July 11, 2005
Compliance 101 -- The Seaboard Report
Previously, I reviewed the Thompson Memo, which sets forth factors that the Department Of
Justice considers in deciding whether to prosecute an organization. Today, I will review the so-
called Seaboard Report, which is the Securities and Exchange Commission’s equivalent document.
The Seaboard Report appears in Exchange Act Release No. 44969, and is entitled, “Report of
Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934 and Commission
Statement on the Relationship of Cooperation to Agency Enforcement Decisions.” The Report
has both a narrow and a broad purpose. First, on the narrow side, it announces that the SEC will
not take enforcement action against a parent company -- Seaboard Corporation -- for accounting
misdeeds at one of its divisions. (Interestingly, though the Release has been dubbed the Seaboard
Report after the parent company that avoided enforcement action, the release nowhere mentions
the Seaboard Corporation by name. You must go to Release No. 44970, which covers enforcement
action against the employee, to discover the parent company’s name.) The Report summarizes
why it chose to give Seaboard Corporation a pass:
We are not taking action against the parent company, given the nature of the conduct and the company's responses. Within a week of learning about the apparent misconduct, the company's internal auditors had conducted a preliminary review and had advised company management who, in turn, advised the Board's audit committee, that Meredith had caused the company's books and records to be inaccurate and its financial reports to be misstated. The full Board was advised and authorized the company to hire an outside law firm to conduct a thorough inquiry. Four days later, Meredith was dismissed, as were two other employees who, in the company's view, had
inadequately supervised Meredith; a day later, the company disclosed publicly and to us that its financial statements would be restated. The price of the company's shares did not decline after the announcement or after the restatement was published. The company pledged and gave complete cooperation to our staff. It provided the staff with all information relevant to the underlying violations. Among other things, the company produced the details of its internal investigation, including notes and transcripts of interviews of Meredith and others; and it did not invoke the attorney-client privilege, work product protection or other privileges or protections with respect to any facts uncovered in the investigation.
The company also strengthened its financial reporting processes to address Meredith's conduct -- developing a detailed closing process for the subsidiary's accounting personnel, consolidating subsidiary accounting functions under a parent company CPA, hiring three new CPAs for the accounting department responsible for preparing the subsidiary's financial statements, redesigning the subsidiary's minimum annual audit requirements, and requiring the parent company's controller to interview and approve all senior accounting personnel in its subsidiaries' reporting processes.
Second, on the broad side, the Report announces factors the Commission (the Report is signed by
three Commissioners) “will consider in determining whether, and how much, to credit
self-policing, self-reporting, remediation and cooperation -- from the extraordinary step of taking
no enforcement action to bringing reduced charges, seeking lighter sanctions, or including
mitigating language in documents we use to announce and resolve enforcement actions.” There
are 13 factors listed, of which one specifically mentions compliance programs:
2. How did the misconduct arise? Is it the result of pressure placed on employees to achieve specific results, or a tone of lawlessness set by those in control of the company? What compliance procedures were in place to prevent the misconduct now uncovered? Why did those procedures fail to stop or inhibit the wrongful conduct?
While the Report does not provide any discussion or sources for evaluating the effectiveness of an organization's compliance program, the Sentencing Guidelines are likely an important standard.
Like the Thompson Memo, several of the Seaboard Report's other factors are related to an effective ethics and compliance program:
1. What is the nature of the misconduct involved? Did it result from inadvertence, honest mistake, simple negligence, reckless or deliberate indifference to indicia of wrongful conduct, willful misconduct or unadorned venality? Were the company's auditors misled?
. . . .
3. Where in the organization did the misconduct occur? How high up in the chain of command was knowledge of, or participation in, the misconduct? Did senior personnel participate in, or turn a blind eye toward, obvious indicia of misconduct? How systemic was the behavior? Is it symptomatic of the way the entity does business, or was it isolated?
4. How long did the misconduct last? Was it a one-quarter, or one-time, event, or did it last several years? In the case of a public company, did the misconduct occur before the company went public? Did it facilitate the company's ability to go public?
. . . .
6. How was the misconduct detected and who uncovered it?
7. How long after discovery of the misconduct did it take to implement an effective response?
8. What steps did the company take upon learning of the misconduct? Did the company
immediately stop the misconduct? Are persons responsible for any misconduct still with the company? If so, are they still in the same positions? Did the company promptly, completely and effectively disclose the existence of the misconduct to the public, to regulators and to self-regulators? Did the company cooperate completely with appropriate regulatory and law enforcement bodies? Did the company identify what additional related misconduct is likely to have occurred? Did the company take steps to identify the extent of damage to investors and other corporate constituencies? Did the company appropriately recompense those adversely affected by the conduct?
9. What processes did the company follow to resolve many of these issues and ferret out necessary information? Were the Audit Committee and the Board of Directors fully informed? If so, when?
10. Did the company commit to learn the truth, fully and expeditiously? Did it do a thorough review of the nature, extent, origins and consequences of the conduct and related behavior? Did management, the Board or committees consisting solely of outside directors oversee the review? Did company employees or outside persons perform the review? If outside persons, had they done other work for the company? Where the review was conducted by outside counsel, had management previously engaged such counsel? Were scope limitations placed on the review? If so, what were they?
. . . .
12. What assurances are there that the conduct is unlikely to recur? Did the company adopt and ensure enforcement of new and more effective internal controls and procedures designed to prevent a recurrence of the misconduct? Did the company provide our staff with sufficient information for it to evaluate the company's measures to correct the situation and ensure that the conduct does not recur?
Here’s a quick rundown on how these factors relate to elements of an effective ethics
and compliance program:
Factors 1 and 3 ask about corporate culture and tone at the top.
Factors 4 through 10 address how the compliance program (1) monitors, audits, and receives
reports of wrongdoing (after all, how else will misconduct be discovered, investigated, and
ended); (2) investigates the upon learning of the misconduct; and (3) corrects misconduct
confirmed by the investigation.
Factor 12 asks whether the organization learned from the misconduct by modifying the
compliance program (when necessary) to better detect and prevent similar misconduct.
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Tracked on Jul 13, 2005 2:13:49 AM