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Commissioner Glassman Addresses Corporate Governance

The fundamental role of corporate governance has become even more critical, according to SEC Commissioner Cynthia Glassman. Commissioner Glassman spoke at the joint regional fall conference of the Fairfield-Westchester, Hartford, Eastern New England, Middle Atlantic and New York chapters of the American Society of Corporate Secretaries.

With the enactment of the Sarbanes-Oxley Act and the SEC's governance reforms, the overriding principle is that "governance matters," in the Commissioner's view. Good governance tends to steer corporate decisions in the right direction, while bad governance leads to or enables bad decisions. Ms. Glassman went on to explain that those who act on behalf of a corporation must be its conscience. The Sarbanes-Oxley Act and the new SEC regulations are designed to ensure that corporate officers, directors and employees give life to the corporate conscience.

Management Responsibility

Initially, the new reform act makes it clear that a company's senior officers are responsible for the culture they create and must follow the same rules they provide for other employees. Even if senior managers did not knowingly participate in some of the recent scandals, they at least had a " serious moral failure" in not being aware of and not being able to prevent the environment in which far-reaching violations were possible. Since "awareness must precede action," the Sarbanes-Oxley Act and the SEC rules require the CEO and the board to ensure that procedures are in place for transmitting adverse news or corporate problems to top management.

Consequently, explained Commissioner Glassman, SEC rules now call for procedures to ensure that all material information reaches those who are responsible for reporting it to the investing public. Further, the CEO must be careful to create an environment in which senior officials are not afraid to discuss or act on misconduct that comes to their attention. Thus, the Sarbanes-Oxley Act protects employees who bring fraud to the attention of someone who is responsible for dealing with it.

Corporate Responsibility Officers

Commissioner Glassman recommended that companies have a corporate responsibility officer who would be charged with responsibility for corporate compliance and ethics issues. While this position is not specifically required, the commissioner feels that it is absolutely essential. A corporate responsibility officer, suggested the commissioner, should have 1) sufficient seniority and authority, 2) the full support of the CEO and senior management, 3) the ability to report directly to the board and 4) sufficient time and adequate resources to effectively implement the company's corporate responsibility program.

Audit Committees

When it comes to the audit committee, Ms. Glassman noted that the Sarbanes-Oxley Act suggests appropriately high standards for financial literacy and expertise, whose exact standards the SEC will take up in the near future. Beyond the strict regulatory requirements, audit committee members need to be inquisitive, with a " healthy skepticism" and the ability to pursue issues until they receive adequate information to make an informed judgment. This is particularly true, she noted, if management or auditors have a real or potential conflict of interest. Under the new regulatory regime, senior officers must assess the company's controls and certify that they have disclosed any significant deficiencies to the audit committee. Thus, it is advisable for the head of internal audit to have a direct, effective line of communication to the audit committee. Further, in light of the audit committee's new powers and responsibilities, the board should review the audit committee charter to make sure that it adequately details the company's expectations regarding the audit committee's role.

Costs of Governance

In response to questions about the costs of recent governance reforms, Commissioner Glassman suggested that "if it is the responsibility of management and the board to maximize long-term shareholder value, companies that cut corners on compliance fail in this regard by jeopardizing the long-term profitability, and ultimately the viability, of the company." In her view, controls to safeguard a company's reputation are just as essential as locks on the warehouse to protect its inventory. Further, the lack of meaningful governance procedures can cause a company to pay a significant risk premium when competing for capital in the public markets. In a recent survey, three-fourths of institutional investors were willing to pay a substantial premium for stock in companies that have good governance practices, and more than 60 percent might avoid investing in certain companies based on governance concerns. An increasing number of analyst reports have also explicitly altered investment recommendations based on the strength or weakness of a company's corporate governance infrastructure.

In addition, one factor the SEC considers in agency enforcement decisions is whether the company took seriously its duty to detect fraud. A company has a much better chance of receiving leniency if it can show that it has met its obligation to implement good procedures. In short, said Commissioner Glassman, if you are looking for leniency you had better be able to show that you cared about preventing corporate misconduct before you discover that it occurred. In conclusion, Ms. Glassman expressed her hope that the extensive governance reforms that are being adopted will provide an opportunity for companies to engage in real self-examination and learning regarding what it takes to be a good corporate citizen.