The New Face of Professional Responsibility after the Sarbanes-Oxley Act
LACBA Update, February 2003
By Teresa Schmid, Esq., member, LACBA Professional Responsibility and Ethics Committee. Schmid is the director of LACBA’s Professional Services Department. The opinions expressed are her own.
The Sarbanes-Oxley Act, which was signed by President Bush on July 30, 2002, is the response of the U.S. Congress to investors’ crisis of faith in publicly traded companies. By its terms, the act purports to regulate only publicly traded companies and their professional advisors, including attorneys. As a result, most attorneys believe that they will not feel its impact directly. However, the act’s influence on California attorneys may prove to be far more pervasive than they realize.
Of the act’s 130 pages, only the three paragraphs comprising section 307 specifically address the role of attorneys for publicly traded companies. Attorneys appearing and practicing before the Securities and Exchange Commission in any way are required to report evidence of “a material violation of securities law or breach of fiduciary duty or similar violation” to the chief legal counsel or the chief executive officer. If the CLO or CEO does not appropriately respond to the evidence, the attorney must report the evidence to the audit committee, or “to another committee comprised solely of directors not employed directly or indirectly by the issuer,” or to the board of directors.
If this sounds familiar, it should. This “reporting-up” provision is consistent with California’s Rule of Professional Conduct 3-600, which governs the conduct of lawyers where the client is an organization.
However, storm clouds are forming around the SEC’s rules, which were released November 21, 2002 for a public comment period that ended December 18, 2002. The controversy centers on several critical issues. First is the addition of “reporting-out” and “noisy withdrawal” provisions, which are neither expressly authorized (nor expressly prohibited) by the act. Under certain circumstances, an attorney would be required to report the misconduct of a corporate client directly to the SEC or file a public statement withdrawing from representation “for professional considerations” and disaffirm in writing any document that the attorney assisted in preparing and believes to be materially false.
As of this writing, some analysts speculate that these requirements will be bifurcated from the final rules, which go into effect on January 26, 2003. The bifurcation, if it occurs, would allow an extended comment period, but whatever the outcome, it is unlikely that the SEC will entirely abandon these provisions.
Second is the SEC’s reliance on the American Bar Association’s Model Rules of Professional Conduct and on the July 16, 2002 Preliminary Report of the American Bar Association Task Force on Corporate Responsibility (the “Cheek Report”). Although the ABA publicly urged the SEC in a December 18, 2002 news release not to exceed the expressed mandate of the act by adopting the “reporting-out” provisions, in the Cheek Report the ABA advocates other provisions that are nearly as inimical to California’s ethical rules. The latter include permissive disclosure of a client’s conduct that has resulted or is reasonably likely to result in substantial injury to the financial interests of another, and mandatory disclosure to prevent felonies or other serious crimes, including violation of securities laws. (Cheek Report, page 45.) The State Bar of California is in year two of a five-year project to revise its Rules of Professional Conduct, and it will now experience even greater pressure to conform to the ABA’s Model Rules, including a relaxed standard for the duty of confidentiality. In light of the California Supreme Court’s recent rejection of a “safe harbor” rule to protect attorney whistleblowers, this suggests that California and the ABA are once again on a collision course.
Third, the SEC rules expressly purport to preempt any state’s standards of professional conduct that conflict with its provisions. As with the “reporting-out” provisions, this is one that was neither expressly authorized nor prohibited by the act itself. Unless the SEC’s rules are substantially changed to harmonize with California’s duty of confidentiality contained in Business & Professions Code section 6068(e), many California attorneys will be caught in an ethical vortex from which there is no escape.