MEMORANDUM
3500 SunTrust Plaza, 303 Peachtree Street, N.E.  Atlanta, Georgia 30308-3242  (404) 521-3939
Facsimile: (404) 581-8330
Audit Committee Financial Experts and Code of Ethics
The Sarbanes-Oxley Act directs the SEC to adopt rules to require disclosure of whether
public companies have a financial expert on their audit committees (Section 407) and whether
they have adopted a code of ethics for their senior financial officers (Section 406). This
memorandum summarizes the provisions of these rules. If you have any questions on these
rules, please feel free to call Lizanne Thomas at (404) 581-8411.
The SEC published final rules with respect to these sections on January 23, 2003, which
will be effective for fiscal years ending on or after July 15, 2003. The disclosure required by the
rules will be included in the annual report on Form 10-K. Alternatively, companies that choose
to include these disclosures in their proxy statement may incorporate the disclosures by reference
into their annual report on Form 10-K if they file their proxy statement with the SEC no later
than 120 days after the end of their fiscal year. These disclosures are as of the date the annual
report on Form 10-K or proxy statement was filed with the SEC.
Audit Committee Financial Experts
Companies with fiscal years ending on or after July 15, 2003 (other than small business
issuers) must disclose whether they have an “audit committee financial expert” on their audit
committees and, if so, the name of the individual and whether that individual is independent
from management. If a company does not have an “audit committee financial expert,” it must
disclose the reasons why it does not. Companies may not satisfy the new disclosure requirement
by stating that they decided not to make the determination or by only disclosing the
qualifications of their audit committee members.
Since companies with fiscal years ending December 31 are now approaching their annual
meeting and preparing to elect new directors, their boards of directors should begin to consider
whether there is a member of the audit committee (or a member of the board of directors that is
not currently serving on the audit committee) who would qualify as an “audit committee
financial expert” and whether that individual is independent under the applicable definition. If a
company does not currently have such a person on its board, it needs to decide whether one
should be recruited or be prepared to disclose that the company does not have an “audit
committee financial expert” and explain why it has no such expert.
In the final rules, the SEC expanded the range of experiences that would satisfy the
definition of the “audit committee financial expert” from the range of experiences originally
proposed by the SEC. Under the final rules, individuals with each of the following attributes
would satisfy the standards:
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an understanding of financial statements and GAAP;

the ability to assess the application of such principles in accounting for estimates,
accruals and reserves;

experience preparing, auditing, analyzing or evaluating generally comparable
financial statements;

an understanding of internal controls and procedures for financial reporting; and

an understanding of audit committee functions.
There is an important change from the proposed rules regarding the method by which appropriate
experience may be obtained. In addition to satisfying the standards through education and
experience as a chief financial officer, accounting officer or auditor, an individual can gain this
experience from supervising another person who is engaged in the preparation, auditing or
evaluation of financial statements. It should be noted, however, that the SEC views this method
of meeting the requirement as one of active supervision. Accordingly, the mere fact that a chief
financial officer reports to a chief executive officer on an organization chart would not
necessarily qualify the chief executive officer as an “audit committee financial expert.” In
determining whether an individual qualifies, companies will still need to make a case-by-case
determination for each individual.
One issue on which the SEC elaborated in the final rules is the possible liability of an
“audit committee financial expert.” Many of the more than 200 comment letters the SEC
received regarding the proposed rules had expressed concern regarding an increased duty upon
such an individual, which could expose that individual to increased liability. In an effort to allay
these concerns, the SEC included a safe harbor provision under the federal securities laws under
which an individual designated as an “audit committee financial expert” would not be deemed an
“expert” for any purpose (including Section 11 of the Securities Act) and would not have any
duties or liabilities greater than those imposed on members of an audit committee generally. It is
important to note, however, that this safe harbor provision does not apply to state securities and
corporate laws. While the SEC indicated that it did not believe the designation of a director as
an “audit committee financial expert” would increase that individual’s exposure to liability under
state law, it is entirely possible that state courts will determine that, given the expert’s knowledge
and experience which led to his or her designation as an expert, the individual should be held to a
higher standard of care than a director who does not have a similar background.
It should also be noted that the New York Stock Exchange and the Nasdaq National
Market have proposed rules regarding the composition and responsibilities of audit committees
for companies listed or quoted on those exchanges. For example, both the NYSE and Nasdaq
have proposed to require all members of an audit committee to be independent. While these rule
proposals are still pending SEC approval, any final rules could also affect the requirements for an
audit committee financial expert.
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Code of Ethics
The final rules adopted by the SEC also require that a company disclose in its annual
report on Form 10-K, or its proxy statement, for fiscal years ended after July 15, 2003 whether it
has a code of ethics that applies to its principal executive officer and senior financial officers. If
a company does not have such a code, it must disclose the reasons why it does not. The code of
ethics addressing the matters set forth in the final rules that are applicable to the company’s
principal executive officer and senior financial officers must be made available to the public as
an exhibit to its annual report, on the company’s web site or upon request if the company has
undertaken to provide its code of ethics in its annual report on Form 10-K. Additionally, all
companies (other than foreign private issuers) must disclose all changes to or waivers (including
implicit waivers) of the code of ethics within five business days, to the extent that the change or
waiver applies to the company’s principal executive officer and senior financial officers. This
disclosure can be made on the company’s web site or on Form 8-K. This disclosure is required
for any changes or waivers occurring after the date on which the company files its first annual
report on Form 10-K in which their code of ethics disclosure is required.
Many companies have already implemented a code of ethics in connection with a
corporate compliance program. An effective compliance program should mitigate the effects of
fines and criminal penalties mandated by the Federal Guidelines for Sentencing of Organizations
established by the U.S. Sentencing Commission, which became effective in 1991. In light of the
SEC's disclosure requirements with respect to codes of ethics, it is a good time for companies to
consider adopting or evaluating and updating compliance programs, in particular whether your
company’s current code of ethics addresses each of the mattes set forth in the final rules. The
actions necessary to implement and maintain an effective compliance program are different for
each company and depend, among other things, on the nature of a company's business, its size
and organizational structure, the number of its officers and employees, and the potential areas of
criminal liability applicable to its business. It is important for a company to customize, and
continuously update once adopted, its compliance program in order for the program to be most
effective. In addition, recent court cases suggest that corporate directors and officers may face
personal liability if they fail to ensure that their organizations have established adequate
compliance programs. We are currently in the process of reviewing various forms of codes of
ethics for public companies. Should you need our assistance in preparing or revising a code of
ethics for your company, please call your regular Jones Day contact.
There have already been a number of issues raised with the regard to a company’s code
of ethics that were not addressed by the SEC’s rules and accompanying release. For example,
some companies include an insider trading policy in their code of ethics which would be
applicable to the chief financial officer and senior financial officers. Many of those insider
trading policies include a window period during which such officers may trade without seeking
preclearance of their proposed trades. If these companies allow their officers to trade outside of
that window, it is likely that a disclosure of that waiver or implicit waiver from the insider
trading policy in the code of ethics would be required. Possible alternatives to this situation
include the elimination of the insider trading policy from the code of ethics or removing the
window during which those officers could trade without seeking preclearance.
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