Sep 26 2003

SHELBY SPEAKS AT CAPITAL MARKETS RESEARCH CENTER 15TH ANNIVERSARY

Thank you for the invitation to participate in this forum. The timing and topic of this discussion could not be more appropriate. Improving corporate governance and restoring investor confidence has been an important over-arching theme in the Banking Committee’s agenda during my tenure as Chairman. This is a natural progression from last year, with the passage of the Sarbanes-Oxley Act in late July. I am proud to say that the Banking Committee has continued to operate in bipartisan fashion, free of much of the divisive politics that has characterized the discourse of late. On Tuesday of this week, we were able to unanimously pass out of Committee three key pieces of legislation, including a bill addressing the expiring provisions of the Fair Credit Reporting Act. It is clear that there is a deep and underlying belief that the Banking Committee must continue to do everything in it’s power to ensure the integrity of our capital markets, and thereby, rebuild investor confidence in our capital markets. Beginning with our confirmation of William Donaldson to head the SEC and continuing with our ongoing hearings on the “Global Settlement”, the implementation of Sarbanes-Oxley and the state of the financial services industry, we have aggressively pursued an agenda of oversight that we hope will translate into renewed faith in our capital markets.

While oversight can be tedious, and is certainly not glamorous, it does serve two essential purposes. I have learned in my two decades-plus in Congress the vital importance of regulatory oversight. First, it enables Congress to ascertain that the regulatory structure that we create operates properly. We must ensure that laws remain relevant and that they are functioning to achieve important goals like investor protection without stifling innovation. Second, Congressional oversight “ups the ante” for regulated industries. Public scrutiny turns heads, and infuses the regulatory process with clout, and thereby makes regulation more effective.

With respect to corporate governance and restoring investor confidence, no law has had a greater impact than the Sarbanes-Oxley Act. Passed in response to continuing revelations of corporate greed and misconduct, this landmark legislation has completely reshaped the landscape for public companies, accounting firms, regulators, and investors. While the law is still in its infancy, the Banking Committee has begun its oversight of the law’s implementation, how it has changed the tone in boardrooms throughout America and how we best navigate our course forward as we concentrate our energies on improving corporate governance. I believe that we have made a tremendous amount of progress in the fourteen months since the passage of the Sarbanes-Oxley Act, but there is much more work yet to be done.

I believe that legislative oversight is particularly important during the implementation of major new regulatory schemes, such as that created by the Sarbanes-Oxley Act. When the Congressional Committee process is operating as it should, a problem will instigate a thorough deliberative process of hearings, legislation and oversight.

In 2001, as the tech bubble burst and the economy struggled in recession, the market’s heady gains of the late 1990s seemingly disappeared overnight. As the markets gave back the gains of the tech boom, a number of giant companies collapsed under their own weight as their stock values plummeted. Companies that had once been hailed as innovators turned out to be little more than houses of cards, propped up by unrealistic market valuations that in turn resulted from opaque financials and governance structures that often crossed the line into criminality.

This was the situation that Congress faced in 2002. Congress responded with the Sarbanes-Oxley Act, which the President signed into law on July 30, 2002. The law has been described as the most sweeping reform of the federal securities laws since the Great Depression. It mandates a number of significant changes in how corporate America operates, and how it reports the results of its operations. Sarbanes-Oxley included: New federally-mandated corporate governance standards; New responsibilities for Senior Management, and new civil and criminal penalties for failure to meet these responsibilities; Disclosure and attestation requirements intended to empower investors with important information of reliable quality and accuracy; and a new regulatory regime for the accounting professions, including the creation of the Public Company Accounting Oversight Board, which will provide auditors of public companies with independent oversight for the first time.

These components collectively form the foundation of the Sarbanes-Oxley Act, but they also resonate on a deeper level as guiding principles behind the Banking Committee’s work to restore investor confidence. I would like to take a moment to briefly discuss some of these reforms, and then focus on how the new law addresses corporate governance and fundamental change in the boardroom.

With new requirements regarding financial statement certifications, auditor independence and lawyer reporting, the Act ensures that corporate executives are accountable for their decisions. The Act recognizes the respective roles that principal executive offices, lawyers and accounting firms play in the operation and oversight of a public company. By requiring these participants to stand behind their decisions and determinations, accountability at the top clears the smoke as to who is ultimately responsible. From a governance perspective, it is our hope to change the “tone at the top”, as well as the substance.

Increased transparency is another important goal of the Sarbanes-Oxley Act. If an investor is willing to place both their faith and savings in the future of a company, they are entitled to the highest level of certainty that the information on which they rely is accurate and has been subjected to the highest level of scrutiny. The Act seeks to improve transparency by requiring a range of new disclosures, including whether there is a financial expert on the audit committee and additional information regarding certain financial disclosures. It also mandates that companies disclose their corporate Code of Ethics for certain officers, or if they do not have one, to explain why. Aware that they are being held to this higher standard, it is hoped that management will have an incentive to create an environment where manipulation is simply not tolerated. And while Sarbanes-Oxley legislates greater levels of transparency and legal responsibility, the law will truly succeed only when it permeates into the corporate psyche.

The initiation of auditor oversight is another important aspect of the Act. Through the creation of the Public Company Accounting Oversight Board, the Act aims to restore investor confidence in the accounting profession. I was pleased with the selection of William McDonough to head the PCAOB. With a long and distinguished career in both the public and private sector, he will provide the board with a great deal of knowledge and experience. Earlier this week, the Banking Committee had its first opportunity to hear from the PCAOB on the progress that they have made so far as they work to achieve their mandate. Under Chairman McDonough’s leadership, the Oversight Board has successfully begun the process of registering domestic and international accounting firms and started inspections of the big four accounting firms. Although the Oversight Board is in its infancy, investors should feel confident that it will implement reforms that will ensure integrity of the audit process.

Lastly, we come to the topic of improving corporate governance. This may be the most challenging obstacle in restoring investor faith. The Sarbanes-Oxley Act recognizes that the board of directors, which is held accountable by a company’s shareholders, is the focal point of the governance system. Among other improvements, it mandates fully independent audit committees with the authority to hire and fire auditors and engage outside advisors. This is an important step towards insulating the audit function form pressure from the Board. But as I have said on many occasions, it is impossible to legislate ethics. Even in the wake of this sweeping new law, we continue to see Boards of Directors abdicating the responsibility that they have to the shareholders.

How does this begin to change as we move forward? The answer is, hopefully, a shift in thinking in America’s boardrooms, towards adopting the principles that were the motivation behind the Sarbanes-Oxley Act and adopting them as a guide from which it is unacceptable to deviate. While I believe that Sarbanes-Oxley was a landmark bill, completely changing the culture in the boardroom will be a drawn-our and hard-fought accomplishment.

I am encouraged by some of the signs that the adoption of this new ethical mandate beginning to take root. It is evident in the actions of a number of major corporations like Coca-Cola and Microsoft to expense stock options. The market has dictated that investors will settle for nothing less than honesty and integrity from our public companies. They should expect no less. The behavior that was permitted in the past belongs in the history books. Rest assured, the Banking Committee will continue to scrutinize implementation of this law and its effect on corporate governance. The battle to improve corporate governance is joined, but not yet won. We must use every means at our disposal to restore investor confidence. It is the right thing to do, and absolutely essential to vibrancy and liquidity of our capital markets. Thank you.