SEC Proposes Rules Prescribing Standards of Professional Conduct for Attorneys Pursuant to the Sarbanes-Oxley Act
On November 21, 2002, following the dictates of Section 307 of the Sarbanes-Oxley Act of 2002, the Securities and Exchange Commission (SEC) issued proposed rules prescribing standards of professional conduct for lawyers who represent issuers before the SEC. The proposed rules would govern in-house and outside counsel, as well as lawyers (including foreign-licensed lawyers) who do not typically interact with the SEC but work on matters that may be incorporated into reports filed with the SEC.
“Up The Ladder” Reporting
The proposed rules require a lawyer who “becomes aware of evidence of a material violation by the issuer” to take steps to report that evidence to representatives of the company. Initially, the reporting lawyer is required to notify the company’s chief legal officer (CLO) or the chief legal officer and chief executive officer (CEO). If the initial report does not yield an adequate and timely response, the reporting lawyer must take the evidence further up the corporate ladder, to the audit committee or to a committee comprised entirely of independent members of the company’s board of directors.
In the event that the reporting lawyer reasonably believes that the company and its officers are not responding to the evidence of a material violation in the manner required by the rules, the lawyer must take steps to withdraw from representing the company before the SEC and to notify the SEC of the withdrawal for “professional considerations.” In addition, the lawyer is obligated to disaffirm any submission to the SEC that the lawyer has prepared or has assisted in preparing that he or she “reasonably believes is or may be materially false or misleading.” For lawyers employed by the company, withdrawal from the representation is not required, but they are required to disaffirm with the SEC any potentially false or misleading submissions.
Qualified Legal Compliance Committee
For companies concerned about the reporting and “noisy withdrawal” procedures, the proposed rules suggest an alternative means for reporting and taking action on potential violations. Issuers may create a qualified legal compliance committee (QLCC) for the purpose of investigating reports of material violations. The QLCC would be authorized to direct the issuer to take action to avoid or correct the reported violation. The reporting lawyer, however, would not be subject to the rule’s “noisy withdrawal” requirements.
Sanctions for Violations
Violations of the standards of professional conduct prescribed by the proposed rules would be subject to prosecution by the SEC "in the same manner as a violation of the Securities Exchange Act of 1934.” Thus, someone who violates the SEC’s professional conduct standards could be subject to all the remedies and sanctions available under the Exchange Act, including injunctions, cease and desist orders, and officer and director bars for lawyers who are officers and directors.
Other sections of the proposed rules address: how lawyers should document their efforts to report violations; when lawyers may disclose client confidences to the SEC without violating lawyer-client privilege; and what obligations apply to supervisory versus subordinate lawyers.
The proposed rules, along with the SEC's introduction and comments, are available at the SEC Web site (www.sec.gov). Interested persons are invited to submit comments to the proposed regulations, which must be received at the SEC on or before December 18, 2002. The SEC is expected to adopt final rules by late January 2003.