43182 v4 Good corporate governance contributes to a company's competitiveness and reputation, facilitatesaccesstocapitalmarkets,andthushelpsdevelopfinancialmarketsandspureconom- ic growth. With this in mind, the International Finance Corporation and the U.S. Department of Commerce have combined their efforts to provide Russian managers, directors, and share- holders with a practical tool to implement good corporate governance practices ­ the Russia Corporate Governance Manual. This Manual refers to and is based on the principal laws and The Russia regulations that apply to open joint stock companies. It follows the recommendations of the FCSM's Code of Corporate Conduct and refers to internationally accepted principles of good corporate governance. Corporate "Corporate governance is vital to the interests of every economy, and government has a role toplayinestablishingtheframeworkforreform-butitiscompaniesthathavethetoughjob ofputtinggovernancereformintopractice. ThisiswheretheCorporateGovernanceManual Governance can provide excellent help. It offers a comprehensive workbook for company directors, offic- ers, and advisers in taking up the challenge of corporate governance improvement. Share- holders and stakeholders alike should applaud IFC for bringing practical, and professional advicewithinreachofeveryboardroom." Anne Simpson, Manager, Manual Global Corporate Governance Forum "Corporate governance reform in Russia is the continuation of the more general processes of changeaffectingthecountryasawhole. Takentogether,thesedevelopmentshavecreateda newenvironment,newrulesregulatingtherelationshipsbetweenthemarketandregulators, between shareholders, shareholders and managers, etc. In the business community there is agrowingawarenessofthebenefitsofcorporategovernancereform,andcompaniesarenow Information Disclosure and Transparency workingonimprovingthequalityoftheircorporategovernance..." IV Par t IV Ruben K. Vardanian, President of Troika Dialogue; Chairman of the Board, OJSC Rosgosstrakh; and Chairman of the RSPP Corporate Governance Committee "Good corporate governance is a key driver of financial transparency and managerial ac- countability, essential ingredients for national prosperity in a global economy. We con- gratulate the U.S. Department of Commerce and the International Financial Corporation of the World Bank for their initiative in bringing about the publication of the Russia Corporate GovernanceManual." Andrew B. Somers, President, American Chamber of Commerce in Russia Questions on corporate governance An electronic version of the Manual PreparedandPublishedbytheInternationalFinanceCorporation should be addressed to the is available on the website of the and theU.S.DepartmentofCommerce IFC Russia Corporate Governance Project, via International Finance Corporation under CGPRussia@ifc.org www.ifc.org/rcgp InPartnershipwiththeAgencyforInternationalBusiness and the andCooperationoftheDutchMinistryofEconomicAffairs U.S. Department of Commerce under andtheSwissStateSecretariatforEconomicAffairs www.mac.doc.gov/ggp The Russia Corporate Governance Manual Part IV Information Disclosure and Transparency Prepared and Published by the International Finance Corporation and the U.S. Department of Commerce In Partnership with the Agency for International Business and Cooperation of the Dutch Ministry of Economic Affairs and the Swiss State Secretariat for Economic Affairs Part_IV_Ch-13-14.indd i Part_IV_Ch-13-14.indd 17.09.2004 11:36:26 17.09.2004 11:36:26 First edition: 10,000 copies in Russian, 1,500 copies in English. Published in 6 Parts Printed in Moscow, Russia. ISBN 5-9614-0085-9 Copyright © 2004 International Finance Corporation 2121 Pennsylvania Ave. NW, Washington, DC 20433, United States of America A Member of the World Bank Group Design copyright © 2004 Alpina Business Books All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, for commercial purposes without the prior permission of the International Finance Corporation. Part_IV_Ch-13-14.indd ii Part_IV_Ch-13-14.indd ii 17.09.2004 11:36:36 17.09.2004 11:36:36 ChapterChapter 13 Information Disclosure Part_IV_Ch-13-14.indd 1 Part_IV_Ch-13-14.indd 17.09.2004 11:36:37 17.09.2004 11:36:37 Table of Contents A. AN INTRODUCTION TO NFORMATION I DISCLOSURE...........................................5 1. Definition and Rationale...........................................................................5 2. Principles of Disclosure...........................................................................6 3. Confidential Information...........................................................................6 4. Insider Information and Insider Dealing..................................................7 5. Disclosure in Listed Versus Closely Held Companies ............................9 6. Disclosure Versus Transparency............................................................10 7. Personal Liability for Non-Disclosure....................................................10 B. DISCLOSURE ITEMS ......................................................................................11 1. Financial and Operating Results............................................................13 2. Company Objectives ..............................................................................19 3. Major Share Ownership and Voting Rights...........................................20 4. Information on Directors and Executives..............................................28 5. Material Foreseeable Risk Factors.........................................................31 6. Employees and Other Stakeholders.......................................................31 7. Corporate Governance Structures and Policies.....................................32 C. MANDATORY DISCLOSURE ............................................................................35 1. Disclosure During the Placement of Securities ....................................36 2. Quarterly Reports...................................................................................37 3. The Material Events Report...................................................................38 4. Information for Shareholders Through the Annual Report...................39 5. The List of Related Parties....................................................................40 6. Notification to Regulators......................................................................41 7. Notification to Creditors.........................................................................42 8. Providing Information to Company Employees.....................................42 D. VOLUNTARY DISCLOSURE..............................................................................43 1. Corporate Websites................................................................................43 2. SKRIN "Emitent" ....................................................................................44 3. Mass Media............................................................................................45 E. SUMMARY OF MANDATORY DISCLOSURES....................................................45 Part_IV_Ch-13-14.indd 2 Part_IV_Ch-13-14.indd 17.09.2004 11:36:37 17.09.2004 11:36:37 The Chairman's Checklist Does the company have a written disclosure policy? Does the policy fully express the company's commitment to transparency? Is the disclo- sure policy easily available to market participants and other interested parties? Does the company fully comply with its legal disclosure obligations? What systems are in place to ensure that full and timely disclosure of material information occurs? Are executives and directors fully aware of the personal and corporate re- percussions of false or incomplete disclosure? Do executives and directors act accordingly to ensure good disclosure? Is the company's ownership structure transparent? What steps are being taken to ensure that the company's financial position is communicated clearly to the markets? Is the disclosure fair? For example, does the company ensure that all investors receive information at the same time, not giving special access to a privileged few individual or institutional investors? Does the company have a policy on insider trading and does it enforce this policy? What systems are in place to manage the flow of insider and other sensitive information? Does the company appreciate that it is in its own interest to make voluntary disclosures to the market? If so, how does it ensure the veracity of this information, and that its disclosure is not merely for marketing or public relations purposes? Does the company truly understand the definition of commercially sensitive information? Or, does the company hide behind protections provided for sensitive information in order to withhold important material facts from the markets? How does the company's disclosure compare to international disclosure requirements, for example, the OECD Principles of Corporate Govern- ance? 3 Part_IV_Ch-13-14.indd 3 Part_IV_Ch-13-14.indd 17.09.2004 11:36:37 17.09.2004 11:36:37 The Russia Corporate Governance Manual There are two basic forms of market regulation: 1) substantive rules-based regula- tion, and 2) disclosure-based regulation. Both regulatory approaches seek to protect shareholders and provide for fair and stable financial markets. Rules-based regulation sets down what companies can and cannot do, and seeks to establish a wide-reaching set of regulations that cover a number of potential circumstances. Disclosure-based regulation relies more heavily upon market mechanisms to pun- ish and reward certain types of corporate behavior, and shifts part of the respon- sibility for protecting investors to market participants, according to the motto caveat emptor or buyer beware. Disclosure-based regulation is partly predicated upon the faith that markets are better at policing corporate misconduct than regulatory agencies, and that disclosure is an effective and inexpensive substitute for substantive regulation. In practice, the two approaches are almost always used in combination with one another, though, some countries rely more heavily on disclosure than others. The effectiveness of disclosure-based regulation must be considered with cau- tion, especially in the Russian context. In the absence of substantive checks upon managers or owners, its value may, in fact, be quite limited. The early years of Russia's financial markets have an unfortunate history of insiders, controlling shareholders, and related parties freely tunneling company assets under the glare of the Russian and international press. For disclosure-based regulation to work effectively, a number of elements and incentives need to work together. These include a proper legal and regulatory environment, combined with effective enforcement mechanisms such as regulators that screen financial information for misstatements and courts that provide effec- tive redress. Independent External Auditors also play an important role, providing assurance to the markets, as does an active and interested media that questions company strategies and communications. Finally, a competent and vigilant Su- pervisory Board is crucial. It is broadly accepted that even the best disclosure system cannot thwart individuals who are intent upon defrauding a company and its shareholders. Without a Supervisory Board that is uniformly intolerant of obfuscation, disclosure cannot be fully effective. While disclosure based-regulation may function imperfectly in an emerg- ing financial market such as in Russia, disclosure is nevertheless important and is only likely to grow in importance as Russia's financial markets mature. Among the broad palette of disclosures, particular importance must be at- tached to financial and operating results, related party transactions, and ownership structures. 4 Part_IV_Ch-13-14.indd 4 Part_IV_Ch-13-14.indd 17.09.2004 11:36:37 17.09.2004 11:36:37 Chapter 13. Information Disclosure A. An Introduction to Information Disclosure 1. Definition and Rationale Disclosure is ensuring access to information by all interested parties, regardless of the purpose of obtaining the information, through a transparent procedure that guarantees information is easily found and obtained.1 Timely and accurate disclosure is essential for shareholders, potential investors, regulatory authorities, and other stakeholders. Access to material information helps shareholders protect their rights and improves the market participants' abil- ity to make sound economic decisions. Disclosure makes it possible to assess and oversee management, as well as to keep management accountable to the company and shareholders. Disclosure benefits companies since it allows them to demon- strate accountability towards shareholders, act transparently towards the markets, and maintain public confidence and trust.2 Good disclosure policies should also reduce the cost of capital. Finally, information is also useful for creditors, sup- pliers, customers, and employees to assess their position, respond to changes, and shape their relations with companies. The power of a sound disclosure regime is expressed clearly and eloquently in the following quote: "Requiring disclosure of information can be a powerful regulatory tool in company law. It enhances the accountability for and the transparency of the company's governance and its affairs. The mere fact that, for example, governance structures or particular actions or facts have to be disclosed, and therefore will have to be explained, creates an incentive to renounce structures outside what is considered to be best practice, and to avoid actions that are in breach of fiduciary duties or regulatory requirements, or could be criticized as being outside best practice. For those who participate in or do business with companies, information is a necessary element in order to be able to assess their position and respond to changes that are relevant to them."3 1 Law on the Securities Market, Article 30, Clause 1. 2 Federal Commission for the Securities Market's Code of Corporate Conduct (FCSM Code), Chapter 7, Introduction. 3 Report of the High Level Group of Company Law Experts on a Modern Regulatory Frame- work for Company Law in Europe, Brussels, 4 November 2002. (See also: http://europa. eu.int/comm/internal_market/en/company/company/modern/consult/report_en.pdf) 5 Part_IV_Ch-13-14.indd 5 Part_IV_Ch-13-14.indd 17.09.2004 11:36:37 17.09.2004 11:36:37 The Russia Corporate Governance Manual 2. Principles of Disclosure A more everyday and practical expression of what constitutes good disclosure follows in these four basic principles: Best Practices: Good disclosure should be: 1. Provided on a regular and timely basis; 2. Easily and broadly available; 3. Correct and complete; and 4. Consistent, relevant, and documented. 3. Confidential Information Securities legistation require publicly held companies to disclose a broad range of financial and non-financial information. At times, information disclosure required by regulations can adversely affect a company's business and financial condition because of the competitive harm that could result from the disclosure. Despite the fact that many Russian companies often consider the most mundane informa- tion commercially sensitive, in reality, competitive harm only arises under a lim- ited number of circumstances. Some examples of truly sensitive information include pricing terms, technical specifications, and milestone payments. To address potential disclosure hardship, legislators and regulators develop systems for allow- ing companies to request confidential treatment of information. In Russia, information is deemed commercially sensitive if:4 · It has real or potential commercial value due to its uncertainty to third par- ties; · There is no free access to it on legal grounds; and · The owner of the information undertakes steps to keep it confidential. However, if left to the interpretation of the company, this definition could yield a never-ending number of exceptions. Fortunately, legislation defines what information can and cannot be treated as confidential.5 For example, the law 4Civil Code (CC), Article 139, Clause 1. 5Decree of the RF President No. 188 on the Approval of the List of Information of Confi- dential Nature. 6 Part_IV_Ch-13-14.indd 6 Part_IV_Ch-13-14.indd 17.09.2004 11:36:37 17.09.2004 11:36:37 Chapter 13. Information Disclosure considers personal data confidential information, and forbids the collection, stor- age, usage, and dissemination of private information without the person's consent, unless otherwise provided by a court decision.6 Accessibility to confidential in- formation is limited, its public disclosure is prohibited, and persons who act in breach of rules may be held liable.7 This provision can be re-enforced by conclud- ing confidentiality agreements with such persons. For more information on how to implement confidentiality agreements, see the model contracts with a non-executive director and the General Director in Part VI, Annexes 13 and 14, respectively. Best Practices: Today's corporate governance problems are related less to excessive transparency and over-disclosure than under-disclosure and lack of transparency. Companies should be clear on what truly constitutes confidential information and should not interpret the broad definitions provided for by law so widely as to withhold relevant information from investors. To guide practices with respect to commercially sensitive information, companies are well advised to develop written policies and procedures, and define what should be considered confi- dential in internal documents or by-laws.8 These policies must be consistent with the list of confidential information approved by Presidential Decree on the one hand,9 and the list of information that may not be deemed commercial secrets under Governmental Resolution, on the other.10 4. Insider Information and Insider Dealing Insider trading encompasses both legal and prohibited activity. Insider trading takes place legally, every day, when corporate insiders (officers, directors, or em- 6 Law on Information and Protection of Information, Article 11, Clause 1. 7 CC, Article 67, Clause 2; Article 139, Clause 2; Labor Code, Article 81, Clause 5, Section c; Article 243; Law on Joint Stock Companies (LJSC), Article 71, Clause 2, Paragraph 1. 8 FCSM Code, Chapter 7, Section 4.1.1, Paragraph 3. 9 Decree of the RF President No. 188 on the Approval of the List of Information of Confi- dential Nature. 10 Resolution of the RSFSR Government No. 35 on the List of Information which Cannot be Deemed as Containing a Commercial Secret. [Note: A draft law on Commercial Secrets was being considered, but had not yet been passed by the State Duma as of this Manual's completion.] 7 Part_IV_Ch-13-14.indd 7 Part_IV_Ch-13-14.indd 17.09.2004 11:36:38 17.09.2004 11:36:38 The Russia Corporate Governance Manual ployees) buy or sell shares in their own companies within the confines of com- pany policy, law, and regulation. There is also an illegal variety of insider dealing. It is the dealing that takes place when those with access to privileged and confidential information use their knowledge to reap profits or avoid losses on the stock market. Investors lacking access to privileged information often pay the costs of insider dealing. Another, and far greater, cost of insider dealing is the damage done to the credibility of securities markets. One of the main reasons that capital is easily available in the world's most successful stock markets is that investors largely trust them to be fair. The common belief in some countries that privileged investors should be allowed to profit from their access to confidential information may explain, in part, relatively low public share ownership in these countries. Govern- ments cannot afford to ignore insider dealing if they hope to promote an active securities market and attract international investment. The same holds true for Supervisory Boards that wish to protect shareholders and attract investment. In Russia, insider information is defined as any information about a com- pany and its securities, which is not easily accessible and which provides privi- leges to those who have access to it due to their official position, contractual obligation vis-a`-vis (or agreement with) the company in comparison to other participants of the securities market.11 Individuals with access to insider informa- tion include:12 · Members of the company's governing bodies or securities market profession- als with a contractual agreement with the company; · The External Auditor of the company or securities market professionals having a contractual agreement with the Auditor; and · Officials of regulatory agencies having legal rights to control or monitor the company. Best Practices: Disclosure of insider information may substantially affect the market value of shares and other securities of a company. Therefore, per- 11Law on the Securities Market, Article 31. [Note: A draft law on Insider Information was being considered, but had not yet been passed by the State Duma as of this Manual's comple- tion.] 12Law on the Securities Market, Article 32. 8 Part_IV_Ch-13-14.indd 8 Part_IV_Ch-13-14.indd 17.09.2004 11:36:38 17.09.2004 11:36:38 Chapter 13. Information Disclosure sons who have access to insider information may not use it to execute transac- tions, nor may they transfer insider information to a third party.13 Illegal use of insider information can damage shareholder interests and adversely affect the financial position and reputation of the company as well as securities markets overall. The company should have a written insider dealing policy in place, and vigorously enforce it. The Internal Auditor should monitor whether directors, managers, and other officers comply with the law, regulation, and internal rules on insider dealing.14 5. Disclosure in Listed Versus Closely Held Companies Disclosure requirements are different for publicly listed companies, open and closed joint stock companies, and private companies. Private and closed joint stock companies usually need only to comply with minimal disclosure require- ments. More stringent rules apply to listed open joint stock companies. Tight regulation of disclosure among listed companies is needed because of the greater impact of potential fraud when a company may have many thousands of share- holders. Given the importance of capital markets in a modern economy, govern- ments are, understandably, keen on ensuring the integrity of the financial system. The increased number of disclosure obligations for listed companies is the price to be paid to access the large funds available on the capital markets. Russia's two leading stock exchanges, the Russian Trading System (RTS) and Moscow Interbank Currency Exchange (MICEX) have specific listing rules. For example, companies listed on Tier-A, Level 1 on any of these exchanges must provide documents confirming their full compliance with the FCSM Code (or, if listed on MICEX, with their internal company-level code of corporate governance that is based on the FCSM Code). Companies listed on RTS' Tier-A, Level 1 are further required to disclose their financial statements according to both Russian and In- ternational Financial Reporting Standards. On the other hand, companies listed on Tier-A, Level 2 must simply provide documents confirming their compliance with Chapter 7 of the FCSM Code on information disclosure. RTS requires that companies additionally report on specific material events, for example, on issu- ing, splitting, consolidating, or retiring securities; on transferring the register to 13 Law on the Securities Market, Article 33, Clause 1. 14 FCSM Code, Chapter 4, Section 4.2. 9 Part_IV_Ch-13-14.indd 9 Part_IV_Ch-13-14.indd 17.09.2004 11:36:38 17.09.2004 11:36:38 The Russia Corporate Governance Manual another External Registrar; on the date of the General Meeting of Shareholders (GMS); on the record date; and on the total number of shareholders.15 For more general information on the differences between forms of joint stock com- panies, see Part I, Chapter 2, Section A.2. 6. Disclosure Versus Transparency Disclosure is sometimes confused with transparency. Unfortunately, these two terms are frequently and erroneously used interchangeably. While disclosure and transparency would, at first glance, appear to be the same, they are not. Compa- nies may disclose an enormous amount of information that is of no particular value to the users of such information. Important pieces can be withheld. Dis- closure can be irrelevant or, worse, appear to be manipulated in such a way as to conceal the true picture of the state of the enterprise. Company Practices in Russia: The disclosure of ownership in Russian com- panies highlights how disclosure and transparency may diverge. While most companies properly disclose their ownership, the true owners and the extent of their control often remains hidden behind complex legal structures such as Special Purpose Entities (or Vehicles), off-shore holding companies, and trusts. For example, most companies in Russia's regions comply with general disclosure requirements. However, 91% fail to provide information on a variety of issues, including major shareholders.16 Few companies thus have transparent ownership structures. 7. Personal Liability for Non-Disclosure As a rule, companies are liable for damages caused to shareholders denied legitimate access to information. Companies are also liable when they cause damages to third parties by providing false, incomplete, or distorted information.17 Members 15 To view the complete set of listing rules, visit RTS's and MICEX's websites under: www.rts. ru and www.micex.ru. 16 IFC Survey on Corporate Governance Practices in Russia's regions, Section 2.2.1, page 25, August 2003 (see www.ifc.org/rcgp). 17 CC, Article 1068. 10 Part_IV_Ch-13-14.indd 10 Part_IV_Ch-13-14.indd 10 17.09.2004 11:36:38 17.09.2004 11:36:38 Chapter 13. Information Disclosure of the company's governing bodies, in particular the executive bodies, are person- ally liable for losses caused to the company through their fault.18 The company (or a shareholder owning 1% or more of common shares) may seek compensation for losses. The failure to disclose information to the securities markets, provide reliable information, and/or follow disclosure procedures is also subject to liability.19 Per- sistent non-disclosure of information or provision of false information causing material damage to individuals, legal entities, or the state is subject to criminal prosecution.20 Executive bodies, typically the General Director, are legally responsible for proper disclosure.21 Some documents, such as the prospectus and quarterly report, must be signed by more than one person, e.g. by the General Director and the Chief Accountant, financial consultant, and the External Auditor. These persons are jointly and severally liable for the reliability and completeness of the disclosed information. They also bear subsidiary (secondary) liability with the company for any damages caused to shareholders due to incorrect, incomplete, and/or false information in such documents. B. Disclosure Items The OECD Principles of Corporate Governance (OECD Principles) suggest that "...timely and accurate disclosure be made on all material matters regarding the corporation, including the financial situation, performance, ownership, and govern- ance of the company."22 The key concept that underlies the OECD's recommendation is the concept of materiality. Material information is information, the omission or misstatement of which could affect economic decisions taken by the users of information. Materiality may also be defined as a characteristic of information or an event that makes it sufficiently important to have an impact on a company's share price. 18 LJSC, Article 71, Clause 2. 19 Law on the Securities Market, Articles 22.1, Clause 3; Article 30, Paragraph 11. 20 Criminal Code, Articles 185 and 185.1. 21 LJSC, Article 88, Clause 2. 22 OECD Principles, Principle IV on Disclosure and transparency. See also: www.oecd.org/ dataoecd/32/18/557724.pdf. 11 Part_IV_Ch-13-14.indd 11 Part_IV_Ch-13-14.indd 11 17.09.2004 11:36:38 17.09.2004 11:36:38 The Russia Corporate Governance Manual The application of the materiality concept allows companies to avoid overly detailed disclosure that is ultimately irrelevant to shareholders. For example, dam- age to RUR 150,000 (approximately U.S. $ 5,000) worth of paper in a large, pub- licly traded company is, clearly, of little importance to the investor. It may, on the other hand, be material to a small family-owned print shop. Materiality is, consequently, a relative concept that depends on the context. It is often difficult to define with great precision in practice. Companies and auditors may sometimes apply certain numerical thresholds (such as, for example, 5% of earnings) to simplify its application. However, these thresholds can only serve as a starting point for a more rigorous application of the concept of materiality. Best practices: The OECD Principles call for disclosure of all material informa- tion in the following areas: · Financial and operating results of the company; · Company objectives; · Shareholdings and ownership structure; · Directors and key executives, as well as their remuneration; · Material foreseeable risk factors; · Material issues regarding employees and other stakeholders; and · Governance structure and policies. This list is comprehensive, if general. The Technical Committee of the Interna- tional Organization of Securities Commissions (IOSCO) has developed more detailed, high-level principles for ongoing disclosure and material development reporting for listed entities. These principles are:23 · Materiality of information for an investor's investment decision; · Disclosure on a timely basis -- immediate or periodic; · Simultaneous and identical disclosure in all jurisdictions where the entity is listed; · Dissemination of information by using efficient, effective, and timely means; · Disclosure criteria fairness, without misleading or deceptive content and containing no material omission; · Equal treatment of disclosure -- no selective disclosure to investors and others before public disclosure; and · Compliance with disclosure obligations. 23 Principles for Ongoing Disclosure and Material Development Reporting by Listed Entities, OICU-IOSCO, October, 2002. See also: www.iosco.org. 12 Part_IV_Ch-13-14.indd 12 Part_IV_Ch-13-14.indd 12 17.09.2004 11:36:38 17.09.2004 11:36:38 Chapter 13. Information Disclosure Russian legislation covers these essentials in considerable detail. The following sub-sections discuss Russian requirements and disclosure practices with respect to the above-mentioned OECD disclosure items. 1. Financial and Operating Results a) Presenting Financial Information Information about financial results, performance, and situation, as well as operations of the company, is of utmost importance for shareholders, potential investors, creditors, and other stakeholders. The following list constitutes the most typical forms of, and additions to, financial reporting: · The balance sheet provides a snapshot of the company's assets, capital, and liabilities on a particular date. To skilled analysts, it provides important information on, inter alia, the degree of risk an investment in the company carries or the company's ability to pay creditors. · The income statement provides information on the company's performance over a specified period of time. Income statements may be organized in a number of different ways. According to internationally recognized practice, income statements must show: 1) revenues or sales; 2) the results of operating activities; 3) financing costs; 4) income from associates and joint ventures; 5) taxes; 6) profit or loss from ordinary activities; and 7) net profit or loss. The income statement demonstrates business sustainability. · The statement of changes in owners' equity shows all changes in the charter, additional paid-in, and reserve capital, as well as retained earnings. In addition, it provides information on changes in statutory and additional funds, and briefs on net assets. · The cash flow statement illustrates a company's sources and uses of cash. It lists all changes affecting cash in three areas: 1) operations; 2) investments; and 3) financing. For example: net operating income increases cash; the purchase of a plant is an investment that decreases cash; and the issuance of shares or bonds is a financing activity that increases cash. · The notes to the financial statements help explain the company's financial statements by providing important details and insight into how the company prepared its accounts. · Explanations to financial statements briefly describe features of the company's activities, its main performance indicators and factors that affected the 13 Part_IV_Ch-13-14.indd 13 Part_IV_Ch-13-14.indd 13 17.09.2004 11:36:38 17.09.2004 11:36:38 The Russia Corporate Governance Manual company's financial results, as well as decisions of the review of financial statements and distribution of net profits. This refers to any relevant information that would enable users to receive a complete and objective picture of the company's financial condition, financial results for the reporting period, and any changes in its financial position. Best Practices: International practice also calls for the Management's Discus- sion and Analysis (MD&A), which provides management's view of the perform- ance and future prospects of the company. The MD&A, which is typically disclosed in the company's annual report, should: 1) complement as well as supplement financial statements; 2) have a forward-looking orientation; 3) focus on long-term value creation; 4) integrate long- and short-term perspectives; 5) present information that is significant to the decision-making needs of users; and 6) embody the qualities of reliability, comparability, consistency, relevance, and understandability. The MD&A presents a more analytical and qualitative view than the rest of the financial statements. Finally, the External Auditor's report with conclusions enables an independent External Auditor to express an opinion on whether or not the company's financial statements are prepared, in all material respects, in accordance with an identified financial reporting framework, and whether they are reliable. This provides share- holders, managers, employees, and market participants with an independent opin- ion about the company's financial position and -- if performed properly -- should attest to the accuracy of the statements. Russian companies are further required to publish the Revision Commission's report. For more information on the role of the External Auditor and Revision Com- mission, see Part IV, Chapter 14, Section B and A, respectively. b) Preparing Financial Information Russian legislation regulating financial reporting recognizes the following ba- sic concepts and principles:24 · Accrual based accounting, according to which revenues and expenses are booked over time and not at the point of payment or receipt of funds. This requires that sales and expenses relating or pertaining to a particular period 24Russian Accounting Standard 1/98, Accounting Policy of the Company, Section 6. 14 Part_IV_Ch-13-14.indd 14 Part_IV_Ch-13-14.indd 14 17.09.2004 11:36:39 17.09.2004 11:36:39 Chapter 13. Information Disclosure be recorded in the period of occurrence irrespective of when the amount was received or paid; · Goingconcernassumption, i.e. that financial statements are prepared on the assumption that the company is operating and will continue to operate for the foreseeable future, and that it has neither the intention nor the necessity of liquidation or of materially curtailing the scale of its operations. The going concern assumption is a fundamental principle in the preparation of financial statements. For this reason, it is recognized that management has a responsibility to assess the entity's ability to continue as a going concern. However, management's assessment may not always involve detailed analysis, particularly when there is a history of profitable operations and ready access to financial resources. Company Practices in Russia: Not all companies in Russia follow the going concern principle when preparing financial statements. Some are on the verge of bankruptcy, while others cannot guarantee the stability of company's operation in the future. Additionally, a poor financial picture is often presented to minimize tax payments. · Consistency, which states that the presentation and classification of items in the financial statements shall be retained from one period to the next unless a change is justified either by a change in circumstances or a requirement of a new accounting standard; and · Separation of assets and liabilities, meaning that the assets and liabilities of the company shall be separated from those of its owners and other organizations. In addition, company accounting policies should ensure:25 · Completeness of information disclosure, meaning that information con- tained in the company's financial statements should disclose all material business facts and results (actually and potentially) influencing economic decision-making by the users of these financial statements both from the standpoint of materiality of such information and from the standpoint of the cost of its preparation (an omission can cause information to be false 25 Russian Accounting Standard 1/98, Accounting Policy of the Company, Section 7. Russian Accounting Standard 4/99, Financial Statements of the Company, Section 33. 15 Part_IV_Ch-13-14.indd 15 Part_IV_Ch-13-14.indd 15 17.09.2004 11:36:39 17.09.2004 11:36:39 The Russia Corporate Governance Manual or misleading and thus unreliable and imperfect from the standpoint of its relevance); · Timeliness, i.e. the company needs to publish reports quickly, as up-to-date information is of much more value to users than older information that may have been superseded by events; · Conservatism, requiring a company to make prudent accounting choices and estimate when future events would have negative effects on its financial conditions; · Substance over form, meaning that for the faithful presentation of information in the financial statements it is necessary that transactions and events are accounted for and presented in accordance with their substance and economic reality (which should prevail) and not merely their legal form; · Analytical. The sum of analytical accounts should be equal to the synthetic account; · Balance between benefit and cost, which, given the complexity and breadth of certain reporting requirements, allows smaller companies to tailor their financialinformationtobecost-effective. Thisconcept,however,shouldnotbe used to deny information to users. The presumption must be that information required by law and accounting standards should be provided to users unless there is a clear indication that the cost outweighs the benefit; and · Matching. Expenses are matched to related revenues in determining earnings for the period. Legislation, accounting, and other standards will determine the specific content and format of financial statements. Taken together and compared over time, the financial statements and the MD&A should provide a well-rounded picture of the company's operations and financial position. Best Practices: If companies plan to access international capital markets or, simply, to improve upon the quality of financial reporting, they will need to pre- pare financial statements according to an internationally accepted body of ac- counting standards. The two most recognized standards are the International Financial Reporting Standards (IFRS) and U.S. Generally Accepted Accounting Principles (U.S. GAAP).26 26 U.S. GAAP are available on the Financial Accounting Standard Board's website under: http:// www.fasb.org. A summary of IFRS is available on the International Accounting Standard Board's website under: http://www.iasb.org. 16 Part_IV_Ch-13-14.indd 16 Part_IV_Ch-13-14.indd 16 17.09.2004 11:36:39 17.09.2004 11:36:39 Chapter 13. Information Disclosure In addition to standard financial reporting according to the Russian Accounting Standards (RAS), a company should consider reporting in accordance with IFRS for the following reasons: · IFRS have clear economic logic and provide better information to the com- pany's management than the current RAS do, allowing for a better com- parison with a peer group of international companies; · There is global convergence of national standards towards IFRS; · Russian companies will likely need to report using IFRS in the future due to the convergence of Russian standards with IFRS;27 (The Russian Ministry of Finance has issued statements regarding its intent to adapt RAS to IFRS.) · All listed companies in Europe with consolidated accounts will be required to present their consolidated financial statements using IFRS as of 2005;28 · Unification of standards will allow users of financial statements to "read" financial statements under common rules; and · Implementing IFRS could help Russian companies decrease expenses in attracting investment. Applying IFRS typically has the following impact on the balance sheet of a standard Russian company: · The need to prepare consolidated financial statements (IAS 27.7/11); · Inventories can no longer be generally carried at cost, but at the lower of cost or net realizable value (IAS 2.6); · A significant change in the value of fixed assets; · Use of fair market valuation rather than the historical cost approach for many assets and liabilities; · The appearance of new financial instruments, derivatives in particular; and · Recognition of assets and liabilities, the control over which does not stem directly from participation in equity. Additional items are included in the income statement, such as fair value adjust- ment for financial instruments, and recognition or recovery of asset impairment, among others. Disclosures also become more informative and user-oriented. Depending on where the company intends to list, statements will likely need to be prepared according to one of these two standards. 27 Research released by the world's six largest accountancy firms shows that an overwhelming majority of countries -- over 90% of a total 59 countries surveyed -- intend to converge with IFRS; see GAAP Convergence 2002 from http://www.ifad.net. 28 Regulation (EC) 1606/2002 of the European Parliament of the Council of 19.7.2002 on the Application of International Accounting Standards. See also: http://europa.eu.int/eur-lex/pri/ en/oj/dat/2002/1_243/1_24320020911en00010004.pdf. 17 Part_IV_Ch-13-14.indd 17 Part_IV_Ch-13-14.indd 17 17.09.2004 11:36:39 17.09.2004 11:36:39 The Russia Corporate Governance Manual c) Disclosing Financial Information Financial information will typically be presented in different forms and at different times throughout the financial year. Financial and operating results will appear in the prospectus, and annual and quarterly reports. The Law on the Securities Market requires that the following information on the last five operating years and the last reporting period be disclosed in these docu- ments:29 · Major areas of company activity; · Results of the financial and business activity, as well as any major factors affecting revenues; · Financial and economic ratios of the company; · Market capitalization, liquidity, and its obligations; · Capital structure, including working capital; · Composition, structure, and value of fixed assets; · Total amount of export; and · Inventory of the company's property. Best Practices: Companies should disclose all material information, and do so on a timely basis and in such a manner as to make the information as clear and understandable to users as possible. Companies should adhere to the spirit of the law, not just the letter, and should not limit themselves to the minimum standards of statutory disclosure. Some examples of additional dis- closures that are encouraged by the FCSM Code: · The quarterly report for the fourth quarter should include additional financial information, in particular data about the company's operations over the entire previous reporting year rather than for the fourth quarter only;30 · The annual report should also disclose information that will enable share- holders to understand the results of the company's activities during the reporting year;31 and · Any of the material events defined by the FCSM Code.32 29Law on the Securities Market, Article 22, Clauses 4 and 6. 30FCSM Code, Chapter 7, Section 2.2. 31FCSM Code, Chapter 7, Section 3.3. 32FCSM Code, Chapter 7, Section 2.3, Paragraph 6. 18 Part_IV_Ch-13-14.indd 18 Part_IV_Ch-13-14.indd 18 17.09.2004 11:36:39 17.09.2004 11:36:39 Chapter 13. Information Disclosure d) Financial Information in Groups of Companies Complete disclosure of intra-group relations, transactions, and their financial terms, and consolidated accounts is a crucial pre-requisite to make the group's functioning transparent. Best Practices: When preparing consolidated accounts, companies should follow uniform accounting policies for the parent and its subsidiaries or, if this is not practicable, the company must disclose that fact and the proportion of items in the consolidated financial statements to which different policies have been applied. In the parent's separate financial statements, subsidiaries may be shown at cost, at revalued amounts, or using the equity method. According to IFRS, a company's consolidated accounts should include, inter alia:33 · The name, ownership, and voting percentages for each significant sub- sidiary; · The reason for not consolidating a subsidiary; · The nature of the relationship if the parent does not own more than 50% of the voting power of a consolidated subsidiary; · The nature of the relationship if the parent does own more than 50% of the voting power of a subsidiary excluded from consolidation; · The effect of acquisitions and disposals of subsidiaries during the period; and · In the parent's separate financial statements, a description of the method used to account for subsidiaries; For more information on the importance of disclosing financial information in groups of companies, see Part V, Chapter 15, Section B.2. 2. Company Objectives It is important for markets, shareholders, and other stakeholders to be aware of the company's objectives. The communication of company objectives can be either in response to legal requirements or it can be voluntary. Legislation requires that company objectives (such as the issuance of securities, acquisition plans, replacement and sales of assets, or research and development) be disclosed in the prospectus.34 In addition, quarterly reports must contain forward- 33 Excerpt from International Accounting Standard No. 27. See also: http://www.iasb.co.uk. 34 Law on the Securities Market, Article 22, Clauses 4, 6 and 9. 19 Part_IV_Ch-13-14.indd 19 Part_IV_Ch-13-14.indd 19 17.09.2004 11:36:39 17.09.2004 11:36:39 The Russia Corporate Governance Manual looking information including sources of revenue, plans for new production proce- dures, expansion or reduction of production, new product development, substitution of old products, modernization or repair of fixed assets, and modification of the types of company activities.35 In addition, the annual report must outline the com- pany position in the industry, priority areas of activity, and development trends.36 Voluntary disclosure may cover issues such as a company's policies concerning corporate governance, business ethics, environmental issues, and other public policy commitments. This information can help to properly evaluate the prospective per- formance of the company, its relationship with various stakeholders and communi- ties in which it operates, and the steps that the company has taken to implement its objectives. As with other types of disclosure, the quality of information provided to the public is greatly enhanced by adhering to a widely accepted standard.37 Best Practices: Companies may choose to voluntarily disclose their objectives in the charter, company-level corporate governance code, and/or ethics code, as well as annual report. Regardless of the form, companies should ensure that this information is readily accessible to the public, for example, on their websites. 3. Major Share Ownership and Voting Rights a) Major Share Ownership It is important that shareholders are informed about company ownership struc- tures to understand their rights, role and authority in governing the company, and influence its policy. Depending on the size of ownership, shareholders have varying degrees of influence over decision-making in a company. Legislation provides greater rights to shareholders with larger holdings. For more information on the rights of shareholders according to their ownership percentage, see Part III, Chapter 7. 35 FCSM Regulation No. 03-32/ps on the Disclosure of Information by Security Issuers (FCSM Regulation No. 03-32/ps), Annex 11, Section 3.4. 36 FCSM Regulation No. 17/ps on Additional Requirements to the Procedure of Preparation, Calling, and Conducting the General Meeting of Shareholders (FCSM Regulation No. 17/ps), 31 May 2002, Section 3.6. 37 For a general discussion of non-financial disclosure, see the OECD's Guidelines for Multina- tional Enterprises. See the OECD website at www.oecd.org or consult the Guidelines di- rectly under: www.oecd.org/dataoecd/62/58/2438852.pdf. 20 Part_IV_Ch-13-14.indd 20 Part_IV_Ch-13-14.indd 20 17.09.2004 11:36:39 17.09.2004 11:36:39 Chapter 13. Information Disclosure Clearly, it is vital to know who is in a position to make (or influence) deci- sions within a company. For this reason, full information on the amount of the issued capital, its increases and decreases, the rights attached to shares of different types and classes, and the number of shareholders is crucial. Shareholders with large stakes have the opportunity to exercise control over decision-making in a company. These opportunities are summarized in Table 1. Table 1: The Influence on Decision-Making Relative to the Ownership Ownership Influence on decision-making 25% plus 1 vote The shareholder can block major decisions that require /4-majority, e.g. to 3 amend the charter or reorganize the company. 50% plus 1 vote The shareholder can unilaterally take decisions that require a simple majority, e.g. to declare dividends and approve the External Auditor. 75% plus 1 vote The shareholder can unilaterally decide all issues. In practice, lower thresholds may suffice to exercise control over a company. In particular, in companies with dispersed ownership it is not necessary for a shareholder to hold the percentages of votes outlined in Table 1 above since the quorum for decisions of the GMS is counted based on votes cast. Since it is rare for all shareholders to vote at the GMS, a lesser percentage of shares usually pro- vides the same degree of influence. In any event, the larger the ownership stake, the greater the ease with which shareholders can control the company. Legislation requires disclosure of ownership once its size reaches or exceeds spe- cific thresholds. What, where, when, and to whom disclosure needs to be made depends upon ownership thresholds. These thresholds are summarized in Table 2. Table 2: Ownership Disclosure Thresholds Who Should To Whom and Where to Threshold What Should be Disclosed Disclose Disclose One share Nominal Beneficial owners Notification to the Registrar holders of the company.38 38 Law on the Securities Market, Article 8, Clause 2. 21 Part_IV_Ch-13-14.indd 21 Part_IV_Ch-13-14.indd 21 17.09.2004 11:36:40 17.09.2004 11:36:40 The Russia Corporate Governance Manual Table 2: Ownership Disclosure Thresholds Who Should To Whom and Where to Threshold What Should be Disclosed Disclose Disclose 5% of the charter capital The company Personal data, the size of the To the FCSM. In the pro- or 5% of common sha- stake in the charter capital, and spectus and quarterly re- res39 the amount of common shares, ports, and on the company the dynamics of changes in the website. list of owners of 5% and the size of holdings 5% of the charter capital The company Information on the owners of To the FCSM. In the pro- or 5% of common shares 20% of the charter capital or spectus and quarterly report, if shareholders are legal common shares in the com- and on the company web- entities pany-shareholder, as well as site. the size of the stake in the charter capital and the amount of common shares (chain shareholding) 20% of voting shares The company Information on the owners of To the FCSM. In the List of 20% of voting shares Related Parties and on the company website. 20% and more of securi- The owner The holding of securities/the To the FCSM, not later than ties other than non-con- acquisition of securities five days after the thresh- vertible bonds40 olds are reached;41 as well as to the antimonopoly body.42 20% of voting shares The legal On legal entities that own 20% To the Supervisory Board, entity -- of voting shares in the com- Revision Commission, and owner pany External Auditor. The acquisition of any 5% The owner On the acquisition and/or To the FCSM not later than of securities above 20% as sale five days after the thresholds well as the sale of 5% if are reached. A special noti- the remaining stake is fication form is used for this higher than 20% purpose. Owning 25% of securities The company The holding of securities To the FCSM. In the mate- of any type43 rial events reports. 39 Law on the Securities Market, Article 22, Clause 8; Article 30, Clause 5. 40 Law on the Securities Market, Article 30, Paragraph 14. 41 Law on the Securities Market, Article 30, Paragraph 15. 42 Law on Competition, Article 18, Clause 1. 43 Law on the Securities Market, Article 30, Paragraph 12. 22 Part_IV_Ch-13-14.indd 22 Part_IV_Ch-13-14.indd 22 17.09.2004 11:36:40 17.09.2004 11:36:40 Chapter 13. Information Disclosure Information about the identity of "formal" shareholders is a prerequisite since they can exercise voting and dividend rights related to the shares they hold. But it may not be sufficient to work out the actual ownership and control structure because, if the "formal" shareholder is controlled by another person (the benefi- cial owner), it is the beneficial owner who can influence the behavior of "formal" shareholders and eventually control voting rights. Even more important, several "formal" shareholders can be controlled by the same beneficial owner. In such case, the real voting power of the beneficial owner consists of the sum of voting rights held by several "formal" shareholders. It is therefore necessary to know the identity of the beneficial owner and then attribute all the stakes held by the "for- mal" shareholders to him. Best Practices: Companies seeking to disclose their ownership structure may wish to follow examples under U.S. and EU regulations. U.S. regulations define a beneficial owner as any person who, directly or indi- rectly, through any contract arrangement, understanding, relationship, or otherwise has or shares:44 · Voting power, which includes the power to vote, or to direct the voting of, such a security; and/or · Investment power that includes the power to dispose, or direct the disposi- tion of, such security. U.S. securities law states that any person who is directly or indirectly the ben- eficial owner of more than 5% of any equity security of a class, shall notify the issuer and each exchange where the security is traded of such acquisition within 10 days, as well as of any increase or decrease by 1% of more.45 If the beneficial owner acts in concert with other institutions or persons, their names and the relationship with the beneficial owner must be disclosed. The EU Transparency Directive of 2001 provides a framework for disclosure.46 In summary: 1. Article 9 stipulates that investors must disclose the acquisition or disposal of major shareholdings in listed companies, based on thresholds starting at 5% continuing at intervals of 5% until 30% of voting rights, or charter capital or both. 44 17 Code of Federal Regulations (CFR), 240/ 13d-3(a). 45 U.S. Securities and Exchange Act 1934, Sec. 13d-1,2; 17 CFR 240, 13d-2. 46 See also: http://europa.eu.int/eur-lex/en/consleg/pdf/2001/en_2001L0034_do_001.pdf. 23 Part_IV_Ch-13-14.indd 23 Part_IV_Ch-13-14.indd 23 17.09.2004 11:36:40 17.09.2004 11:36:40 The Russia Corporate Governance Manual 2. Article 11(2) shortens the reporting obligation of the acquirer to the com- pany and the competent regulatory authority from seven calendar days to five business days on the one hand and, on the other, of the company to the public from nine calendar days to three business days. 3. Article 2 extends the definition of "security holder" to include custodians and those holding securities for clearing and settlement purposes. 4. Finally, Article 11(5) extends notification requirements to various classes of shares, such as warrants and convertible bonds if the holdings reach or fall below the thresholds defined in Article 9. Six Member States have already introduced this Directive by law or regulation. In addition, the EU Takeover Bids Directive's Article 10 regulates transparency issues, including the disclosure of beneficial ownership structures, and listed companies in the EU are thus required to disclose information in their annual report on, inter alia: 1. The structure of their capital; 2. Any restrictions on the free transferability of securities; 3. Significant direct and indirect shareholdings (including pyramid schemes and cross-shareholdings); 4. The holders of any securities with special control rights; 5. The system of control of any employee share scheme where the control rights are not exercised directly by employees; 6. Restrictions on voting rights; 7. Shareholder agreements that are known to the company; 8. The rules governing the appointment and replacement of Supervisory Board members; 9. Significant agreements made by the company that take effect upon a change of control; and 10. Compensation agreements between the company and its directors in the case of a successful takeover bid. Russian legislation requires timely disclosure of information regarding benefi- cial owners. In particular, the Company Law requires the nominal shareholder to disclose information to the company on persons on whose behalf he holds shares for the purposes of compiling the shareholder list for the GMS and distributing dividends.47 47 LJSC, Article 51, Clause 2; Article 42, Clause 4, Paragraph 2. 24 Part_IV_Ch-13-14.indd 24 Part_IV_Ch-13-14.indd 24 17.09.2004 11:36:40 17.09.2004 11:36:40 Chapter 13. Information Disclosure Best Practices: Opaque ownership structures continue to preoccupy the corporate governance debate since a considerable percentage of shares of Russian companies remain offshore with their true -- or beneficial -- owners hidden. Offshore structures can have legitimate uses. However, they are often used to conceal the identity of the owners of interests in underlying pools of assets and related parties, and tend to be associated with perceptions of tax-fraud, self- dealing, money laundering, illicit capital export, and other generally recognized unsavory business practices. International accords are making it increasingly difficult to use such structures for illegitimate purposes. Russian companies wishing to comply with good corporate governance prac- tices should disclose their ownership structure, including beneficial owners, in a transparent manner. b) Indirect Control Shareholders owning less than the majority of shares can exercise indirect control over the company through pyramid structures and/or cross sharehold- ings. Relationships with related parties may also alter the control structure of the company. For these reasons, information on indirect ownership, related parties, and related party transactions should be fully disclosed, specifically in the annual report,48 quarterly reports,49 material events report,50 and other noti- fications to regulators or creditors.51 Legal requirements are summarized in Figure 1. 48 FCSM Regulation No. 17/ps, Section 3.6. 49 Law on the Securities Market, Article 22, Clauses 8 and 11; FCSM Regulation No. 03-32/ps, Annex 13. 50 Law on the Securities Market, Article 30, Paragraph 12; FCSM Regulation No. 03-32/ps, Sec- tion 11.4. 51 LJSC, Article 15, Clause 6, Paragraph 1; Law on Competition, Article 18, Clause 1. 25 Part_IV_Ch-13-14.indd 25 Part_IV_Ch-13-14.indd 25 17.09.2004 11:36:40 17.09.2004 11:36:40 The Russia Corporate Governance Manual Figure 1: Disclosure of Indirect Ownership, Related Parties, and Related Party Transactions Quarterly Report Material Events Annual Report Notification of Report Regulators and Creditors Interest of Supervisory Board Acquisition of secu- Buyback of securities and executive body rities (see Table 2) (see Table 2) members in the charter capital Dependent companies with 5% Not applicable n/a n/a or more (n/a) participation Owners of 20% + of shares in a company -- shareholder who, in turn, own 5% + n/a n/a n/a of the company's charter capital or common shares (chain shareholding) Reorganization of the company, To creditors: reorgani- its subsidiaries, n/a n/a zation of the company or dependent companies Related party n/a n/a transactions Only if related Related parties parties are debtors n/a n/a n/a of the company Acquisition Transactions that · Acquisition of assets List of · Acquisition of assets if of the company's impose obligations entailing a one-time extraordinary and their book value exceeds assets or rights covering 10% or increase/decrease in the similar 10% of the book value to determine the more of the value of the company's transactions of the selling company's conditions of the company's assets assets by 10% and fixed and/or intangible company's business more; assets; activities · A one-time transaction · Acquisition of rights involving 10% and more providing the possibility of the company's assets to determine the condi- tions of the company's business activity or to act as its executive body Source: IFC, March 2004 26 Part_IV_Ch-13-14.indd 26 Part_IV_Ch-13-14.indd 26 17.09.2004 11:36:40 17.09.2004 11:36:40 Chapter 13. Information Disclosure Best Practices: In addition to the above-mentioned statutory requirements, companies should disclose the following material events related to beneficial shareholdings:52 · Transactions involving company property, the value of which is equal to, or in excess of, 2% of the non-current assets and/or which can materially influ- ence the market price of the company's shares; · Buyback by the company of its shares (unless connected with the reduction of the charter capital); and · Other transactions that can materially affect shareholder interests. Companies should further disclose information regarding the buyback of com- pany shares and the most important transactions in the annual report.53 Finally, a list of the company's related parties should be submitted by the company to the FCSM on a quarterly basis.54 For more information on the procedure to disclose the company's related parties, see Section C.5 of this Chapter. c) Shareholder Agreements and Voting Caps Shareholder agreements, voting caps, and caps of shareholdings can also affect control. Shareholder agreements typically oblige parties to vote as a block and may give first-refusal rights for the purchase of shares to another shareholder. Shareholder agreements can cover many issues including which candidates to nominate for the Supervisory Board or the selection of the Chairman. Best Practices: Russian legislation does not provide for the disclosure of share- holder agreements. Shareholder agreements, however, are clearly of material interest to shareholders. While difficult to detect, companies should make reason- able efforts to obtain information about the existence of shareholder agreements and to disclose such information to all shareholders.55 In principle, parties to shareholder agreements should voluntarily disclose this information themselves. 52 FCSM Code, Chapter 7, Section 2.3. 53 FCSM Code, Chapter 7, Section 3.3.2 and 3.3.4. 54 LJSC, Article 93, Clause 4; FCSM Regulation No. 03-19/ps on the Disclosure of Information about Affiliated Persons of Open Joint Stock Companies (FCSM Regulation No. 03-19/ps), Section 4. 55 FCSM Code, Chapter 7, Article 2.1.4 27 Part_IV_Ch-13-14.indd 27 Part_IV_Ch-13-14.indd 27 17.09.2004 11:36:41 17.09.2004 11:36:41 The Russia Corporate Governance Manual Voting caps limit the number of votes that a shareholder may cast regard- less of the number of shares he actually possesses. As such, caps go against the principle of one share -- one vote and control that is proportional to ownership. Voting caps are often used to either entrench the position of exist- ing controlling shareholders or management, and are rarely supported by good faith investors. Russian law allows voting caps and caps of shareholdings to be established, however, requires the company to disclose such caps in its charter.56 Caps should also be disclosed in the prospectus and quarterly reports.57 4. Information on Directors and Executives a) Personal Data Investors and shareholders should have access to relevant information about Supervisory Board members and key executives to evaluate their experience and qualifications. Educational background, current occupation, and professional experience of directors and senior executives should be disclosed and readily ac- cessible to interested parties. It is also important that shareholders and investors have information about any (existing or potential) conflicts of interest that may affect the independence and decision-making capacity of the Supervisory Board and Executive Board. Shareholders should also be able to assess whether or not Supervisory Board and Executive Board members dedicate sufficient time to their duties and prop- erly carry out their responsibilities. Accordingly, companies should disclose all other Board positions held by Supervisory or Executive Board members in other companies (domestic and foreign), and the meeting attendance records. Table 3 summarizes the legal disclosure requirements for members of the Supervisory and Executive Boards in the quarterly report,58 annual report,59 the list of related parties,60 and in notifications to regulators.61 56LJSC, Article 11, Clause 3. 57Law on the Securities Market, Article 22, Clause 8. 58Law on the Securities Market, Article 22, Clause 7; Article 30, Paragraph 5; FCSM Regulation No. 03-32/ps, Annex 11, Section V. 59FCSM Regulation No. 17/ps, Section 3.6. 60FCSM Regulation No. 03-19/ps, Section 4. 61Law on Competition, Article 18, Clause 6. 28 Part_IV_Ch-13-14.indd 28 Part_IV_Ch-13-14.indd 28 17.09.2004 11:36:41 17.09.2004 11:36:41 Chapter 13. Information Disclosure Table 3: Disclosures on Supervisory and Executive Board members Quarterly Annual List of Related Notification of Report Report Parties Regulators Full name of all individuals n/a Current positions n/a n/a Election of an individual into executive bodies and Supervisory Board of two or more companies Positions for the last five n/a n/a n/a years Brief biographical data n/a n/a n/a Kinship of Supervisory and n/a n/a n/a Executive Board members and the Internal Auditor Best Practices: Legal disclosure requirements clearly fall short of best prac- tices. According to the FCSM Code, companies should also disclose the fol- lowing information in its annual report:62 · Other key officials of the company, including their curriculum vitae; · Information about all transactions between these other key officials and the company; · Age, profession, employment, and citizenship of each Supervisory Board member, as well as all other positions, the date of initial appointment, and the current term of appointment; and · Information on all claims filed in Russian or foreign courts (or arbitration tribunals) against Supervisory and Executive Board members and/or the General Director. b) Remuneration Incentive remuneration schemes are common in many countries and come in many varieties. Few companies have such arrangements that are identical to one another. Executive remuneration plans are usually put in place in an effort to motivate executives, and better align their interests with the interests of shareholders. They 62 FCSM Code, Chapter 7, Article 3.3.3. 29 Part_IV_Ch-13-14.indd 29 Part_IV_Ch-13-14.indd 29 17.09.2004 11:36:41 17.09.2004 11:36:41 The Russia Corporate Governance Manual normally include performance based bonuses. Incentive remuneration schemes may not be the most effective way of alleviating inherent conflicts of interests and, in any event, should always be subject to careful legal and financial examination and the approval of both the Supervisory Board and the GMS.63 Remuneration plans for non-executive directors will differ considerably. In Russia, companies must disclose aggregate data on the amount of remu- neration for each governing body during the last completed fiscal year in the prospectus and quarterly report, as well as existing agreements regarding such payments in the current fiscal year.64 Best Practices: The remuneration of Supervisory Board members and key executives is disclosed on an individual basis in some countries, putting share- holders in a better position to assess the extent to which an individual's remu- neration is justified in view of his responsibility and/or performance. It also allows shareholders to hold executives and Supervisory Board members fully accountable for the performance of their duties. · With respect to executive remuneration plans, shareholders and investors should have sufficient information to properly assess their costs and benefits to the company, and the relation between the performance of the company, on the one hand, and the level of executive remuneration, on the other. · At some point, the independence of non-executive directors may be com- promised if they earn a significant amount of their total income from their Board activities. Some countries have monetary thresholds that serve as convenient "rules of thumb" or warning signals. While numerical thresholds may be a reasonable starting point, judgments on independence will, of course, require a much more sophisticated analysis. The disclosure of a non-executive director's remuneration remains critical in order to judge the extent to which their independence may be compromised. Companies should not only be transparent with respect to the levels of remu- neration but also the methods for determining remuneration. The criteria for determining the amount of remuneration for Supervisory Board members, the General Director and/or Executive Board members -- as well as the total amount 63 FCSM Code, Chapter 4, Section 5.1.2. 64 Law on the Securities Market, Article 22, Clause 7; FCSM Regulation No. 03-32/ps, Annex 11, Section V. 30 Part_IV_Ch-13-14.indd 30 Part_IV_Ch-13-14.indd 30 17.09.2004 11:36:41 17.09.2004 11:36:41 Chapter 13. Information Disclosure of remuneration paid or to be paid depending on the results of the reporting year -- must be disclosed in the annual report.65 Best Practices: To adhere to the spirit of full disclosure of remuneration, com- panies may find it necessary to disclose information regarding the remuneration of other company officials who are not part of the Executive or Supervisory Boards.66 For more information on non-executive and executive remuneration practices, see Part II, Chapter 4, Section H and Chapter 5, Section G, respectively. 5. Material Foreseeable Risk Factors Risk (along with return) is one of the most important considerations for any inves- tor. Risks may include particular industry risks as well as political, commodities, derivatives, environmental, market, and interest and currency fluctuation risks. In short, risk is an omnipresent feature of business activity. Risk is, by its very nature, forward looking and extremely difficult to quantify. Nevertheless, companies are required to describe material risks in their annual re- ports.67 Specific industry, country and regional risks, as well as financial and legal risks all need to be disclosed in prospectuses and quarterly reports.68 For more information on how to manage risk, see the model by-law on risk man- agement in Part VI, Annex 27. 6. Employees and Other Stakeholders Russian law requires the prospectus and quarterly reports to contain information on the following issues regarding employees, creditors, and other company stake- holders:69 65 FCSM Regulation No. 17/ps, Section 3.6. 66 FCSM Code, Chapter 7, Section 3.3.3. 67 FCSM Regulation No. 17/ps, Section 3.6. 68 Law on the Securities Market, Article 22, Clause 4; FCSM Regulation No. 03-32/ps, Annex 11, Article 2.5. 69 Law on the Securities Market, Article 22, Clauses 7­8; FCSM Regulation No. 03-32/ps, An- nex 11, Sections 5.7, 5.8, 2.1, 2.3. 31 Part_IV_Ch-13-14.indd 31 Part_IV_Ch-13-14.indd 31 17.09.2004 11:36:41 17.09.2004 11:36:41 The Russia Corporate Governance Manual · Number of employees, and any material changes in that number; · General or aggregated data on educational background, composition of per- sonnel, salaries and wages paid, and social insurance; · Employee share ownership and stock option plans; · List of debtors whose debts exceed 10% of accounts receivable; and · Amount and structure of accounts payable. Company employees and creditors are further entitled to access information on reorganization, bankruptcy, and liquidation issues.70 Strictly speaking, most of the information on employees and other stakehold- ers may not be "material" according to the accounting or financial definitions of the term. On the other hand, information about the company's employees, creditors, and suppliers, as well as the company's relationship with local communi- ties, can be "material" to other constituencies. Employees are also users of infor- mation, and disclosure helps them to make better employment decisions, protect themselves in the workplace, and participate in other aspects of company life. Stakeholder disclosure is becoming increasingly common as an issue of interest and attention worldwide. Best Practices: While some forms of stakeholder disclosure are required by law, it is good practice to provide stakeholders with other relevant information. For example, stakeholder disclosure might include the health protection of em- ployees, safety conditions in the workplace, and environmental or community impact statements.71 Formoreinformationontheimportanceofstakeholderissues,seePartI,Chapter1, Section A.2. See also Part VI, Annex 5 for a model company code of ethics. 7. Corporate Governance Structures and Policies When assessing a company's governance structure, market participants may want to obtain information on the company's governing bodies, including the division of authority between shareholders, directors, and executives, as well as on the 70On information disclosure to employees, see Labor Code, Article 53. 71FCSM Code, Chapter 7, Section 3.3.5. 32 Part_IV_Ch-13-14.indd 32 Part_IV_Ch-13-14.indd 32 17.09.2004 11:36:41 17.09.2004 11:36:41 Chapter 13. Information Disclosure company's corporate governance policy, its commitment to corporate governance principles, and compliance mechanisms. The charter is the document that sets the rules and procedures of the compa- ny's governance system. It is a fundamental document of the company that is to be made publicly available. Company-level corporate governance codes also serve to highlight general corporate governance concepts and structures. By-laws fi- nally provide more detailed guidance on processes. For more information on the charter, see Part I, Chapter 3, Section A. See also Part VI, Annex 2 for a model company charter. Most recently, Russian companies are required to disclose whether they follow FCSM Code provisions in their annual reports on a "comply or explain" basis.72 Comply or explain means that while compliance is not mandatory, the reasons for non-compliance with the FCSM Code should be explained. Best Practices: It is necessary to disclose information about corporate conflicts resulting from improper implementation by the company of those FCSM Code recommendations that the company declared binding upon itself in one form or another.73 a) Commitment to Corporate Governance Markets are keenly interested in understanding the level of a company's commit- ment to good governance practices. They wish to determine whether a company sees governance as a public relations, "box-ticking," or "window-dressing" exercise, or whether the company is in fact willing "to do right" by shareholders, and to institute and implement real change as necessary and appropriate. While good disclosure, in and of itself, is not sufficient to consistently and uniformly ensure good corporate governance, it is clearly one way of demonstrating the commitment a company is willing and able to make to its shareholders and to its other stakeholders. 72 FCSM Regulation No. 17/ps, Section 3.6; FCSM Instruction No. 03-849/r on Methodological recommendations on the content and the form of disclosure of information on the compli- ance with the Code of Corporate Conduct in Annual Reports of joint Stock Companies, 30 May 2003, Section 5; FCSM Code, Chapter 7, Section 3.3.6. 73 FCSM Code, Chapter 7, Section 3.3.6. 33 Part_IV_Ch-13-14.indd 33 Part_IV_Ch-13-14.indd 33 17.09.2004 11:36:42 17.09.2004 11:36:42 The Russia Corporate Governance Manual For more information on how a company can properly express its commitment to corporate governance, see the IFC corporate governance progression matrix in Part VI, Annex 1. b) Corporate Governance Structures Companies must describe their governance structures, including the authority of each governing body and internal control mechanisms, in their prospectus and quarterly reports.74 Companies must also describe the procedures for calling and conducting their GMS in these documents,75 and disclose GMS decisions in mate- rial events reports.76 Best Practices: Companies should disclose information about changes in the identity of (or contractual arrangements with) the company's External Auditor, Registrar, or depository in their material events reports.77 c) Corporate Governance Policies Companies should disclose their corporate governance policies, and provide interested users with easy and inexpensive access to this information. Best Practices: The FCSM Code recommends companies to develop disclosure policies that should be approved by the Supervisory Board and be binding upon the company.78 Some of the provisions suggested by the FCSM Code for inclu- sion in company policies include:79 · List of information the company intends to disclose; · Rules for communicating with the mass-media, as well as the sources and regularity of communications; · Media contacts, including press conferences, publications, brochures, and booklets; 74Law on the Securities Market, Article 22, Clause 7; FCSM Regulation No. 03-32/ps, Annex 11, Section 5.4. 75FCSM Regulation No. 03-32/ps, Annex 11, Section 8.1.4. 76Law on the Securities Market, Article 30, Paragraph 12; FCSM Regulation No. 03-32/ps, Sec- tion 6.2.1. 77FCSM Code, Chapter 7, Section 2.3. 78FCSM Code, Chapter 7, Section 1.1.1. 79FCSM Code, Chapter 7. 34 Part_IV_Ch-13-14.indd 34 Part_IV_Ch-13-14.indd 34 17.09.2004 11:36:42 17.09.2004 11:36:42 Chapter 13. Information Disclosure · The requirement for executive bodies to conduct meetings for shareholders and analysts; · Procedures for answering questions from all shareholders; · List of information, documents, and materials to be provided to all share- holders for the GMS; · List of confidential information; and · Procedures for the identification and treatment of insider information. In addition, companies should consider disclosing other internal policies or by-laws such as a code of ethics, environmental policies, and the by-laws for the Supervisory Board and its committees among others. For more information on company policies and by-laws, see Part I, Chapter 3. For a model code of ethics, see Part VI, Annex 5. For a set of model by-laws for the Supervisory Board, as well as its committees, see Part VI, Annexes 6 through 10. C. Mandatory Disclosure Russian legislation provides different forms and procedures for mandatory dis- closure. Companies will, at various times, have to report to regulatory authorities, respond to information requests from shareholders or other stakeholders, or dis- close the occurrence of specific events. This section describes the procedural re- quirements for the following forms of mandatory disclosure: · Disclosure during securities placement, specifically the prospectus; · Quarterly reports; · Material events reports; · Providing documents and information to shareholders through the annual report; · List of related parties; · Notification of regulators; · Notification of creditors; and · Providing information to the company's employees. 35 Part_IV_Ch-13-14.indd 35 Part_IV_Ch-13-14.indd 35 17.09.2004 11:36:42 17.09.2004 11:36:42 The Russia Corporate Governance Manual 1. Disclosure During the Placement of Securities a) The Prospectus Companies must prepare and register prospectuses under certain circumstances.80 A prospectus provides material information on the company so that investors can make informed decisions on the merits of potential investments. Prospectuses set forth the nature and object of shares, debentures, or other securities, and the in- vestment and risk characteristics of the issue. Investors must be furnished with a prospectus before purchasing securities. For more detailed information on the prospectus, see Part III, Chapter 11, Sec- tion C. b) Decisions and Events to Be Disclosed Russian legislation and regulations impose certain disclosure requirements on companies when issuing securities. The FCSM requires a number of events to be disclosed in the mass media:81 · The decision to place securities; · The decision to issue securities; · State registration of the issue; · Start and completion of the placement; and · State registration of the report on the results of the issue. Figure 2 summarizes events that the company must disclose on its corporate website,82 website ticker,83 in the mass media,84 and to interested parties.85 Similar requirements apply to the disclosure of amendments or suspension of issues.86 80Law on the Securities Markets, Article 19, Clause 2. 81FCSM Regulation No. 03-32/ps, Section II. 82FCSM Regulation No. 03-32/ps, Sections 1.6, 2.2.2, 2.3.2, 2.4.2, and 2.5.2. 83FCSM Regulation No. 03-32/ps, Section 1.4. The FCSM has authorized the Interfax and AK&M agencies whose website tickers must be used for disclosure. 84FCSM Regulation No. 03-32/ps, Section 1.7. In the case of an open subscription, the com- pany must publish an announcement in a journal with a circulation of not less than 10,000 copies. In the case of closed subscription, in a publication with a print run of not less than 1,000 copies. Additionally, the announcement must be published in the Supplement to the Vestnik of the FCSM. 85FCSM Regulation No. 03-32/ps, Section 1.9. 86FCSM Regulation No. 03-32/ps, Section 2.5. 36 Part_IV_Ch-13-14.indd 36 Part_IV_Ch-13-14.indd 36 17.09.2004 11:36:42 17.09.2004 11:36:42 Chapter 13. Information Disclosure Figure 2: Disclosure During Security Placements Website Ticker Mass Media Corporate Website Access to Copies Events One day after the Not later than five Not later than three Within seven days of Decision to place date of the minutes days after the date days after the date the request securities of the minutes of the minutes One day after the Not later than five Not later than three Within seven days of Decision to issue date of the minutes days after the date days after the date the request securities of the minutes of the minutes One day after the Not later than five Not later than three Within seven days of State registration of date of state days after the date days after the date the request securities issue registration of state registration of state registration, incl. prospectus Not later than five Not applicable (n/a) Not later than four n/a Start of the days before the date days before the date placement of placement of placement Next day from the Not later than five Not later than three n/a date of placement of days after the date of days from the date of Completion of the the last security or placement of the last placement of the last placement the last day of security or the last security or the last placement day of placement day of placement State registration of One day after the Not later than five days Not later than three days Within seven days of the report on the date of the report's after the date of the from the date of the the request results of the issue registration report's registration report's registration Source: IFC, March 2004 2. Quarterly Reports Companies that have registered a prospectus must file quarterly reports.87 The content and amount of information in the quarterly report must be consistent with the requirements established for prospectuses. The law does not require the quar- terly report to include information regarding the procedure and the terms of place- ment of securities, as such information is included in the prospectus itself.88 87 Law on the Securities Market, Article 30, Paragraph 4. 88 Law on the Securities Market, Article 30, Paragraph 5. 37 Part_IV_Ch-13-14.indd 37 Part_IV_Ch-13-14.indd 37 17.09.2004 11:36:42 17.09.2004 11:36:42 The Russia Corporate Governance Manual a) Signatories of the Quarterly Report Both the General Director and Chief Accountant must sign quarterly reports to attest to their reliability and completeness.89 b) Filing Quarterly Reports Quarterly reports must be submitted to the FCSM or its regional agencies no later than 45 days after the last day of the reporting quarter.90 The company must also provide access to a copy of the quarterly report at the location of its executive bodies. Copies of quarterly reports must further be provided to the owners of the company's securities at their request, within seven days from the day of the request, for a charge not exceeding the costs of copying.91 Finally, the company must also publish the quarterly report on the company's website no later than 45 days after the last day of the reporting quarter.92 3. The Material Events Report Companies that register a prospectus must file material events reports when sig- nificant incidents, circumstances, or events affect their activities.93 a) Signatories of the Material Events Report The General Director must sign the material events report. The Chief Ac- countant should also sign reports on material market transactions, changes in net profits; or changes in company assets.94 89Law on the Securities Market, Article 30, Paragraph 11; FCSM Regulation No. 03-32/ps, Sec- tion 5.4. 90Law on the Securities Market, Article 30, Paragraph 10; FCSM Regulation No. 03-32/ps, Sec- tion 5.6. 91Law on the Securities Market, Article 30, Paragraph 11; FCSM Regulation No. 03-32/ps, Sec- tion 1.9. 92FCSM Regulation No. 03-32/ps, Section 5.7. 93Law on the Securities Market, Article 30, Paragraph 4; FCSM Regulation No. 03-32/ps, Sec- tion 6. 94FCSM Regulation No. 03-32/ps, Section 6.1.4. 38 Part_IV_Ch-13-14.indd 38 Part_IV_Ch-13-14.indd 38 17.09.2004 11:36:43 17.09.2004 11:36:43 Chapter 13. Information Disclosure b) Codification of Material Events Each material event should be reported separately.95 For statistical purposes, the FCSM codifies material events reports and requires that every report be marked with a relevant code.96 c) Filing Material Events Reports Companies must file the material events report with the FCSM within five days of the event's occurrence. The report must also be disclosed on the web- site ticker the day after the event, on the corporate website no later than three days after, and in the mass media no later than five days after the day of its occurrence.97 Companies must provide access to a copy of material events reports at the location of its executive bodies. Copies of reports must be provided to the own- ers of the company's securities at their request within seven days from the day of the request, for a charge not exceeding copying costs.98 4. Information for Shareholders Through the Annual Report Companies are obliged to provide shareholders with access to corporate documents, regardless of the number of shares owned.99 Arguably, the most important document to be provided to shareholders is the company's annual report. It is a formal record of a company's financial condition that must be distributed to shareholders under the Company Law and FCSM regulations. Included in the report is a description of company operations as well as a balance sheet, income statement, and the other items listed above (in this Chapter's Section B.1 on Financial and Operating Results). 95 FCSM Regulation No. 03-32/ps, Section 6.1.6. 96 FCSM Regulation No. 03-32/ps, Section 6.2. 97 Law on the Securities Market, Article 30, Paragraph 13; FCSM Regulation No. 03-32/ps, Sec- tions 6.3.1 and 6.3.2. Additionally, the report must be published in the Supplement to the Vestnik of the FCSM. (FCSM Regulation No. 03-32/ps, Section 1.7). 98 Law on the Securities Market, Article 30, Paragraph 11; FCSM Regulation No. 03-32/ps, Sec- tion 1.9. 99 LJSC, Article 91. 39 Part_IV_Ch-13-14.indd 39 Part_IV_Ch-13-14.indd 39 17.09.2004 11:36:43 17.09.2004 11:36:43 The Russia Corporate Governance Manual The annual report is a shorter and more easily digestible version of more detailed financial information filed with the FCSM. Annual reports increasingly include forward-looking and qualitative information that is important to readers. They must be signed by the company's General Director and the Chief Account- ant, and must receive the preliminary approval of the Supervisory Board before being submitted to the GMS for final approval.100 For more information on shareholder rights and the GMS, see Part III, Chapters7 and 8 respectively. For more information on the annual report, see Part VI, An- nex 29. 5. The List of Related Parties All companies must disclose information on related parties on a quarterly basis, including personal data, grounds, and duration of affiliation.101 a) Signatories to the List of Related Parties The General Director must attest to the reliability and completeness of the information included in the list of related parties by signing this list.102 b) Disclosure of the List of Related Parties Companies must submit the list of related parties to the FCSM or its re- gional agencies no later than 45 days after the last day of the reporting quarter. The FCSM is, in turn, required to disclose these lists by posting them on its website.103 c) The List of Related Companies Companies which have securities listed on either RTS or MICEX are addition- ally obliged to disclose the list of related parties (as well as any changes to the list for at least the last three years) on their corporate website with subsequent noti- fication to the FCSM.104 100FCSM Regulation No. 17/ps, Section 3.7. 101LJSC, Article 93, Clause 4; FCSM Regulation No. 03-19/ps, Section 4. 102FCSM Regulation No. 03-19/ps, Section 7. 103See www.fcsm.ru. FCSM Regulation No. 03-19/ps, Section 5. 104FCSM Regulation No. 03-19/ps, Sections 3 and 8. 40 Part_IV_Ch-13-14.indd 40 Part_IV_Ch-13-14.indd 40 17.09.2004 11:36:43 17.09.2004 11:36:43 Chapter 13. Information Disclosure For more detailed discussion on the importance of disclosing related party transac- tion, see Section B.3 in this Chapter, as well as Part III, Chapter 12, Section C. 6. Notification to Regulators Companies must notify regulatory bodies such as the FCSM and the Ministry of Antimonopoly Policy and Support of Entrepreneurial Activities (MAP).105 a) Notification to the FCSM The owner of securities must notify the FCSM about changes in his sharehold- ings beyond 20% of voting shares within five days from the date of the change. The notification should include general information about the owner and securi- ties under consideration.106 b) Notification to the MAP Notification is required if the total book value of the assets of the acquirer and acquired company exceeds 100 thousand times the minimum monthly wage. The MAP must be notified within 45 days from the date of purchasing 20% and more of voting shares. The company is also required to notify the MAP within 45 days of the election of an individual to the executive bodies or Supervisory Board of two or more companies with a total book value of assets exceeding 100 thousand times the minimum monthly wage. The same holds true for companies included in the register of companies having more than 35% of the market share of certain goods.107 In practice, the book value thresholds are so low that virtually any combina- tion of publicly traded companies, or election to the Supervisory Board, triggers notification requirements. Notification must include the formal application of the interested person. The notification must also include information about the company's main activities, its production volumes and the distribution of its products in corresponding goods markets, as well as other information required by the MAP.108 105 Law on the Securities Market, Article 30; Law on Competition, Article 18. 106 Law on the Securities Market, Article 30, Paragraph 15. 107 Law on Competition, Article 18, Clause 6. 108 Order of MAP No. 276 on the Adoption of the Regulation about the Procedure of Submitting Notifications and Petitions to Antimonopoly Bodies in accordance with Articles 17 and 18. 41 Part_IV_Ch-13-14.indd 41 Part_IV_Ch-13-14.indd 41 17.09.2004 11:36:43 17.09.2004 11:36:43 The Russia Corporate Governance Manual 7. Notification to Creditors Creditors are notified through personal notification and publication of announce- ments in the press. Figure 3 summarizes the requirements for the notification of creditors when the company decreases its charter capital,109 reorganizes,110 liqui- dates,111 or enters into bankruptcy proceedings.112 Figure 3: Notification to Creditors Decrease in Charter Capital Reorganization Liquidation Bankruptcy Individually Form of Notification Via Press Deadlines 30 days 30 days not defined Three days General General Liquidation Bankruptcy Responsible Body Director Director Commission Administrator Source: IFC, March 2004 8. Providing Information to Company Employees Employees represent a specific class of information users. One of their rights is to receive information affecting their interests. The representatives of the com- pany's employees, usually members of the local trade union (but other repre- sentatives may be elected by employees) have the right to receive information from their employer regarding the following issues:113 · Reorganization and liquidation of the company; · Introduction of technological changes leading to changes in labor conditions; · Continuous professional education (CPE) to advance professional skills; and 109 LJSC, Article 30, Clause 1. 110 LJSC, Article 15, Clause 6, Paragraph 1. 111 LJSC, Article 22, Clauses 1 and 3. 112 Law on Insolvency, Article 54. 113 Labor Code, Article 53, Clause 2. 42 Part_IV_Ch-13-14.indd 42 Part_IV_Ch-13-14.indd 42 17.09.2004 11:36:43 17.09.2004 11:36:43 Chapter 13. Information Disclosure · Other issues stipulated by Russian legislation, internal corporate documents, and collective bargaining agreements. Employee representatives are entitled to make suggestions on these issues to the governing bodies and participate in their meetings when these issues are con- sidered.114 Finally, the company is required to provide employee representatives with full and reliable information needed for the conclusion of collective bargain- ing agreements and the supervision of their fulfillment.115 D. Voluntary Disclosure It is good practice for companies to voluntarily disclose material information beyond formal legal requirements. This holds particularly true for companies operating in emerging markets that are often marred by weak legal and regula- tory environments, and, moreover, poor enforcement mechanisms. To the extent possible, companies are encouraged to use existing forms of disclosure (e.g., pro- spectuses, and quarterly, annual, and material events reports) and adhere to the same quality standards that are demanded for these forms of reporting. They are also encouraged to use existing channels of communication, such as the internet and the print media. This section describes disclosure practices of Russian com- panies in the mass media and the internet. 1. Corporate Websites Corporate websites are easily accessible to the public at low cost, and can be an exceptionally powerful means of communication. At present, the internet is be- ginning to be accepted as an official disclosure channel. Web-based disclosure is being studied closely by securities commissions worldwide. Best Practices: The following information should be placed on the company's website:116 · The company's charter and amendments thereto; · Information on the company's development strategy; · Quarterly reports; 114 Labor Code, Article 53, Clause 3. 115 Labor Code, Article 22, Clause 2. 116 FCSM Code, Chapter 7, Article 1.1.2. 43 Part_IV_Ch-13-14.indd 43 Part_IV_Ch-13-14.indd 43 17.09.2004 11:36:44 17.09.2004 11:36:44 The Russia Corporate Governance Manual · Prospectuses; · External Auditor's reports; · Information on material events; · Information regarding the GMS; and · Important Supervisory Board decisions. The company should also place the annual report on its website. The internet is an effective tool for rapid and cost-effective communications and is increasingly used by Russian companies for voluntary disclosure. Company Practices in Russia: Some Russian companies place their annual and financial reports, and governance information (such as information on Su- pervisory Board members and key executives) on their websites. The better websites have special sections devoted to corporate governance and include contact addresses and telephone numbers for inquiries. Some Russian companies are already following best practices and disclose ad- ditional information on their websites, including:117 · Financial statements for the last three years; · Financial ratios for the last three years; · Internal corporate documents; · Structure, authorities, and composition of the governing bodies; · List of affiliated persons for the last year; · Annual and quarterly reports for the last three years; · Materials and results of the GMS for the last three years; · Information on corporate securities; and · Corporate news ticker. 2. SKRIN "Emitent" Company Practices in Russia: Russian companies are increasingly disclosing information through the Internet using SKRIN ("System of Complex Disclosure of News Information"). SKRIN was founded by the National Association of Stock Market Participants (NAUFOR), which is now part of the RTS Group. 117Based on the results of the 6th all-Russia competition on annual reports and corporate web- sites. See also: www.rts.ru/?tid=394&mtid=10000. 44 Part_IV_Ch-13-14.indd 44 Part_IV_Ch-13-14.indd 44 17.09.2004 11:36:44 17.09.2004 11:36:44 Chapter 13. Information Disclosure The heart of SKRIN is a database called SKRIN "Emitent" ("Issuer").118 Compa- nies contract for SKRIN's services and furnish it with corporate information. SKRIN subscribers are then granted access to the following company-specific information: · Company charters; · Quarterly reports; · Accounting reports, drawn up in accordance with RAS and IFRS; and · Material events reports. Some companies pay SKRIN for the expenses related to the dissemination of information and in this way allow users to access their information free of charge. 3. Mass Media The print media are an additional channel for disclosure. Although publication may entail additional costs, it is a recognized legal channel for disclosure and (un- like the internet, which is passive) ensures the active dissemination of information among the public. Most companies disclose information about new products, major contracts, acquisitions, financial results, production plans, and securities issues in the print media. Best Practices: The FCSM Code considers financial statements to be the most important document for shareholders and potential investors to understand the financial position of the company. In this respect, companies with 10,000 or more shareholders should publish their financial statements in at least two newspapers with a circulation of not less than 50,000 each. In principle, these newspapers should be accessible to the majority of the company's shareholders.119 E. Summary of Mandatory Disclosures Table 4 summarizes mandatory disclosure requirements for Russian com- panies. 118 See also: www.skrin.ru. 119 FCSM Code, Chapter 7, Clause 1.1.2. 45 Part_IV_Ch-13-14.indd 45 Part_IV_Ch-13-14.indd 45 17.09.2004 11:36:44 17.09.2004 11:36:44 The Russia Corporate Governance Manual to of Info or n/a employees GD specially appointed executives Employees Not applicable (n/a) Place employment -- in media n/a creditors Liquidation eholders/ days, defined personal Notification to GD/ Commission/ Bankruptcy Administrator Stak creditors 30 liquidation not Publication mass and notification to -- and of and/ DG the -- MAP n/a days regulators FCSM; days FCSM MAP Notification Interested persons through FCSM, Five the 45 MAP Notification the or or to report 20 the body the seven of of Corporate upon prior defined: fice Annual GD, Secretary, specially appointed executives Shareholders Within days request/ days GSM Of company executive Not results development to ter related through GD quar n/a of parties interested FCSM FCSM List Any person the Every Submission the in to er, the events cases Chief days tick mass- more of three disclosed value, reports and interested day/ five and ticular FCSM Material GD, Accountant par Any person Next within and depending where Submission the website corporate website, media 10% increase/ decrease assets large-scale transactions 45 ter of report the the to signing than quar of ter corporate ter af interested af later day ting Chief FCSM, fice, Quarterly GD by Accountant Any person Not days last repor Submission the company's of website Financial statements, ratios, composition assets/capital Disclosure er, y five Director tick mass- placement and disclosed n/a interested day/within depending Disclosure ebsite ebsite, during General (GD) Any person Next three days where W corporate W media Mandator 4: of ableT Details/ Forms Responsible person Recipients Deadline/ frequency Place disclosure Financial and operating results 46 Part_IV_Ch-13-14.indd 46 Part_IV_Ch-13-14.indd 46 17.09.2004 11:36:44 17.09.2004 11:36:44 Chapter 13. Information Disclosure to n/a n/a n/a n/a Info employees n/a n/a n/a n/a creditors Notification to to of of more and n/a ypet more n/a and one regulators any Notification Owners/ acquirers 20% of securities (FCSM+MAP) Directors executives holding than appointment (MAP) and yt the report par of of y share risks y aggregate Annual fecting Commercial objectives priorit activities Related transactions Biographical data, ownership, amount remuneration in Major af activit company the in related of n/a related n/a parties of ties List List par Included list more of events of n/a n/a n/a reports 25% company's Material Owners than the securities in report only over yt each size other region, rate of risks par of chain about interest Quarterly Commercial objectives Owners 5%, shareholding, related transactions Info member, remuneration aggregate, of Risks industry, currency fluctuation, potential Disclosure y Placement n/a n/a n/a n/a Disclosure during Mandator 4: y share and ableT voting factors Details/ Forms Company objectives Major ownership and rights Supervisor Board key executives, remunera- tion Risk 47 Part_IV_Ch-13-14.indd 47 Part_IV_Ch-13-14.indd 47 17.09.2004 11:36:44 17.09.2004 11:36:44 The Russia Corporate Governance Manual to tech- liqui- n/a Info employees Reorganiza- tion, dation, nological changes, CPE, foundation documents, collective bargaining agreements in ter n/a creditors char Notification to Decrease the capital, reorganization, liquidation to n/a n/a regulators Notification of Code report n/a recom- FCSM Annual Compliance with mendations the related n/a n/a of parties List events n/a n/a reports Material each report and of body y Quarterly General information regarding employees, suppliers, debtors, creditors Authorit governing Disclosure y Placement n/a n/a Disclosure during Mandator 4: ableT other policies Details/ Forms Issues regarding employees and stakehold- ers Governance structures and 48 Part_IV_Ch-13-14.indd 48 Part_IV_Ch-13-14.indd 48 17.09.2004 11:36:45 17.09.2004 11:36:45 ChapterChapter 14 Control and Audit Procedures Part_IV_Ch-13-14.indd 49 Part_IV_Ch-13-14.indd 49 17.09.2004 11:36:45 17.09.2004 11:36:45 Table of Contents A. THE REVISION COMMISSION.........................................................................54 1. The Composition and Requirements for Members...............................54 2. Authorities..............................................................................................55 3. The Nomination of Members.................................................................56 4. The Election and Dismissal of Members ..............................................57 5. Contracts with Members .......................................................................58 6. The Remuneration of Members.............................................................58 7. Operating Procedures ............................................................................58 8. Reporting ...............................................................................................60 B. THE INDEPENDENT EXTERNAL AUDITOR........................................................61 1. When an Annual Audit Is Required.......................................................61 2. The Rights and Duties of the External Auditor.....................................63 3. The Rights and Duties of the Company................................................64 4. The Appointment of the External Auditor..............................................65 5. Compensation ........................................................................................68 6. Reporting ...............................................................................................68 7. The External Auditor's Liability..............................................................69 C. THE AUDIT COMMITTEE ...............................................................................70 1. Functions................................................................................................72 2. Composition...........................................................................................73 3. Meetings ................................................................................................74 4. Access to Information and Resources ..................................................75 D. INTERNAL CONTROL FUNCTION .....................................................................76 1. Internal Control Principles.....................................................................76 2. Elements of the Internal Control System ..............................................77 3. Bodies and Persons Responsible for Internal Control..........................79 4. Internal Auditing.....................................................................................80 5. The Control and Revision Service.........................................................82 6. Management's Report on Internal Control over Financial Reporting ...85 E. SUMMARY....................................................................................................85 Part_IV_Ch-13-14.indd 50 Part_IV_Ch-13-14.indd 50 17.09.2004 11:36:46 17.09.2004 11:36:46 The Chairman's Checklist What is the relationship between the Revision Commission, Supervisory Board's Audit Committee, Internal Auditor, and/or Control and Revision Service? Have their roles and responsibilities been properly defined to avoid overlap and conflict? The Revision Commission: Is the Revision Commission fulfilling its function and duties? Has the Revi- sion Commission ever found, and reported on, possible misstatements or other violations to the General Meeting of Shareholders? Who are the members of the Revision Commission? Are any employees members? Are the members fully independent from management? Does the Revision Commission meet regularly and respond to all share- holder requests and inquiries? The External Audit: Does the company have an independent External Auditor? Does the Ex- ternal Auditor provide other, non-audit services to the company that could compromise his independence? Are audit partners rotated? How is the External Auditor selected? Does an open tender process take place? If so, who organizes this tender process? To whom does the External Auditor report? Does the External Auditor participate in the Annual General Meeting of Shareholders and answer all questions posed by shareholders? The Audit Committee: Should the company's Supervisory Board have an Audit Committee? What are the costs and benefits? If the company has an Audit Committee, is it staffed with individuals who are independent, able, and willing to do the job properly and effectively? Does the Chairman of the Audit Committee have the requisite professional and human relations skills? Are Audit Committee members publicly recog- nized financial experts? Does the Audit Committee meet often enough to perform its duties effectively? Does it place the necessary and appropriate issues on the agenda? 51 Part_IV_Ch-13-14.indd 51 Part_IV_Ch-13-14.indd 51 17.09.2004 11:36:46 17.09.2004 11:36:46 The Russia Corporate Governance Manual Does the Audit Committee add value to the Supervisory Board's discussion of audit, risk, internal control, and financial reporting? Does the Audit Committee receive the necessary information to perform its duties effectively? Does it have resources to hire outside accounting or legal advice? Does the Audit Committee perform self-evaluations on a regular basis? Internal Control: Does the company have a system of internal control in place? Does the company have a formal document that regulates the internal control system and procedures? Is this document periodically reviewed? Does the company have a risk management system in place? Does this system cover risk at the subsidiary level as well? How are business, opera- tional, and financial risks identified? Does the Internal Auditor report to management or the Supervisory Board? To whom should the Internal Auditor report? Are there barriers that could discourage the Internal Auditor from reporting problems to the company? A system for internal and external audit is an important tool both in the manage- ment and oversight of a company, and also contributes to transparent and sound financial reporting. There are a number of internal structures and external agents involved in the management and oversight of company finances and operations. These bodies are diverse in their nature, functions, and reporting lines. Some are mandatory, while others are optional. The Revision Commission focuses on controlling financial and business activi- ties of the company and monitoring compliance with laws and regulations. The mission, scope, and duties of the Revision Commission are narrower than that of the Audit Committee. The Revision Commission may: monitor compliance with regulations governing the company's business operations; express an opinion on whether reports and financial statements provide a true and accurate picture; and ascertain whether business and financial transactions are recorded properly. The Revision Commission reports to shareholders. The independent External Auditor examines a company's financial and account- ing records, as well as supporting documents, in all material respects. Sharehold- ers depend upon the External Auditor to express an independent opinion that the financial statements of an enterprise are reliable. 52 Part_IV_Ch-13-14.indd 52 Part_IV_Ch-13-14.indd 52 17.09.2004 11:36:46 17.09.2004 11:36:46 Chapter 14. Control and Audit Procedures The Supervisory Board's Audit Committee safeguards the company by question- ing executive bodies regarding the way in which financial reporting responsibilities are handled, as well as by ensuring that corrective actions are being taken. The Audit Committee oversees the Internal Auditor and the company's relations with the External Auditor. It may consider the appointment of an External Auditor, review the internal audit plan, review the effectiveness of internal control systems, consider major findings of internal audit investigations and management re- sponses to these, and promote co-ordination between the Internal and External Auditors. Finally, the Audit Committee may consider the draft annual accounts and review the External Auditor's conclusions on annual financial statements. The Audit Committee is part of the Supervisory Board, and as such, develops recom- mendations for the Board's consideration; the Audit Committee consequently has no independent decision-making authority. The Internal Auditor (or the Control and Revision Service) is responsible for the ongoing daily appraisal of the financial health of a company's operations. Com- pany employees carry out this function. During an internal audit, Internal Auditors evaluate and monitor a company's risk management, reporting, and control prac- tices, and make suggestions for improvement. Internal auditing not only covers the finance function, but also the company's operations and systems. The Internal Auditor reports to the Supervisory Board, ideally to its Audit Committee, on a functional basis, and to the General Director on an administrative basis. Best Practices: Audit committees have only recently been introduced in Russia, where there is more experience with Revision Commissions. Questions may arise over the extent to which the responsibilities of these two bodies overlap, and which is best able to oversee the preparation of financial information and assess the systems of internal controls. At present, it appears that given the differences in their mandate, they could fulfill complementary functions. How- ever, many experts will argue that the function of the Revision Commision does indeed overlap with the External Auditor and the Audit Committee; most coun- tries throughout the world have chosen to strengthen the latter two, and many have chosen to abolish the Revision Commission. This chapter discusses the role, authority, and duties of these various bodies in detail, and how they specifically contribute to company transparency and in- formation disclosure. For an overview of these agents and their reporting lines, see Figure 1. 53 Part_IV_Ch-13-14.indd 53 Part_IV_Ch-13-14.indd 53 17.09.2004 11:36:46 17.09.2004 11:36:46 The Russia Corporate Governance Manual Figure 1: Management Structures and External Agents According to Law and Best Practice The Revision Commission The General Meeting The External Auditor Section A of Shareholders Section B The Audit Committee The Supervisory Board Section C The Internal Auditor / Control The General Director and/or and Revision Service Executive Board Section D Mandatory body Functional reporting lines Optional body Administrative reporting lines Source: IFC, March 2004 A. The Revision Commission The Revision Commission controls the operations and financial activities of the company.120 Any company, regardless of its legal form (open or closed), must have a Revision Commission. Its primary function is to provide an independent opinion on the reliability of the company's financial information to the company's shareholders, as well as the company's compliance with laws and regulations during business operations. 1. The Composition and Requirements for Members Revision Commissions may take a number of forms. They may be composed of a single individual or a number of individuals.121 Best Practices: Because Company Law does not determine the number of Revision Commission members, companies should specify the number in the charter. 120Law on Joint Stock Companies (LJSC), Article 85, Clause 1, Paragraph 1. 121When this Manual makes reference to the Revision Commission, this also includes any indi- vidual who is performing the function of a Revision Commission. 54 Part_IV_Ch-13-14.indd 54 Part_IV_Ch-13-14.indd 54 17.09.2004 11:36:46 17.09.2004 11:36:46 Chapter 14. Control and Audit Procedures Revision Commission members should be independent of the company's management, and may not be:122 · A Supervisory Board member; · The General Director; · An Executive Board member; or · A Counting Commission member.123 Best Practices: Revision Commission members should be neither company officials nor Supervisory Board members, the General Director, or an Executive Board member of a competing legal entity.124 Generally, Revision Commission members should be chosen based on their financial background and expertise. The Federal Commission for the Secu- rities Market's Code of Corporate Conduct (FCSM Code) advises that only persons with impeccable reputations be elected to the Revision Commis- sion.125 The charter and by-laws can provide additional requirements for Revision Commission members such as proficiency in accounting and finan- cial reporting.126 2. Authorities The Revision Commission has the authority to: · Conduct an annual inspection of the company's finances and operations before the Annual General Meeting of Shareholders (AGM);127 · Undertake extraordinary inspections of the company's finances and opera- tions;128 · Review the accuracy of the company's annual report and annual financial statements;129 122 LJSC, Article 85, Clause 6, Paragraph 1. 123 LJSC, Article 56, Clause 2. 124 FCSM Code, Chapter 8, Section 1.3.4. 125 FCSM Code, Chapter 8, Section 1.3.3. 126 FCSM Code, Chapter 8, Section 1.3.2. 127 LJSC, Article 85, Clause 3. 128 LJSC, Article 85, Clause 3. 129 LJSC, Article 88, Clause 3, Paragraph 1. 55 Part_IV_Ch-13-14.indd 55 Part_IV_Ch-13-14.indd 55 17.09.2004 11:36:47 17.09.2004 11:36:47 The Russia Corporate Governance Manual · Demand an Extraordinary General Meeting of Shareholders (EGM);130 · Demand a Supervisory Board meeting to discuss items under its authority;131 · Request and receive minutes of Executive Board meetings;132 · Request and receive documents regarding the company's finances and operations from the executive bodies;133 and · Request and receive information concerning related parties and related party transactions.134 In addition, shareholders are provided with great flexibility in defining ad- ditional authorities of the Revision Commission in the charter.135 Best Practices: Additional authorities and duties of the Revision Commission should include the authority to: · Investigate cases of using insider information; · Check the timeliness of payments to contractors and mandatory budget payments; · Check the timeliness of the accrual and payment of dividends, as well as the timely meeting of the company's other financial obligations; · Check the appropriateness of using the company's reserve and other funds; · Check the timeliness of payment for the company's issued shares; · Review the financial condition of the company, specifically its solvency, the liquidity of its assets, and creditworthiness; and · Oversee the timeliness of the valuation of the company's net assets. 3. The Nomination of Members The procedure for nominating candidates to the Revision Commission is identi- cal to the procedure for nominating candidates to the Supervisory Board, the 130LJSC, Article 55, Clause 1, Paragraph 1; LJSC, Article 85, Clause 5. 131LJSC, Article 68, Clause 1. 132LJSC, Article 70, Clause 2, Paragraph 2. 133LJSC, Article 85, Clause 4. 134LJSC, Article 82. 135LJSC, Article 85, Clause 2, Paragraph 1. 56 Part_IV_Ch-13-14.indd 56 Part_IV_Ch-13-14.indd 56 17.09.2004 11:36:47 17.09.2004 11:36:47 Chapter 14. Control and Audit Procedures Executive Board, the Counting Commission, and for nominating the General Director.136 For more information on the nomination process, see Part III, Chapter 8, Section B.1. The charter can require that additional information about candidates be in- cluded in the proposal for their nomination. 4. The Election and Dismissal of Members The agenda of the AGM must include the election of the Revision Commission.137 This means that Revision Commission members are elected for a one year term and serve until the next AGM. The GMS cannot elect the Revision Commission by written consent.138 Revision Commission members are elected by a simple majority vote of par- ticipating shareholders.139 It is important to note that Supervisory Board members, the General Director, and Executive Board members are not entitled to vote on the election of the Revision Commission.140 The authority of individual members of the Revision Commission can be terminated at any time by a simple majority vote of participating share- holders.141 Best Practices: Although the Company Law does not prohibit Supervisory Board members, the General Director, or Executive Board members from vot- ing on the early termination of the Revision Commission, such a prohibition would be consistent with the prohibition on their election in the first place. Accordingly, it is good practice for company officials not to vote in such cases. 136 LJSC, Article 53. 137 LJSC, Article 47, Clause 1, Paragraph 3; Letter from the FCSM No. IK-07/883, 28 February 2000. 138 LJSC, Article 50, Clause 2. 139 LJSC, Article 49, Clause 2, Paragraph 1. 140 LJSC, Article 85, Clause 6, Paragraph 2. 141 LJSC, Article 48, Clause 1, Section 9; Article 49, Clause 2, Paragraph 1. 57 Part_IV_Ch-13-14.indd 57 Part_IV_Ch-13-14.indd 57 17.09.2004 11:36:47 17.09.2004 11:36:47 The Russia Corporate Governance Manual 5. Contracts with Members Companies may conclude an employment contract142 or a civil law contract143 with Revision Commission members. Best Practices: Employment contracts are typically entered into with company employees who report directly to management. A company should thus conclude civil law contracts with Revision Commission members, underlining their inde- pendence from management. The charter or by-laws should specify who signs the contract on behalf of the company. In principle, the Chairman of the General Meeting of Shareholders (GMS) or the Supervisory Board (who are often one and the same person) should do this. If, on the other hand, the General Director or another executive signs the contract, this would likely affect the independence of the Revision Commission, either in appearance or in fact. Of course, the authority to sign the contract does not imply the authority to negotiate or alter contract terms. Key elements and terms of the contract, for example, remuneration, are subject to the GMS' approval. 6. The Remuneration of Members The GMS decides whether Revision Commission members are compensated for their work and reimbursed for expenses.144 The Supervisory Board, ideally through a Remuneration Committee, if established, should recommend the amount of remuneration for GMS approval. A shareholder (or a group of shareholders) owning at least 2% of voting shares has the right to propose such agenda item.145 7. Operating Procedures A Revision Commission's operating procedures can be specified in the charter or, preferably, in the company's by-laws for the Revision Commission, approved by 142Labor Code, Article 59. 143Civil Code (CC), Articles 779­783. 144LJSC, Article 85, Clause 1, Paragraph 2. 145LJSC, Article 53, Clause 1. 58 Part_IV_Ch-13-14.indd 58 Part_IV_Ch-13-14.indd 58 17.09.2004 11:36:47 17.09.2004 11:36:47 Chapter 14. Control and Audit Procedures the GMS.146 Revision Commission members usually elect their Chairman during their first meeting. The charter or by-laws may provide the Chairman of the Revision Commission with the responsibility to: · Call, organize, and preside over Revision Commission meetings; · Prepare and sign the minutes of meetings and other decisions; · Represent the Revision Commission in meetings with third parties; and · Cast a deciding vote at meetings in case of a tie-vote. The charter or by-laws must specify what constitutes a quorum and define the voting procedures.147 Best Practices: The quorum should not be less than half of the Revision Com- mission members, and decisions should be approved by a simple majority vote.148 In addition to annual inspections of finances and operations, the Revision Commission may carry out extraordinary inspections at its own discretion, or be required to do so upon:149 · A decision of the GMS; · A request of the Supervisory Board; or · A request of a shareholder (or a group of shareholders) owning at least 10% of voting shares. Best Practices: Extraordinary inspections should start no later than 30 days, either after the Revision Commission receives a shareholder request, or after the respective minutes of the GMS or the Supervisory Board meeting containing a request to carry out an extraordinary inspection have been signed. These inspections should take no more than 90 days to complete.150 146 LJSC, Article 85, Clause 2, Paragraph 2. 147 LJSC, Article 85, Clause 2, Paragraph 2. 148 FCSM Code, Chapter 8, Section 3.1.2. 149 LJSC, Article 85, Clause 3. 150 FCSM Code, Chapter 8, Section 3.1.3. 59 Part_IV_Ch-13-14.indd 59 Part_IV_Ch-13-14.indd 59 17.09.2004 11:36:47 17.09.2004 11:36:47 The Russia Corporate Governance Manual The Revision Commission must prepare a written report on the findings of each inspection.151 Best Practices: The Revision Commission should present the results of the extraordinary inspection to the Audit Committee (if established) and the initiator of the extraordinary inspection with the assistance of the company's Corporate Secretary not later than three days after finalizing the inspection.152 8. Reporting a) Inspection Report The Revision Commission must prepare a report on the results of each an- nual inspection and present:153 · Its conclusions on the accuracy of the company's operations, financial reports, and other documents; and · Information regarding any violations of accounting and financial reporting procedures, disclosure rules, and relevant laws and regulations. Best Practices: All Revision Commission members should sign the report and:154 · Those who have not signed the report explain why they have not done so; or · Indicate that a member refused to sign and was unwilling to provide an explanation for such refusal. Revision Commission members who attend the GMS should provide shareholders the opportunity to ask questions and discuss inspection results.155 b) Presenting the Inspection Report The Revision Commission's conclusions should be attached to the company's annual report. Because the Supervisory Board must preliminarily approve the 151LJSC, Article 87. 152FCSM Code, Chapter 8, Section 3.1.5. 153LJSC, Article 87. 154FCSM Code, Chapter 8, Section 3.1.4. 155FCSM Code, Chapter 2, Section 2.1.2. 60 Part_IV_Ch-13-14.indd 60 Part_IV_Ch-13-14.indd 60 17.09.2004 11:36:47 17.09.2004 11:36:47 Chapter 14. Control and Audit Procedures annual report no less than 30 days before the AGM,156 it is good practice for the Revision Commission to give the Supervisory Board at least ten days to review and discuss the inspection report. Thus, the Revision Commission should submit their inspection report to the Supervisory Board at least 40 days before the AGM. The annual inspection report must also be distributed to shareholders as a separate document before the AGM.157 B. The Independent External Auditor An independent audit conducted by an External Auditor is an important element of the company's control framework. The objective of an audit is to enable the External Auditor to express an opinion on whether or not the financial statements of the company are prepared, in all material respects, in accordance with an iden- tified financial reporting framework, and whether they are reliable. It gives shareholders, managers, employees, and market participants an independent opin- ion about the company's financial position and, if performed properly, should attest to the accuracy of the statements. An independent audit conducted by a publicly recognized accounting firm normally enhances the company's credibility, and accordingly, its prospects for attracting investment. Three key points about the independent audit are: 1. Management remains responsible for preparing and presenting the company's financial statements; 2. The External Auditor is responsible for forming and expressing an opinion on the financial statements prepared by management; and 3. The audit of the financial statements does not relieve management of any of its responsibilities. 1. When an Annual Audit Is Required The Law on Auditing provides that companies must have an annual, independent audit conducted by a certified independent External Auditor (or a licensed audit company), when the company:158 156 LJSC, Article 88, Clause 4. 157 LJSC, Article 52, Clause 3, Paragraph 1. 158 Law on Auditing, Article 7, Clause 1, Paragraph 2. 61 Part_IV_Ch-13-14.indd 61 Part_IV_Ch-13-14.indd 61 17.09.2004 11:36:47 17.09.2004 11:36:47 The Russia Corporate Governance Manual · Is incorporated as an open joint stock company; or · Has revenues for the reporting year greater than 500 thousand times the minimum wage;159 or · Has a book value of assets that, as of the end of the year, exceeds 200 thousand times the minimum wage. Company Practices in Russia: Figure 2 shows that 61% of regional companies are audited by an External Auditor at least once every year.160 34% have ex- ternal audits conducted more frequently. However, more than one-third violate the procedures set out for the election of the External Auditor in the Company Law in that the are not elected by the GMS. There is also serious concern regarding the independence of the External Auditor (and, by extension, the qual- ity of the assurances provided) in at least one-third of Russian companies. Figure 2: Frequency of Internal and External Audits Audit is not conducted Fewer than once a year Once a year Half a year Quarterly Monthly % of companies Source: IFC Survey on Corporate Governance Practices in Russia's regions, August 2003 159The Law on the Minimum Amount of Payment for Labor, Article 4. Currently, the minimum monthly wage is set at RUR 100. 160IFC Survey on Corporate Governance Practices in Russia's regions, Section 2.2.2, page 29, August 2003 (see www.ifc.org/rcgp). 62 Part_IV_Ch-13-14.indd 62 Part_IV_Ch-13-14.indd 62 17.09.2004 11:36:48 17.09.2004 11:36:48 Chapter 14. Control and Audit Procedures 2. The Rights and Duties of the External Auditor The External Auditor has the authority to:161 · Determine the method of conducting the audit; · Examine the documentation, as well as uncover and confirm assets of the company; · Receive oral and written explanations on any issues that arise during the audit; · Refuse to carry out the audit or provide an opinion about the reliability of financial statements if the company does not provide all required documents or when circumstances arise that have an effect on the Auditor's opinion; · Have access to the charter, including amendments and any restated charter;162 · Request an EGM;163 · Request a Supervisory Board or an Executive Board meeting;164 · Receive minutes of Executive Board meetings;165 · Receive information from interested parties on related parties and related party transactions;166 and · Provide other services as specified by legislation.167 See Section B.4 in this Chapter for a discussion on conflicts of interests when Ex- ternal Auditors provide non-audit services to their audit clients. The External Auditor must:168 · Carry out the audit in conformity with Russian (and any applicable foreign) laws; · Provide the company with relevant information on the legal requirements for conducting the audit, as well as any legal acts on which the comments and conclusions of the External Auditor are based; 161 Law on Auditing, Article 5, Clause 1. 162 LJSC, Article 11, Clause 4. 163 LJSC, Article 55, Clause 1, Paragraph 1. 164 LJSC, Article 68, Clause 1. 165 LJSC, Article 70, Clause 2, Paragraph 2. 166 LJSC, Article 82. 167 Law on Auditing, Article 1, Clause 5. 168 Law on Auditing, Article 5, Clause 2. 63 Part_IV_Ch-13-14.indd 63 Part_IV_Ch-13-14.indd 63 17.09.2004 11:36:48 17.09.2004 11:36:48 The Russia Corporate Governance Manual · Provide the audited company with the audit report within the time specified by the contract between the External Auditor and the company; · Ensure the safekeeping of documents received or developed during the audit, and not permit the disclosure of the contents of these documents to any un- authorized persons without the consent of the company, except when such disclosure is required by law; and · Carry out other duties that derive from the nature of the legal relationship specified by the contract between the External Auditor and the company, as long as such duties do not contradict Russian (and any applicable fo- reign) laws. Best Practices: The External Auditor will often submit, and companies seeking to implement good corporate governance should demand, what is referred to as a `management letter' in addition to the audit report. This management let- ter typically covers all material weaknesses in the company's internal control, accounting, and operating procedures. The purpose of the letter is to provide constructive suggestions to management concerning improvements for such procedures. The findings contained in the management letter are considered to be "non- reportable" to third parties, yet require corrective action by management. Com- panies wishing to attract external finance should be aware that investors will typically request a copy of the management letter. 3. The Rights and Duties of the Company The company has the right to:169 · Receive from the External Auditor relevant information on the legal require- ments related to the audit, as well as any legal acts on which the comments and conclusions of the External Auditor are based; · Receive the audit report within the time specified by the contract between the External Auditor and the company; and · Exercise other rights that derive from the nature of the legal relationship specified by the contract between the External Auditor and the company, 169Law on Auditing, Article 6, Clause 1. 64 Part_IV_Ch-13-14.indd 64 Part_IV_Ch-13-14.indd 64 17.09.2004 11:36:48 17.09.2004 11:36:48 Chapter 14. Control and Audit Procedures as long as the existence of such rights does not contradict Russian (and any applicable foreign) laws. The audited company is obligated to:170 · Conclude a contract with the External Auditor for carrying out the statutory audit within the time specified by Russian law; · Assist the External Auditor in every way in successfully completing the audit, including: providing all necessary information and documentation, furnishing full explanations and confirmations, and, when necessary, securing information from third parties; · Not hinder the successful completion of the audit in any way; · Pay for the External Auditor's services, even when the conclusions of the audit report conflict with the opinions of the company's officials; and · Carry out other duties that derive from the nature of the legal relationship specified in the contract between the External Auditor and the company, as long as such duties do not contradict Russian (and any applicable fo- reign) laws. 4. The Appointment of the External Auditor The External Auditor is approved by a simple majority vote of shareholders par- ticipating in the GMS.171 Best Practices: The Supervisory Board should propose candidates for the External Auditor and provide its recommendation to the GMS.172 However, it is widely considered an even better practice for the Supervisory Board to conduct an open tender for the provision of audit services on a regular basis. The Audit Committee of the Supervisory Board should oversee the selection process, and assess the qualification, expertise, resources, effectiveness, and independ- ence of the External Auditor.173 170 Law on Auditing, Article 6, Clause 2. 171 LJSC, Article 48, Clause 1, Section 10; Article 49, Clause 2, Paragraph 1. 172 FCSM Code, Chapter 8, Section 4.1.7. 173 Audit Committees, Combined Code Guidance, Sir Robert Smith group. Paragraph 5.17. See also: www.ecgi.org/codes/country_pages/codes_uk.htm. 65 Part_IV_Ch-13-14.indd 65 Part_IV_Ch-13-14.indd 65 17.09.2004 11:36:48 17.09.2004 11:36:48 The Russia Corporate Governance Manual A shareholder (or a group of shareholders) owning 2% or more of voting shares can propose items related to the approval of the External Auditor for inclu- sion on the AGM agenda.174 The AGM agenda must always include the appointment of an External Audi- tor.175 Therefore, an External Auditor must be approved for one year until the next AGM. The GMS cannot approve the External Auditor by written con- sent.176 a) Who Can Be an External Auditor Any individual certified as an individual auditor, or a legal entity with a license to perform auditing services, can be an External Auditor.177 The External Auditor must be independent of the company and its management. In particular, an audit cannot be conducted by an audit organization if:178 · The External Auditor is the founder, the General Director, the accountant, or other official of a firm responsible for the bookkeeping or accounting of the company; · The External Auditor is a relative of the founders of the company, its officials, accountants, and other persons responsible for the bookkeeping or accounting of the company; · The General Director and other officials of the audit firm are the founders of the audited company or its accountants, or are responsible for the bookkeeping and/or accounting of the audited company; · The General Director or other officials of the audit firm are relatives of the founders of the company, its officials, accountants, or other persons respon- sible for the bookkeeping or accounting of the audited company; · The audit firm has been established by the audited company or is its founder (this also applies to subsidiaries, branches, or representative offices of the audited company); · The audit firm and the audited company have common founders or share- holders; or 174LJSC, Article 53, Clause 1, Paragraph 1. 175LJSC, Article 54, Clause 2. 176LJSC, Article 50, Clause 2. 177Law on Auditing, Article 3, Clause 1; Article 4, Clause 1. 178Law on Auditing, Article 12, Clause 1. 66 Part_IV_Ch-13-14.indd 66 Part_IV_Ch-13-14.indd 66 17.09.2004 11:36:48 17.09.2004 11:36:48 Chapter 14. Control and Audit Procedures · The audit firm provided other services related to the restoration of the book- keeping and the preparation of financial statements to the audited company during the last three years. The External Auditor may not have any proprietary interest in the company or its shareholders.179 All large international accounting firms normally have strict rules that preclude their staff from having a proprietary interest in any of their audit clients. Best Practices: In the U.S., the 2002 Sarbanes-Oxley Act prohibits public accounting firms from providing non-audit service to their audit clients including: (1) bookkeeping or other services related to the accounting records or financial statements of the audit client; (2) financial information systems design and implementation; (3) appraisal or valuation services, fairness opinions, or contri- bution-in-kind reports; (4) actuarial services; (5) internal audit outsourcing services; (6) management functions or human resources; (7) broker or dealer, investment adviser, or investment banking services; (8) legal services and expert services unrelated to the audit; and (9) any other service that the Board of Directors determines, by regulation, is impermissible.180 An exception to this rule is made should non-audit services that are not listed above be pre-approved by the Supervisory Board's Audit Committee. The Audit Committee should, however, disclose these services to investors in pe- riodic reports. Another exception is made when the non-audit services consti- tute less than 5% of the total amount of revenues paid to its auditor, these services were not recognized to be non-audit services at the time of engage- ment, and the Audit Committee promptly approves these services prior to the completion of the audit. b) The Contract with the External Auditor The company must enter into a contract with the External Auditor once he has been approved by the GMS. The Company Law does not specify who must sign the contract on behalf of the company. In practice, this is often the Gen- eral Director. The contract with the External Auditor stipulates the rights and duties of the External Auditor and the company, and may include any additional terms that the parties agree upon. 079 LJSC, Article 88, Clause 3. 180 The Sarbanes-Oxley Act of 2002, Section 201(a). See also: www.sarbanes-oxley.com. 67 Part_IV_Ch-13-14.indd 67 Part_IV_Ch-13-14.indd 67 17.09.2004 11:36:48 17.09.2004 11:36:48 The Russia Corporate Governance Manual 5. Compensation The company pays for the External Auditor's services. The Supervisory Board has the authority to determine the amount of the External Auditor's compensation.181 Clearly, the procedure for the payment of compensation and the amount of com- pensation must not be made dependent upon audit results.182 Best Practices: The amount of compensation for the services of the External Auditor should be disclosed to shareholders. 6. Reporting The External Auditor presents conclusions on the reliability of the company's financial statements and compliance with accounting procedures.183 The opinion paragraph of the auditor's report should state the auditor's opinion as to whether the financial statements give a true and fair view (in all material respects) in ac- cordance with the financial reporting framework used by the company and, where appropriate, whether the financial statements comply with statutory requirements.184 The External Auditor must prepare a report on the annual audit that includes:185 · Conclusions on the accuracy of the company's reports and other financial documents; and · Information on violations of accounting or financial reporting procedures, disclosure rules, and relevant laws and regulations. Best Practices: The External Auditor should divulge (potential) errors, miscon- duct, and violations of legislation or the company's internal rules during audits, and report them immediately to the Supervisory Board or its Audit Committee.186 The External Auditor should make the company aware, as soon as practical 181LJSC, Article 65, Clause 1, Paragraph 2, Section 10; Article 86, Clause 2. 182Law on Auditing, Article 12, Clause 2. 183Law on Auditing, Article 10, Clause 1. 184The International Federation of Accountants' International Standards on Auditing (ISA) 700, The Auditor's Report on Financial Statements. 185LJSC, Article 87. 186FCSM Code, Chapter 8, Section 4.1.3. 68 Part_IV_Ch-13-14.indd 68 Part_IV_Ch-13-14.indd 68 17.09.2004 11:36:48 17.09.2004 11:36:48 Chapter 14. Control and Audit Procedures and at an appropriate level of responsibility, of material weaknesses in the design or operation of the accounting and internal control systems, which have come to the Auditor's attention.187 The Supervisory Board or Audit Committee should take appropriate steps to remedy these problems. The format and contents of and procedures for submitting the audit report to shareholders and the GMS are specified by the Federal Standards of Auditing.188 Best Practices: The External Auditor should participate in the AGM and answer shareholder questions with respect to the audit report.189 Moreover, the Audit Committee should evaluate:190 · Whether the audit was made in accordance with the established procedures and whether the External Auditor omitted any matters in carrying out the audit; and · The opinion of the External Auditor before it is presented at the GMS. If the company plans to seek access to international capital markets, the Ex- ternal Auditor should prepare the report in accordance with the International Standards on Auditing (ISA) issued by the International Federation of Accountants (IFAC).191 7. The External Auditor's Liability Since the External Auditor is liable for civil, administrative, and criminal infrac- tions,192 he should be adequately insured by a reputable (domestic or interna- tional) insurance provider with appropriate coverage.193 187 ISA 400, Risk Assessment & Internal Control. 188 Law on Auditing, Article 10, Clause 2; LJSC, Article 52, Clause 3, Paragraph 1. 189 FCSM Code, Chapter 8, Section 4.1.2. 190 FCSM Code, Chapter 8, Section 4.1.5. 191 International Standards on Auditing are available on the International Federation of Account- ants' website under: www.ifac.org. 192 Law on Auditing, Article 21, Clause 1. 193 Law on Auditing, Article 13. 69 Part_IV_Ch-13-14.indd 69 Part_IV_Ch-13-14.indd 69 17.09.2004 11:36:49 17.09.2004 11:36:49 The Russia Corporate Governance Manual a) Civil Liability The grounds and terms of civil liability are usually specified in the contract between the External Auditor and the company. The External Auditor must keep information confidential about company operations.194 If the External Auditor divulges confidential information, the company may seek compensation for the resulting losses.195 b) Administrative Liability The Law on Auditing states that the External Auditor bears administrative liability if he provides the company with an obviously false opinion.196 In such cases, the Auditor's license may be revoked. c) Criminal Liability The Criminal Code stipulates that when the External Auditor uses his author- ity for his own purposes and violates the rights of a company or related parties, the External Auditor may be prosecuted.197 C. The Audit Committee The Supervisory Board is not legally required to establish an Audit Committee, though it is increasingly seen as an essential element of the corporate governance structure in some countries. While still optional in Russia, the FCSM Code and this Manual recommend that companies establish an Audit Committee. Key Practices: The Audit Committee typically focuses on three main areas: financial reporting, risk management, and internal and external auditing (see Figure 3). International best practices suggest that the Audit Committee develop and maintain an internal document, for example a by-law for the Audit Committee, 194Law on Auditing, Article 8, Clause 1. 195Law on Auditing, Article 8, Clause 4. 196Law on Auditing, Article 11, Clause 2. The Article defines an "obviously false report" as a report on an audit that was: 1) drawn up without actually carrying out the audit; or 2) based on conclusions that are clearly inconsistent with the audited documents. The report can be deemed "obviously false" only by a court. A false report can also give rise to criminal liability. 197The Criminal FCSM Code, Article 202. 70 Part_IV_Ch-13-14.indd 70 Part_IV_Ch-13-14.indd 70 17.09.2004 11:36:49 17.09.2004 11:36:49 Chapter 14. Control and Audit Procedures Figure 3: The Three Main Areas of Focus for the Audit Committee Audit Committee Risk Management Financial Reporting Internal and External Audit Source: IFC, March 2004 that addresses its purpose, duties, and responsibilities. The following are sug- gested by the New York Stock Exchange (NYSE):198 · The purpose of the Audit Committee is to assist the Supervisory Board to oversee the integrity of the company's financial statements, the company's compliance with legal and regulatory requirements, the independent Auditor's qualifications and independence, and the performance of the company's internal audit function and independent Auditors, on the one hand; and, on the other, to prepare the report that Securities Commission rules require be included in the company's annual proxy statement. · The duties and responsibilities of the Audit Committee are to, inter alia: -- At least annually, obtain and review the report by an independent Auditor; -- Discuss the annual audited and quarterly financial statements with management and the independent Auditor; -- Discuss earnings press releases, as well as financial information and earnings guidance provided to analysts and rating agencies; -- As appropriate, obtain advice and assistance from outside legal, ac- counting, or other advisors; -- Discuss policies with respect to risk assessment and risk management; -- Meet separately, at least quarterly, with management, with Internal Auditors, and with independent Auditors; -- Review with the External Auditor any audit problems or difficulties and management's response; -- Set clear hiring policies for employees or former employees of the in- dependent Auditors; and -- Report regularly to the Board of Directors. · Conduct an annual performance evaluation of the Audit Committee. 198 New York Stock Exchange Corporate Accountability and Listing Standards Committee, 6 June 2002 (see also: www.nyse.com). 71 Part_IV_Ch-13-14.indd 71 Part_IV_Ch-13-14.indd 71 17.09.2004 11:36:49 17.09.2004 11:36:49 The Russia Corporate Governance Manual 1. Functions The Audit Committee should: · Develop recommendations for the Supervisory Board on selecting an External Auditor;199 · Interact with the company's External Auditor and Revision Commission;200 · Control financial and business operations, and oversee the implementation of the financial and business plan of the company;201 · Monitor the Control and Revision Service;202 · Evaluate the efficiency of internal control procedures;203 · Develop internal control and risk management procedures in cooperation with management;204 and · Develop recommendations for the Supervisory Board's approval of non- standard operations.205 Best Practices: The National Association of Corporate Directors' (NACD) Blue Ribbon Commission on Audit Committees has identified the following indicators of risk that the Audit Committee should monitor and closely examine:206 · Complex business arrangements appearing to serve little practical pur- pose; · Large last-minute transactions that resulted in significant revenues in quar- terly or annual reports; · Changes in Auditors over accounting or auditing disagreements; · Overly optimistic news releases in which the CEO (General Director) seeks to cajole investors into believing in future growth; 199FCSM Code, Chapter 3, Section 4.9. 200FCSM Code, Chapter 3, Section 4.9. 201FCSM Code, Chapter 8, Section 1.1.2, Paragraph 2; Chapter 8, Sections 2.2 and 2.3. 202FCSM Code, Chapter 8, Section 1.1.2, Paragraph 3. 203FCSM Code, Chapter 8, Section 1.2. 204FCSM Code, Chapter 8, Section 1.2, Paragraph 1. 205FCSM Code, Chapter 8, Section 1.4. 206The Report of the NACD Blue Ribbon Commission on Audit Committees. See also: www. nacdonline.org. Reprinted with permission of the NACD, 1133 21-st Street, NW, Suite 700, Washington, DC 20031, www.nacdonline.org. 72 Part_IV_Ch-13-14.indd 72 Part_IV_Ch-13-14.indd 72 17.09.2004 11:36:49 17.09.2004 11:36:49 Chapter 14. Control and Audit Procedures · Widely dispersed business locations with decentralized management and a poor internal reporting system; · Inconsistencies between Management's Discussion and Analysis (MD&A), the President's letter, and the underlying financial statements; · Insistence by the General Director or Chief Financial Officer (CFO) that he be present at all meetings of the Audit Committee and Internal or External Auditors; · A consistently close or exact match between planned results and reported results, and managers who always achieve 100% of their bonus opportuni- ties; · Hesitancy, evasiveness, and/or lack of specifics from management or Audi- tors regarding questions about the financial statements; · Frequent differences of views between management and External Auditors; · A pattern of shipping most of the month's or quarter's sales in the last week or last day; · Internal audit operating under scope restrictions, such as the Internal Audi- tor not having a direct line of communication to the Audit Committee; · Unusual balance sheet changes, or changes in trends or important financial statement relationships such as, for example, receivables growing faster than revenues, or accounts payable that are continually delayed; · Unusual accounting policies, particularly for revenue recognition and cost deferrals such as, for example, recognizing revenues before products have been shipped ("bill and hold"), or deferring cost items that are normally expensed as incurred; · Accounting methods that appear to favor form over substance; · Accounting principles/practices at variance with industry norms; and · Numerous and/or recurring unrecorded or "waived" adjustments raised in connection with the annual audit. 2. Composition The charter should set forth special professional qualifications for Audit Commit- tee members. Of particular importance is that members have relevant and real expertise in accounting and financial reporting.207 As a guideline, the qualifications 207 FCSM Code, Chapter 8, Section 1.3.2. 73 Part_IV_Ch-13-14.indd 73 Part_IV_Ch-13-14.indd 73 17.09.2004 11:36:49 17.09.2004 11:36:49 The Russia Corporate Governance Manual of Audit Committee members should inspire confidence that they are able and willing to detect accounting irregularities, and act in the best interests of the com- pany and its shareholders. It is, therefore, recommended that only persons of an impeccable reputation be elected to the Supervisory Board and appointed to the Audit Committee.208 Because the Audit Committee is an internal structure of the Supervisory Board, it consists solely of Supervisory Board members. The Audit Committee should have at least three members, though this may be difficult for small Supervisory Boards. Other individuals will likely participate in Audit Committee meetings (such as the External Auditor or Revision Commision members). They may not, however, be Committee members. Best Practices: An experienced individual should chair the Audit Committee. The independence, aptitude, and leadership skills of the Chairman are crucial for the Committee's success. The Audit Committee should further be composed entirely of independent direc- tors as recommended by the FCSM Code.209 If this is not practically possible, it is recommended that an independent director chair the Audit Committee, and that the Committee be composed solely of non-executive directors. For more information on independent and non-executive Supervisory Board mem- bers, see Part II, Chapter 4, Sections C.4 and D.2. 3. Meetings If a Supervisory Board meeting considers matters pertaining to Audit Com- mittee activities, a meeting of the Audit Committee should take place before the Supervisory Board meets. This meeting should occur sufficiently in ad- vance of the Supervisory Board meeting to allow the Audit Committee to communicate its conclusions and allow the Supervisory Board to thoroughly consider them. 208 FCSM Code, Chapter 8, Section 1.3.3. 209 FCSM Code, Chapter 8, Section 1.3.1. 74 Part_IV_Ch-13-14.indd 74 Part_IV_Ch-13-14.indd 74 17.09.2004 11:36:49 17.09.2004 11:36:49 Chapter 14. Control and Audit Procedures The Audit Committee should also:210 · Regularly inform the Supervisory Board about violations of procedures and legislation by the company's officers; · Inform the Supervisory Board about individuals who are responsible for ir- regularities, the circumstances under which they took place, and how errors can be prevented in the future; and · Analyze and give recommendations to the Supervisory Board regarding risks associated with transactions and operations of the company. The Audit Committee should conduct meetings at least once a month to prepare recommendations for the Supervisory Board.211 Best Practices: However, meeting once a month may be regarded as onerous and burdensome, as well as costly. The new U.K. Combined Code suggests that Audit Committee meetings be held to coincide with key dates in the finan- cial reporting and audit cycle, with no fewer than three formal meetings per year.212 The Audit Committee's Chairman will likely call additional meetings to establish an ongoing and informal contact with the Supervisory Board Chairman and General Director. 4. Access to Information and Resources The Supervisory Board should be provided with information on the financial and operating results of the company.213 In addition, Audit Committee members will need to have unfettered access to documents and corporate information to allow them to fulfill their functions. The Corporate Secretary often plays a crucial role in this respect, facilitating a free flow of information. It is further recommended that the Audit Committee be authorized, and be pro- vided with resources to hire outside audit, financial, legal, and other professional advisors without seeking permission from the Supervisory Board or executives. 210 FCSM Code, Chapter 8, Section 2.3.2. 211 FCSM Code, Chapter 8, Section 1.4. 212 The U.K. Combined Code on Corporate Governance, Section 2.7. See also: www.frc.org. uk/combined.cfm. 213 FCSM Code, Chapter 8, Section 2.3.1. 75 Part_IV_Ch-13-14.indd 75 Part_IV_Ch-13-14.indd 75 17.09.2004 11:36:50 17.09.2004 11:36:50 The Russia Corporate Governance Manual D. Internal Control Function Internal control is a process conducted jointly by the Supervisory Board, manage- ment and the company's employees, the aim of which is to provide a reasonable guarantee that the following company objectives are attained: financial reporting is reliable and accurate, operations are efficient and effective, and the company complies with legislation, and its own internal rules and guidelines. In fact, an effective internal control structure can help the company:214 · Make better business decisions with higher quality and more timely informa- tion; · Gain (or regain) the trust of investors; · Prevent loss of resources; · Provide security over its assets; · Prevent fraud; · Comply with applicable laws and regulations; and · Gain a competitive advantage through streamlined operations. The FCSM Code defines the internal control system as control over the conduct of the company's financial and business operations (including the implementation of its financial and business plan) by the company's divisions and bodies.215 1. Internal Control Principles A company's internal control system should be based on the following principles: · The internal control system should function at all times and without inter- ruption. A system that functions on a permanent basis allows the company to identify deviations on a timely basis, and helps predict deviations in the future; · Each person involved in the internal control process should be held accountable. The performance of each person carrying out control functions should consequently be managed by yet another person in the internal control system; · The internal control system should segregate duties. Companies should prohibit duplication of control functions, and should distribute functions 214Moving Forward -- A Guide to Improving Corporate Governance Through Effective Internal Control: A Response to Sarbanes-Oxley, Deloitte & Touche, January 2003. 215FCSM Code, Chapter 8, Section 1.1.1. 76 Part_IV_Ch-13-14.indd 76 Part_IV_Ch-13-14.indd 76 17.09.2004 11:36:50 17.09.2004 11:36:50 Chapter 14. Control and Audit Procedures among the employees so that one and the same person would not combine functions relating to the authorization of operations with certain assets, recording of such operations, ensuring and safe-keeping of assets, and inventory of these same assets; · Proper authorization and approval of operations. Companies should establish procedures for approving financial and business operations by authorized persons, within the scope of their authority; · Companies should ensure the organizational separation of its subdivision responsible for internal control, and moreover, ensure that this subdivision is accountable directly to the Supervisory Board (commonly through its Audit Committee). This organizational separation ensures that internal controls are verified by an independent authority, in this case the Supervisory Board, which is not involved in the implementation or maintenance of internal controls; · All units and departments of the company should integrate and cooperate to allow the internal control system to be properly implemented; · A culture of continuous development and improvement needs to be put in place. A company's internal control system should be structured to allow it to flexibly address new issues, and easily be expanded and upgraded; and · A system for timely reporting on any deviations should be put in place. Ensuring the timeliness of reporting on deviations with the shortest possible deadlines allows authorized persons to act swiftly to correct problems. 2. Elements of the Internal Control System The internal control system includes the following inter-related elements:216 1. Controlenvironment: The control environment sets the tone of an organiza- tion, and influences the control consciousness of its people. It is the founda- tion for all other components of internal control, providing discipline and structure. Control environment factors include the integrity, ethical values, and competence of the company's employees and officers; management's philosophy and operating style; the way management assigns authority and responsibility, and organizes and develops its staff; and the attention and direction provided by the Supervisory Board. 216 Internal Control -- Integrated Framework, COSO. See also: http://www.coso.org/publications/ executive_summary_integrated_framework.htm. 77 Part_IV_Ch-13-14.indd 77 Part_IV_Ch-13-14.indd 77 17.09.2004 11:36:50 17.09.2004 11:36:50 The Russia Corporate Governance Manual Best Practices: An essential element of an effective internal control system is a strong control culture.217 It is the responsibility of the Supervisory Board and senior management to emphasize the importance of internal control through their words and actions. This includes the ethical values that management displays in their business dealings, both inside and outside the organization. The words, attitudes, and actions of the Supervisory Board and senior management affect the integrity, ethics, and other aspects of the company's control culture. 2. Risk assessment: Every entity faces a variety of risks from external and internal sources. A precondition to risk assessment is setting the company's objectives. Risk assessment is the identification and analysis of relevant risks to achieve company objectives, forming a basis for determining how risks should be managed. 3. Control activities: Control activities are the policies and procedures that help ensure that management directives are carried out. They help ensure that necessary actions are taken to address risks to achieve the entity's objectives. Control activities occur throughout the organization, at all levels, and in all functions. They include a range of activities as diverse as approvals, authorizations, verifications, reconciliations, reviews of operating performance, security of assets, and segregation of duties. Best Practices: Control activities should be as strict on the top as on the bot- tom of the company's operations, lending credibility to the control environment and the tone at the top. 4. Information and communication: Pertinent information must be identified andcommunicatedinaformandwithinatimeframethatenablesemployeesto carryouttheirresponsibilities. Informationsystemsproducereportscontaining operational,financial,andcompliance-relatedinformationthatmakeitpossible torunandcontrolthebusiness. Theynotonlydealwithinternallygenerateddata, but also information about external events, activities, and conditions necessary to informed business decision-making and external reporting. Effective communication also must occur in a broader sense -- flowing up, down, and 217Framework for Internal Control Systems in Banking Organizations, Basel Committee Publica- tions No. 40, September 1998, http://www.bis.org/publ/bcbs40.pdf. Note that this document is for banking organizations. However, some of its provisions are equally applicable to com- panies in the real sector. 78 Part_IV_Ch-13-14.indd 78 Part_IV_Ch-13-14.indd 78 17.09.2004 11:36:50 17.09.2004 11:36:50 Chapter 14. Control and Audit Procedures across the organization. All personnel must receive a clear message from senior managementthatcontrolresponsibilitiesmustbetakenseriously. Further,they must understand their own role in the internal control system, as well as how individualactivitiesrelatetotheworkofothers. Ofparticularimportanceisthat management not limit itself to communicating on a control measure in and of itself,butproperlyemphasizethemeaningandpurposeoftheparticularcontrol element. They must have a means of communicating significant information upstream. Therealsoneedstobeeffectivecommunicationwithexternalparties, such as customers, suppliers, regulators, and shareholders. 5. Monitoring the efficiency of the internal control system: Internal control systems need to be monitored over time in order to assess the quality of the system's performance. This is accomplished through ongoing monitoring activities,separateevaluations,oracombinationofthetwo. Ongoingmonitoring occurs during the course of operations. It includes regular management and supervisory activities, and other actions personnel take in performing their duties. The scope and frequency of separate evaluations depend primarily on anassessmentoftherisksandeffectivenessofongoingmonitoringprocedures. Internalcontroldeficienciesshouldbereportedupstream,withthemostserious matters reported directly to senior management and the Supervisory Board. Senior management and the Supervisory Board need to clearly formulate sanctions to be imposed as a result of control violations on an ex ante basis. 3. Bodies and Persons Responsible for Internal Control Internal control is, to some degree, the responsibility of everyone in an organiza- tion and should be an explicit or implicit part of everyone's job description. Virtually all employees produce information used in the internal control system or take other actions needed to effect control. Also, all personnel should be re- sponsible for communicating upward problems in operations, noncompliance with an internal code of conduct or company-level corporate governance code, should such documents exist, or other policy violations or illegal actions. Best Practices: The company's department responsible for corporate training programs should ensure that all employees and executives receive training on the company's control culture and system. Further, although each company has its own specific internal control system and bodies, there are some general rules that a company should follow. Internal control 79 Part_IV_Ch-13-14.indd 79 Part_IV_Ch-13-14.indd 79 17.09.2004 11:36:50 17.09.2004 11:36:50 The Russia Corporate Governance Manual always starts at the top of the company, at the level of the Supervisory Board and executive bodies. In particular, the Supervisory Board and executive bodies are responsible for establishing the proper internal control environment and maintain- ing high ethical standards at all levels of the company's operations. Further, the approval of internal control procedures falls within the competence of the compa- ny's Supervisory Board, commonly through the Audit Committee. The Supervi- sory Board's Audit Committee is also assigned to review and evaluate the efficiency of the internal control system as a whole, and prepare proposals on how to improve it. Finally, the implementation of internal control procedures is the responsibility of the executive bodies. Best Practices: The General Director is ultimately responsible for and should assume ownership of the system.218 More than any other individual, he sets the `tone at the top' that affects the integrity and ethics of a positive control environment. In a large company, the General Director fulfills this duty by providing leadership and direction to senior managers and reviewing the way they are controlling the business. Senior managers, in turn, assign responsibil- ity for establishing more specific internal control policies and procedures to personnel responsible for the unit's functions. For example, controls for the company's IT system should fall under the responsibility of the Chief Information Officer or manager responsible for IT. Of particular significance are financial officers and their staff, whose control activities cut across, as well as up and down, the operational and other units of a company. The executive bodies, in particular the General Director or the Finance Direc- tor would further create structures (services or departments), or assign persons to be responsible for carrying out specific control activities on a daily basis. The Control and Revision Service, as recommended by the FCSM Code, or the Internal Auditor are two such structures. 4. Internal Auditing Internal auditing is an integral part of a company's internal control system. While internal control is wider in scope, the internal audit can be defined as an independ- ent, objective assurance and consulting activity designed to add value and improve 218 Internal Control -- Integrated Framework, COSO. See also: www.coso.org/publications/ executive_summary_integrated_framework.htm. 80 Part_IV_Ch-13-14.indd 80 Part_IV_Ch-13-14.indd 80 17.09.2004 11:36:50 17.09.2004 11:36:50 Chapter 14. Control and Audit Procedures an organization's operations.219 It helps an organization accomplish its objectives by introducing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control, and corporate governance processes. More specifically, internal auditing reviews and ensures the reliability and integrity of information, compliance with policies and regulations, safeguarding of assets, economical and efficient use of resources, and attainment of established operational goals and objectives. Internal audits encompass financial activities and operations including systems, production, engineering, marketing, and human resources. Company Practices in Russia: A recent survey of internal audit practices in the Commonwealth of Independent States (CIS) lists typical internal audit tasks:220 · Appraise compliance of business activities with internal policies and proce- dures; · Provide advice in setting up internal policies and procedures; · Appraise controls over the safeguarding of assets; · Appraise compliance with laws and regulations; · Appraise internal controls over financial information; · Appraise internal controls over business processes; · Appraise the process for identifying, evaluating, and managing business risks; · Appraise operational efficiency; · Appraise compliance with contractual obligations; · Conduct audits of information technologies; · Investigate fraud; and · Audit of subsidiary companies. Similar tasks have been identified in research conducted by the Russian chapter of the Institute of Internal Auditors and the Russian Institute of Directors in 2003:221 · Conduct traditional internal audits; · Help safeguard the company's assets; · Assist management in setting up and maintaining internal controls; · Consulting services; and · Fraud investigation. 219 The Institute of Internal Auditors. See also: www.theiia.org. 220 2002 Internal Audit Survey -- Russia and the CIS, Ernst & Young, 2002, pages 9 and 11. 221 Internal Audit in Russian Enterprises, the Institute of Internal Auditors -- Moscow, and the Russian Institute of Directors; 2003. 81 Part_IV_Ch-13-14.indd 81 Part_IV_Ch-13-14.indd 81 17.09.2004 11:36:50 17.09.2004 11:36:50 The Russia Corporate Governance Manual According to a recent survey on internal audit in Russian companies, over /3 2 of respondents indicated that their internal audit function reports to executive bodies,222 raising concerns over the organizational independence of the internal audit function. Moreover, the survey found that professionals carrying out the internal audit function often lacked necessary knowledge and skills. In order to function properly, the Internal Auditor should enjoy a reasonable degree of independence. This can be attained by making him accountable to the Supervisory Board (through the Audit Committee) rather than an executive of the company (the General Director or Finance Director). Best Practices: In reality, it is difficult for the internal audit function to be en- tirely independent of management. Indeed, the internal control function is a key management tool. It would lose a great deal of its utility if it did not report to management. Cognizant of the need to maintain independence while working closely with management, the Institute of Internal Auditors suggests that the Internal Auditor report administratively to the executive bodies and functionally to the Supervisory Board's Audit Committee.223 5. The Control and Revision Service The internal control function can be implemented by different structures within the company, such as the Internal Auditor or Internal Audit Department. In Rus- sia, the FCSM Code recommends the establishment of a Control and Revision Service.224 The Control and Revision Service is responsible for the daily internal control of the company's finances and operations, and may also carry out the functions of the Internal Auditor. Company Practice: In most Western companies, the internal control function is typically carried out by a control department on a daily basis, while the internal 222Internal Audit in Russian Enterprises, the Institute of Internal Auditors -- Moscow and the Russian Institute of Directors; 2003. 223The Institute of Internal Auditors, Standards for the Professional Practice of Internal Audit- ing. See also: www.theiia.org. 224FCSM Code, Chapter 8, Section 1.1.1. 82 Part_IV_Ch-13-14.indd 82 Part_IV_Ch-13-14.indd 82 17.09.2004 11:36:51 17.09.2004 11:36:51 Chapter 14. Control and Audit Procedures audit function is carried out by an Internal Auditor on a periodic basis. Internal control and audit are separate, both in terms of authority and organization. In Russia, it appears that the Control and Revision Service is to play a hybrid function, taking on some of the duties typically carried out by the Internal Audi- tor, but functioning on a daily basis as if it were a Control Department. In practice however, the Control and Revision Service only sporadically carries out the functions of the Internal Auditor as defined by the Institute of Internal Audi- tors, at least in the few Russian companies that have created this control body. a) Authorities The Control and Revision Service should fulfill the following tasks:225 · Develop policies and procedures for internal control in cooperation with the executive bodies and Audit Committee; · Attend those meetings of the Audit Committee in which implementation of the finance and business plan, compliance with internal control and risk management procedures, and the approval of non-standard operations are discussed; · Examine documents and materials regarding their compliance with internal control procedures, including the existence of required approvals of relevant department heads, as well as the existence of funds in the financial and business plan sufficient for fulfilling certain operations; · Exercise daily control over the financial and business activities of the com- pany; · Analyze and evaluate non-standard operations and prepare recommendations for the Supervisory Board; and · Help the Audit Committee to obtain information. The FCSM Code introduces the concept of "non-standard operations", not defined by legislation.226 Non-standard operations are operations that go beyond the scope of the financial and economic plan of the company. Non-standard operations should receive Supervisory Board approval. Procedures for approv- ing non-standard operations should be set forth in the charter and internal documents. 225 FCSM Code, Chapter 8, Sections 1.2­1.4; 2.1­2.3. 226 FCSM Code, Chapter 8, Sections 2.2.1 and 2.2.2. 83 Part_IV_Ch-13-14.indd 83 Part_IV_Ch-13-14.indd 83 17.09.2004 11:36:51 17.09.2004 11:36:51 The Russia Corporate Governance Manual The Control and Revision Service should evaluate the need for and feasibil- ity of non-standard operations before they are conducted, and report its conclu- sions to the Supervisory Board. To fulfill its tasks, the Control and Revision Service should have the author- ity to:227 · Receive all documents and materials that are necessary to reasonably and un- equivocally monitor whether the financial and business operations undertaken by the management are consistent with the financial and business plans, and the procedures set forth by the company for such operations; · Check whether all financial documents and materials comply with the company's internal control procedures, such as the approval by department heads of certain documents; and · Collect all information on (possible) errors and violations that have occurred during company operations, and report all such errors and violations to the Audit Committee. b) Reporting To be effective, the Control and Revision Service should report directly to the Audit Committee.228 It is recommended that the Control and Revision Service hold regular meetings with the Audit Committee to report on the performance of the financial and business plan, and deviations from it. c) Composition The head of the Control and Revision Service and not less than /3 of his staff 2 should hold a higher degree in the fields of finance, accounting, business, law, or economics. The head of the Control and Revision Service should also have at least five years of experience in a similar function. The contract with the head of the Control and Revision Service should be signed by the Chairman of the Supervisory Board to protect the independence of the Control and Revision Service.229 Contracts with employees of the Service should also be signed by the Chairman of the Supervisory Board and not by a member of the executive bodies.230 The FCSM Code recommends that the com- 227FCSM Code, Chapter 8, Section 2.1. 228FCSM Code, Chapter 8, Section 1.1.2. 229FCSM Code, Chapter 8, Section 1.3.5. 230FCSM Code, Chapter 8, Section 1.3.5. 84 Part_IV_Ch-13-14.indd 84 Part_IV_Ch-13-14.indd 84 17.09.2004 11:36:51 17.09.2004 11:36:51 Chapter 14. Control and Audit Procedures pany outline the organization and staffing of the Control and Revision Service in its by-laws.231 6. Management's Report on Internal Control over Financial Reporting Best Practices: In May 2003, the U.S. Securities and Exchange Commission (SEC) approved a rule to implement requirements of Section 404 of the Sarbanes- Oxley Act of 2002.232 Section 404 of the Act directs the SEC to adopt rules re- quiring each annual report of a company to contain (1) a statement of manage- ment's responsibility for establishing and maintaining an adequate internal control structure and procedures for financial reporting; and (2) management's assess- ment, as of the end of the company's most recent fiscal year, of the effectiveness of the company's internal control structure and procedures for financial reporting. Section 404 also requires the company's External Auditor to attest to, and report on management's assessment of the effectiveness of the company's internal controls and procedures for financial reporting in accordance with standards established by the Public Company Accounting Oversight Board. Under the final rules, management's annual internal control report will have to contain: · A statement of management's responsibility for establishing and maintaining adequate internal control over financial reporting for the company; · A statement identifying the framework used by management to evaluate the effectiveness of this internal control; · Management's assessment of the effectiveness of this internal control as of the end of the company's most recent fiscal year; and · A statement that its auditor has issued an attestation report on management's assessment. Russian companies wishing to follow best corporate governance practices should report on these items in their annual report. E. Summary Table 1 summarizes the main features of bodies involved in the internal and ex- ternal audit of the company. 231 FCSM Code, Chapter 8, Section 1.3.2. 232 The Sarbanes-Oxley Act of 2002, Section 404. See also: www.sarbanes-oxley.com. 85 Part_IV_Ch-13-14.indd 85 Part_IV_Ch-13-14.indd 85 17.09.2004 11:36:51 17.09.2004 11:36:51 The Russia Corporate Governance Manual to -fi Fi- with ef and finan- Com- subdivi- policies as the and Service) a the procedures controls over or with well Audit and as and data; and/or Auditor regulations; Revision operates administratively Board's control; employee and enhancing company policies assets, operations. Director Internal and compliance and business in an of visory the internal procedures, laws and Director functionally of General (Control Develops for Ensures and local Designs safeguard cial Assists ciency Super tee ypically,T sion · · · · The nancial the mit the op- the the and/ Board for of "non- Auditor for Audit selection vice; of functions, visory the business Auditor Ser management process; and Board's on External and risk approval y Super auditing external. Auditor; the company; Internal Revision development and all the Board Commission; budget and Board Committee of the the the recommendations with financial the and Board's recommendations of operations;" Supervisor tee control visory External with between visory vises visory Revision internal the The orks Control commit Develops Super of Interacts and Oversees erations Oversees W or Super internal procedures; evelopsD Super Super standard Liaises both A · · · · · · · · The inde- pre- state- Audit ypicallyt is Super- and company; its the Auditor that management or financial the extraordinary via auditor, shareholders firm, from the prepared by Board tee External tified audit major cer Audits ments sented and Conducts audits. A an pendent and · · Shareholders visory Commit - the re from busi- of state- inspec- Functions and body and annual Commission annual extraordinary the financial Audit independent financial of of activities; and y t Revision controlling Conducts tions ness Conducts inspections; Reviews por ments. A company, management · · · Shareholders Summar 1: to: ableT Status Main Functions: Reports 86 Part_IV_Ch-13-14.indd 86 Part_IV_Ch-13-14.indd 86 17.09.2004 11:36:51 17.09.2004 11:36:51 Chapter 14. Control and Audit Procedures docu- legisla- Service) contracts internal labor employees Auditor contracts Revision by-laws, employment Internal and company ter, and documents, by char employment fed (Control The ments, Internal tion, Staf be docu- Audit should employment internal contracts Board's y members legislation, Committee by-laws, tee employment directors Supervisor ter, labor and The char and Commit The ments, Civil contracts Audit independent be and com- com- legisla- must Law, the the legislation, Auditor audit with and Auditor from audit respects Company all External the and contract contracts in External ccountingA tion, the pany Civil civil The independent pany may cannot Functions members legislation, sharehold- Law bodies Members or Audit Commission contracts Board labor company of y the Company and visory executive Revision members. employees of The Civil employment Super and be be ers Summar 1: ble Ta Regulated by: Liabilities: Composition: 87 Part_IV_Ch-13-14.indd 87 Part_IV_Ch-13-14.indd 87 17.09.2004 11:36:51 17.09.2004 11:36:51 FOR NOTES Part_IV_Ch-13-14.indd 88 Part_IV_Ch-13-14.indd 88 17.09.2004 11:36:51 17.09.2004 11:36:51 FOR NOTES Part_IV_Ch-13-14.indd 89 Part_IV_Ch-13-14.indd 89 17.09.2004 11:36:52 17.09.2004 11:36:52 FOR NOTES Part_IV_Ch-13-14.indd 90 Part_IV_Ch-13-14.indd 90 17.09.2004 11:36:52 17.09.2004 11:36:52 FOR NOTES Part_IV_Ch-13-14.indd 91 Part_IV_Ch-13-14.indd 91 17.09.2004 11:36:52 17.09.2004 11:36:52 FOR NOTES Part_IV_Ch-13-14.indd 92 Part_IV_Ch-13-14.indd 92 17.09.2004 11:36:52 17.09.2004 11:36:52 FOR NOTES Part_IV_Ch-13-14.indd 93 Part_IV_Ch-13-14.indd 93 17.09.2004 11:36:52 17.09.2004 11:36:52 FOR NOTES Part_IV_Ch-13-14.indd 94 Part_IV_Ch-13-14.indd 94 17.09.2004 11:36:52 17.09.2004 11:36:52