non-GAAP Financial Measures	March 28, 2003	√ Item 10 of Regulation S-B	√ Item 8 of Form 20-F	Not Applicable
General Guidance on MD&A	January 22, 2002	√ Item 303 of Regulation S-B	√ Item 5 of Form 20-F	Not Applicable
Fees Paid to Auditors	Form 10-K, Form 10-KSB, Form 20-F and Form 40-F for fiscal years ending after December 15, 2003. Earlier compliance is encouraged by the SEC	√ Item 16 of Form 10-KSB	√ Item 16C of Form 20-F	√ Instruction B(10) to Form 40-F
Off-Balance Sheet Arrangements	Textual disclosures in documents that are required to include financial statements for fiscal years ending on or after June 15, 2003. Tabular disclosures in documents that are required to include financial statements for fiscal years ending on or after December 15, 2003.	√ Item 303 of Regulation S-B	√ Item 5 of Form 20-F	√ Instruction B(11) to Form 40-F

New Requirements	Compliance Date	Application to Small Business Issuers (Form 10-KSB)	Application to Foreign Private Issuers (Form 20-F)	Application to Canadian Issuers (Form 40-F)
Code of Ethics	Form 10-K, Form 10-KSB, Form 20-F and Form 40-F for fiscal years ending on or after July 15, 2003	√ Item 406 of Regulation S-B	√ Item 16(b) of Form 20-F	√ Instruction B(9) to Form 40-F
Audit Committee Financial Expert	Form 10-K, Form 10-KSB, Form 20-F and Form 40-F for fiscal years ending on or after July 15, 2003	√ Item 401(e) of Regulation S-B	√ Item 16(a) of Form 20-F	√ Not Applicable
Critical Accounting Policies	Guidance effective December 12, 2001. Rule proposals pending at SEC.	√ Item 303(b) of Regulation S-B	√ Item 5 to Form 20-F	Not Applicable
NYSE Corporate Governance Proposals	Pending at SEC

Copyright © 2007, Mayer, Brown, Rowe & Maw LLP. and/or Mayer Brown International LLP. This Mayer Brown article provides information and comments on legal issues and developments of interest. The foregoing is not a comprehensive treatment of the subject matter covered and is not intended to provide legal advice. Readers should seek specific legal advice before taking any action with respect to the matters discussed herein.

Mayer Brown is a combination of two limited liability partnerships: one named Mayer Brown LLP, established in Illinois, USA; and one named Mayer Brown International LLP, incorporated in England.

United States: Annual Update for Form 10-K and Proxy Statement Preparation

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