THE SARBANES-OXLEY ACT: AVOIDING JAIL TIME

Ways to Get in Deep Trouble under SOX • Enhanced criminal liability for document destruction • Liability for retaliation against informants • Liability for signing false certifications

THE SARBANES-OXLEY ACT:

AVOIDING JAIL TIME

Presented to:

Society of International Business Fellows

Atlanta, Georgia January 28, 2004

Presented by:

Robert F Dow, Esq.

(404) 873-8706 Robert.Dow@agg.com

Arnall Golden Gregory LLP

2800 One Atlantic Center

1201 West Peachtree Street Atlanta, Georgia 30309

Ways to Get in Deep Trouble

under SOX

• Enhanced criminal liability for document destruction

• Liability for retaliation against informants

• Liability for signing false certifications (public co.’s)

• Notice of defined contribution plan blackout periods

• Enhanced penalties for securities fraud

• Enhanced liability for white-collar crime

• Improper influence on auditors (public co.’s)

DOCUMENT DESTRUCTION

Document Destruction

• Knowingly destroy

• Any records/documents

• With intent to impede

• Any investigation or case

- or in contemplation of a case

SOX Section 802 expands criminal liability for document destruction:

Document Destruction

(cont’d)

Destruction, alteration, or falsification of

records in Federal investigations and

bankruptcy

Whoever knowingly alters, destroys, mutilates,

conceals, covers up, falsifies, or makes a false entry

in any record, document, or tangible object with the intent to impede, obstruct, or influence the

investigation or proper administration of any matter within the jurisdiction of any department or agency of the United States or any case filed under title 11

[bankruptcy], or in relation to or contemplation of any such matter or case, shall be fined under this title,

imprisoned not more than 20 years, or both.

Tampering with Evidence

– to provide that whoever corruptly alters, destroys, mutilates or conceals a record, document or other object, or attempts to do so, with the intent to

impair the object’s integrity or availability for use in

an official [federal agency or judicial] proceeding,

or who otherwise obstructs any official proceeding,

or attempts to do so, shall be fined under Title 18

or imprisoned not more than 20 years, or both

Section 802 amends 18 U.S.C §1102 – titled

“Tampering with a Record or Otherwise

Impeding an Official Proceeding”

Tampering with Evidence (cont’d)

1. Any accountant who conducts an audit of an

issuer of securities to which section 10A(a)

of the Securities Exchange Act of 1934

applies, shall maintain all audit or review

workpapers for a period of 5 years from the end of the fiscal period in which the audit or review was concluded

SOX 802 also creates another new statute, 18 U.S.C § 1520, entitled “Destruction of

corporate audit records,” which provides that:

Recent Enforcement Actions –

Ernst & Young/Next Card

• NextCard under examination by banking

regulators

• Ernst & Young partner orders altering of

workpapers to show more support for

accounting

• Also destroyed emails and documents from hard drive

• Two Ernst & Young managers barred from

practicing before SEC

• Partner faces criminal charges with up to 20

years and $250,000 in fines

SECURITIES FRAUD

1. To defraud any person in connection with

any security of an issuer with a class of

securities registered under section 12 of the Exchange Act or that is required to file reports under section 15(d) of the

Exchange Act; or

SOX 807 creates a new general securities

fraud statute, 18 U.S.C § 1348, entitled

“Securities fraud,” which provides that:

Whoever knowingly executes, or attempts to execute, a scheme or artifice -

2 To obtain, by means of false or fraudulent

pretenses, representations, or promises, any money or property in connection with the

purchase or sale of any security of an issuer with a class of securities registered under

section 12 of the Exchange Act or that is

required to file reports under section 15 (d) of the Exchange Act;

shall be fined under this title, or imprisoned not more than 25 years, or both.

CIVIL LIABILITY WHISTLEBLOWER

PROVISIONS

SOX Whistleblower Provisions

• Civil remedies for retaliation against

employees reporting securities fraud to

company supervisors, law enforcement or

Congress (Section 806)

• Criminal remedies for retaliation against

informants reporting violations of any federal law to law enforcement (Section 1107)

Section 806 Who is Potentially Liable?

Section 806 What Actions are Protected

• Providing information or otherwise assisting in an investigation OR

• Filing, testifying, participating in or otherwise

assisting in a proceeding that is

 Filed or

 About to be filed (with any knowledge of the employer)

Section 806 What Investigations are

Covered

Investigations involving violations of:

• Federal criminal law involving securities fraud, mail fraud, bank fraud, or wire, radio and television fraud

• SEC rules or regulations, or

• Federal law relating to fraud against shareholders

Section 806 Blowing the Whistle – To Whom?

• Federal regulatory or law enforcement agency

• Any member or committee of Congress

• Persons working for the employer:

 Supervisory authority over employee

 Authority to investigate, discover or terminate

misconduct

Murray v TXU Corp et al

(Texas – April 2003)

Allegations in Murray’s complaint:

• Murray was SVP of Capital Management

• TXU had aggressive earnings targets

• CFO engaged in “earnings management”

• TXU didn’t disclose exposures in trading markets

• Murray made numerous objections to management

• Murray was terminated 8/1/02

Collins v Beazer Homes (Georgia – March 2003)

Allegations in Collins’ complaint:

• Beazer was taking deposits on homes but

misapplying the funds for other purposes

• Collins suspected that Beazer division

management was receiving kickbacks from a

contractor

• Collins complained to corporate management

• Division management immediately terminated her

Section 1107 CRIMINAL WHISTLEBLOWER

PENALTIES

Section 1107 Criminal Penalties – Overview

• Very broad application

• Applies to public and private companies

• Whistleblowing of violations of any federal law

• Employers and their agents may face:

 Fines up to $500,000 ($250,000 for

individuals)

 Imprisonment up to 10 years

Section 1107 Who is Protected?

Any person!!

Section 1107 What Action is Protected?

• Providing to a law enforcement officer

• Any truthful information relating to

• The commission or possible commission

• Of any federal offense

Section 1107 What Retaliation is Prohibited?

• Any harmful action (!)

• Including [but not limited to!] interference with:

 Lawful employment

 Livelihood

Federal Sentencing Guidelines Reward

“Effective Compliance Program”

• Compliance standards and procedures reasonably

capable of reducing the prospect of criminal activity

• Oversight by high-level personnel

• Due care in delegating substantial discretionary

authority

• Effective communication to all levels of employees

Federal Sentencing Guidelines

• Reasonable steps to respond to and prevent

further similar offenses upon detection of a

violation

LIABILITY FOR SIGNING FALSE CERTIFICATIONS

CEO/CFO Certification

• Two separate CEO/CFO certifications for

periodic reports – Section 302 and Section 906

• Both sections require the CEO and CFO to include a certification for each annual or

quarterly report of the issuer

• Section 906 imposes criminal sanctions

• Section 302 is a civil provision implemented

by SEC regulations issued in August 2002

SOX 906 Criminal Liability

The periodic report containing the financial statements fully complies with the requirements of the Securities

Exchange Act and that information contained in the

periodic report fairly presents, in all material respects, the financial condition and results of operations of the issuer.

Must certify:

Penalties:

False: 10 years/$1M

Willful: 20 years/$5M

SOX 302 Certification

• Financial and other information included in the report

• The establishment, maintenance and

evaluation of disclosure controls and

Source: Deloitte & Touche Survey of Consumer Business Companies, November 2002

Recent Enforcement Actions –

SEC v David

• Irving Paul David was CFO of one investment fund and controller of another related fund

(Smith Barney World Fund)

• David embezzled a total of $47k from two funds

• David signed a certification stating he had

disclosed to the auditors and audit committee any fraud, whether material or not, involving management

• U.S Attorney charged him with embezzlement

• SEC charged him for false certification

Recent Enforcement Actions –

Legato Systems

• Legato recorded income when customer

(Logicon) not committed to pay

• Side letter:

 Logicon has right to cancel

 Cancellation provision omitted from

purchase order “because of impact on revenue recognition”

• SEC charges its CFO and two sales executives

• SEC also charges Logicon’s VP of sales with aiding and abetting

ENHANCED LIABILITY AND

CRIMINAL PROVISIONS

Statute of Limitations for

Securities Fraud

• Section 804 amends 28 U.S.C 1658 by

adding subsection (b), which extends the

statute of limitations for private rights of

action involving claims of fraud, deceit,

manipulation or contrivance in contravention

of a regulatory requirement concerning the securities laws, to the earlier of (i) 2 years

[formerly 1 year] after discovery of the facts constituting the violation or (ii) 5 years after such violation [formerly 3 years]

Penalty Enhancements

• Section 902 creates new Section 1349,

Attempt and Conspiracy, to Title 18 of the U.S Code, providing that those persons who attempt or conspire to commit certain fraud offenses will be subject to the same

penalties as those prescribed for the offense

• Section 903 increases the maximum

penalties for mail and wire fraud from five years to 20 years’ imprisonment

Penalty Enhancements

(cont’ d)

• Section 904 increases the criminal penalties for ERISA violations from one year to 10 years

imprisonment and up to $500,000 in fines

• Section 1106 amends Section 32(a) of the

Exchange Act to raise the maximum individual penalties from $1 million and 10 years’

imprisonment to $5 million and 20 years’

imprisonment, and to raise the maximum

corporate fine from $2.5 million to $25 million

Improper Influence

On Auditors

Improper Influence on Auditors

• To issue a report that is not warranted in the

circumstances

• Not to perform procedures required by GAAS

• Not to withdraw a report

• Not to communicate with AC

New SEC rules say that officers may not

fraudulently influence, coerce, manipulate or mislead an independent auditor:

What is Improper Influence?

• Offering or paying bribes or other financial incentives, including offering future employment

• Providing an auditor with inaccurate or misleading legal analysis

• Threatening to cancel existing non-audit or audit

engagements if the auditor objects to the issuer’s

accounting

• Seeking to have a partner removed from the audit

engagement because the partner objects to the issuer’s accounting

• Blackmailing, and

• Making physical threats

SEC says the following may be improper influence:

Section 306 ERISA BLACKOUT

PROVISIONS

Blackout Notices

• Administrative Information

 Final regulations issued by DOL on January

24, 2003

 Regulations are effective for Blackout

Periods beginning on or after January 26, 2003

Blackout Notices

(cont’d)

• “Blackout Period” Defined

Any period of more than three

consecutive business days during which the ability of participants or

beneficiaries in an individual account plan

to direct or diversify assets credited to

their accounts or to obtain loans or

distributions from the plan is temporarily

suspended, limited, or restricted.

Blackout Notices

(cont’d)

• Typical Blackout Period Scenarios

 Change in service providers (e.g.,

Blackout Notices

(cont’d)

• Content of Notice

 Reason(s) for the Blackout Period

 Identification of the investments and/or rights

affected by the Blackout Period

 Expected beginning and ending dates for the

Blackout Period (specific dates or calendar

weeks)

 If investments are affected, a statement advising evaluation of appropriateness of current

investment decisions in light of inability to direct

or diversify during Blackout Period

 Name, address, and phone number of contact

person/department for questions

 Notice must be written so that it can be understood by the average participant

 DOL has provided a model notice

• Not required, but its use satisfies certain safe harbors

Blackout Notices

(cont’d)

• Form and Distribution of Notice

 In writing

 Distributed to affected participants and beneficiaries

in any manner permitted under ERISA (including

electronic media)

 Must be mailed (or sent electronically) by the

distribution deadline (need not be received by the deadline)

 Must be sent to the participants’ or beneficiaries’ last known addresses

Blackout Notices

(cont’d)

timely Blackout Notices

or beneficiary

could have been properly filed and ends on the date the Blackout Period ends

administrator