Policy Dialogue on Corporate Governance in China

Strictly Confidential

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Policy Dialogue on Corporate Governance in China

Hosted by the Shanghai Stock Exchange and the OECD Co-organizer: ERI /DRC

Shanghai, China25 - 26 February 2004

in partnership with The Government of Japan

The Global Corporate Governance Forum


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COUDERT BROTHERS LLPGlobal Legal Advisers

1114 AVENUE OF THE AMERICASNEW YORK, NY 10036-7703TEL : +1 212 626 4400FAX : +1 212 626 4100 February 25-26, 2004

The Role of Board Committees:American Experience and Perspectives


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The Role of Board Committees: American Experience and

Perspectives

Presentation byBarry Metzger

Senior Partner, Coudert Brothers LLPNew York and Tokyo


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IntroductionIntroduction

Corporate Governance Scandal and Reform in the

United States

Despite its failure to prevent the recent crisis in

American corporate governance, there is increasing

reliance on, and strengthening of, the independent

director system and the role of Board committees


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The Role of the Board of Directors in Corporate The Role of the Board of Directors in Corporate GovernanceGovernance

Historic trend moving from the role of managing

the corporation to the role of supervising

management and serving as the focal point for

managing relations between shareholders,

management and other corporate constituencies


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The role of Board of Directors as set out in the January 2004 draft

(revised) text of the OECD Principles of the Corporate Governance

Reviewing and guiding: corporate strategy, major plans of action, risk policy, annual budgets and business plans, setting performance objectives; monitoring implementation and corporate performance; and overseeing major capital expenditures, acquisitions and divestitures;

Monitoring the effectiveness of the company’s governance practices and changing them as required;

Selecting, compensating, monitoring and replacing key executives and overseeing succession planning;


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Aligning key executive and Board remuneration with the longer term interests of the company;

Ensuring a formal and transparent Board nomination and election process;

Monitoring and managing potential conflicts of interest of management, Board members and shareholders, including misuse of corporate assets and abuse in related party transactions;

Ensuring the integrity of the corporation’s accounting and financial reporting systems; and

Overseeing the process of disclosure and communications.


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The Role of Committees of the Board of The Role of Committees of the Board of DirectorsDirectors

Ability to create committees long recognized and,

viewed as an inherent power of the Board of Directors,

it is not the subject of detailed statutory provisions

The traditional view that the Board’s activities

were not subject to delegation to committees

long ago gave way to the view that most decisions

are subject to delegation to Board committees


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The rationale for the creating of Board committees,

particularly in the context of the large modern corporation

Efficiency of Board’s operations

Need to develop subject specific expertise in the Board’s operations and the desire to access particular expertise of Board members

Particularly enhancing the objectivity and independence of the Board’s judgment, insulating it from the potential undue influence of managers and controlling shareholders


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Establishment of committees, the appointment of members and standards of independence.

The use of committees has developed largely as a matter of market practice, with laws tending to make a general market practice universal and mandatory.

Legal requirements regarding the establish of committees:

State law

Listing rules of the stock exchanges

Federal securities laws


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No general legal requirement as to the number of independent directors on the Board

Most formal requirements arise under the listing rules of the stock exchanges

Sarbanes-Oxley Act of 2002, Section 301, requires the SEC to adopt regulations to cause national securities exchanges and associations to prohibit the listing of a company which does not have an audit committee meeting certain standards, and establishing standards of independence for such committee members


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Role of Board committees in making recommendations

to the Board of Directors and in making decisions

on behalf of the Board of Directors

Liabilities of directors

In respect of decisions made by Board committees

In respect of directors’ participation on Board committees


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Board CommitteesBoard Committees

Standing committees

Executive Committee

Audit Committee

Compensation Committee

Nominating Committee

Public Policy Committee/Governance and Ethics Committee


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Board CommitteesBoard Committees

Ad hoc or special committees

Special Litigation Committee

Ad hoc committees formed to (i) to consider takeover or buyout offer, (ii) to investigate and advise on the appropriate response to allegations of serious misconduct against the corporation or its senior officers, and (iii) to evaluate and negotiate corporate restructurings or refinancing or other matters where conflicts of interest might otherwise arise


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Audit CommitteeAudit Committee

Particular focus of attention and reform following corporate

governance scandals, viewed primarily as the product of

financial fraud involving senior management.

A particular focus of the reforms embodied in the Sarbanes-

Oxley Act of 2002

Listed companies first required to have audit committees

composed solely of independent directors by New York

Stock Exchange Rules in 1978


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Purpose:

To represent the board in overseeing the accounting

and financial reporting processes of the company

and audits of the financial statements of the company,

with the corporation’s registered public accounting

firm reporting directly to the audit committee,

and to establish procedures for:


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the receipt, retention, and treatment of complaints relieved by the company regarding accounting, internal accounting controls, or auditing matters; and

the confidential, anonymous submission by employees of the company of concerns regarding questionable accounting or auditing matters


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Composition: all members must be independent directors.

“… to be considered independent… a member of an audit

committee of an issuer [of registered securities] may not,

other than in his or her capacity as a member of the audit

committee, the board of directors, or any other board

committee- (i) accept any consulting, advisory or other

compensatory fee from the issuer; or (ii) be an affiliated

person of the issuer or any subsidiary…”


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Duties:

The Audit Committee is responsible for:

the appointment, compensation, and oversight of the work of any registered public accounting firm employed by the company;

pre-approval of all auditing services and non-audit services provided to the company by its auditor;


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An accounting firm that performs any audit for the company

shall timely report to the Audit Committee regarding:

(1) critical accounting policies and practices to be used;

(2) alternative treatments of financial information

(3) other material written communications with management

Right to retain independent advisors


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Nominating CommitteeNominating Committee

Purpose:

To identify persons qualified to sit on the board and

recommend such persons for election at the Annual

General Meeting of shareholders and to formulate and

review corporate governance principles for the company.


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Duties:

The Nomination Committee is responsible for:

Identifying and reviewing the qualifications of board candidates from a wide range of backgrounds, to fill board vacancies;

To consider succession planning keeping in mind the skills which will be needed on the board to address challenges in the future;

To regularly review the structure, size and composition of the board;

To regularly review the time required from a non-executive director; and

To make recommendations to the board on the above.


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Current debate over right of shareholders

independently to nominate candidates and

to obtain access to the corporation’s proxy

solicitation system


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Compensation CommitteeCompensation Committee

Particular concern that recent corporate governance

crisis in the United States and the accounting

frauds involved were the product of inappropriate

and excessive compensation incentives and rewards


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Purpose:

To create and monitor the implementation of programs

designed to attract, retain and adequately compensate

the officers of the company and to comply with

applicable tax and securities law requirements.


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Duties:

The scope of the duties of the Compensation

Committee is delineated by the board.

As a general matter, the Compensation Committee

will usually be assigned the following duties:


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determining/recommending compensation of the officers of the company (salaries, bonuses and amounts payable in connection with termination of the officer)

implementing annual bonus plans for senior officers (determining the amount of bonuses and performance objectives of bonus plans, and monitoring achievement of objectives); and

administering equity based plans/other long term incentive plans


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Conclusions: Implications for DirectorsConclusions: Implications for Directors

Types of individuals to be recruited as directors (need for special expertise or experience)

Where is staff work done for committee

Amount of director commitment/time required

Potential liability

Compensation

The emerging professional independent director


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Policy Dialogue on Corporate Governance in China