United States: SEC Approves Adoption of Rules Relating to Attorney Ethics and Proxy Voting:

Co-authored by Ashley Wakefield

Rules Define Standards of Professional Conduct for Attorneys and Impose Requirements Relating to Proxy Voting by Investment Companies and Investment Advisers

Today, the United States Securities and Exchange Commission ("SEC") approved the adoption of rules: (1) defining standards of professional conduct for attorneys, including a rule requiring attorneys to report evidence of misconduct "up the ladder" to an issuer's chief executive officer, general counsel and board of directors; and (2) imposing disclosure and other requirements relating to proxy voting by investment companies (including mutual funds) and investment advisors. The SEC also modified, and extended the comment period for, an additional proposal relating to "noisy withdrawal" by attorneys. The discussion below highlights significant changes to the proposed rules, as explained at the meeting. It may not reflect nuances that appear in the official text of the rules, which we expect the SEC to post on its website shortly.

The rules regarding attorney standards of conduct, which implement Section 307 of the Sarbanes-Oxley Act of 2002, were proposed on November 21, 2002. The following points were discussed at today's meeting:

• Persons Covered. The rules will apply to attorneys "appearing and practicing" before the SEC in the representation of issuers, but the proposed definition of "appearing and practicing" has been narrowed significantly. Under the final rules, a covered attorney is one who provides legal services to an issuer and has an attorney-client relationship with that issuer. In addition, if the representation involves preparing or reviewing documents to be filed with or submitted to the SEC, the attorney must have notice that such documents will be filed with or submitted to the SEC. The rules also provide an exclusion for "non-appearing foreign attorneys" who do not render advice with respect to United States law or who seek advice from counsel in the United States.
• Evidence of Material Violation. The rules set forth an objective standard for what types of evidence will trigger an attorney's obligation to report "up the ladder" to the CEO, general counsel and board of directors. Under the rules, an attorney's reporting obligation will be triggered only if he or she has "credible evidence" based upon which it would be unreasonable for a prudent and competent attorney not to conclude that it is "reasonably likely" that a material violation has occurred, is occurring or is about to occur.
• Noisy Withdrawal. The proposed "noisy withdrawal" provisions, which would have required attorneys to withdraw and notify the SEC if an issuer failed to "appropriately respond" to evidence of misconduct, were not adopted at today's meeting. Instead, the SEC decided to modify these provisions and extend the comment period for an additional 60 days. The modified proposal may narrow the circumstances in which attorneys will be required to withdraw from representation and will provide an alternative to the "noisy withdrawal" requirement. Under the alternative, it appears that the issuer (not the attorney) would be required to disclose on Form 8-K, 20-F or 40-F, within two business days, a notification by one of its attorneys of his or her withdrawal for professional considerations.
• Documentation. The final rules do not include the proposed documentation provisions, which would have required reporting attorneys and issuers to preserve records of all attorney reports and issuer responses.
  
• State Ethics Rules. The SEC staff stated that the rules are not intended to preempt state ethics rules that contain "more rigorous" reporting requirements, so long as the state rules do not conflict with the SEC rules. State ethics rules with less rigorous or conflicting reporting requirements will be preempted by the SEC rules.
• Private Liability. The final rule release is expected to indicate that the rules are not intended to provide for a private cause of action against attorneys or issuers. In addition, the SEC staff stated that a director who serves on a Qualified Legal Compliance Committee will not be subject to a higher standard of liability than directors generally.
• Transition Period. Issuers will have 180 days from publication of the rules in the Federal Register to comply. During this period, the SEC may amend or supplement the rules in light of additional comments received in the 60-day extended comment period on the "noisy withdrawal" provisions.

The rules regarding proxy voting by investment companies (including mutual funds) were proposed on September 20, 2002. The following points were discussed at today's meeting:

• Availability of Disclosure. Investment companies must disclose that information relating to their proxy voting policies and their proxy voting record is available on the SEC's website and either: (1) without charge, upon request, by calling a specified toll-free or collect telephone number; or (2) on the investment company's website. The proposed rules would have required an investment company to make such information available upon request and on the company's website.
• Disclosure of Proxy Voting Record. Investment companies will be required to disclose their proxy voting records on an annual, rather than semi-annual, basis. This disclosure must be made on Form N-PX on August 31 of each year, covering the 12-month period ending June 30. The disclosure should: (1) identify the matter covered by each proposal submitted for a vote; (2) state whether the proposal was introduced by the issuer's management or by a shareholder; (3) state how the investment company voted; and (4) state whether the investment company's vote was for or against management's position. In a departure from the proposed rules, the final rules will not require an investment company to disclose when its votes were inconsistent with the company's proxy voting policies and procedures.

The rules regarding proxy voting by investment advisers were proposed on September 20, 2002.. The following points were discussed at today's meeting:

• Conflicts of Interest. In addition to the disclosures required by the proposed rules, an investment adviser will be required to disclose how the adviser intends to handle material conflicts of interest that may arise between the adviser's interests and the interests of the adviser's clients with respect to proxy voting.
• Record Retention. The proposed rules have been modified to permit investment advisers to rely on the SEC's electronic record-keeping system and on proxy voting services to maintain records concerning proxy voting on the advisers' behalf.