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A public company and its shareholders<br />
requires listed companies to adopt a<br />
code of business conduct and ethics for<br />
directors, officers and employees that<br />
address conflicts of interest.<br />
• Auditors care—Auditors are obligated<br />
to have sufficient understanding of the<br />
company’s business activities to assess<br />
whether the company’s disclosures<br />
on related party transactions are<br />
adequate. Accounting requirements<br />
dictate certain disclosures about<br />
related party transactions. Audit rules<br />
set forth specific auditing procedures<br />
on how to determine the existence<br />
of related parties and transactions<br />
with them, how to examine identified<br />
related party transactions and<br />
how to respond to management’s<br />
representations that a transaction was<br />
consummated at arm’s length. These<br />
audit procedures are quite detailed and<br />
can involve a review of the company’s<br />
board minutes, proxy information<br />
and other material filed with the<br />
SEC, stockholder listings and other<br />
potential sources of information.<br />
How to deal with the issue: The company<br />
should develop policies and procedures<br />
for the review, approval or ratification of<br />
related party transactions. Clear policies<br />
are essential to provide directors and<br />
officers with guidance on related party<br />
transactions and how the company will<br />
deal with them. Although the securities<br />
laws do not mandate the specific features<br />
of the policy, they require disclosure of it<br />
in certain filings and suggest that it may be<br />
appropriate to include the following:<br />
• Types of transactions covered by the<br />
policies and procedures—The company<br />
should consider what makes most<br />
sense given its business requirements,<br />
corporate structure and operating<br />
style. Also, it pays to be aware of<br />
“hot-button” issues when describing<br />
the types of transactions covered.<br />
For example, the SEC is especially<br />
sensitive about transactions involving<br />
family members, so the company may<br />
consider developing a nepotism policy.<br />
• Standards to be applied pursuant to<br />
the policies and procedures—Policies<br />
should hold all related parties to<br />
the same standards as third parties.<br />
Although there may be situations<br />
where a limited market makes it<br />
difficult to establish what the terms<br />
and manner of settlement of a<br />
particular transaction would be with<br />
a third party, the company should<br />
nevertheless attempt to set forth<br />
objective business criteria against<br />
which the related party transaction can<br />
be reviewed.<br />
• The persons (or groups of persons on<br />
the board of directors or otherwise)<br />
who are responsible for applying such<br />
policies and procedures—The company<br />
should consider the board committee<br />
responsible for administering the<br />
policy. Usually the audit committee<br />
is charged with this task, but it may<br />
also make sense for the nominating<br />
and corporate governance committee<br />
to be responsible for matters relating<br />
to directors. Also, the company should<br />
establish when the responsible persons<br />
will review related party transactions.<br />
Although subsequent review may be<br />
acceptable, best practice mandates<br />
prior review.<br />
In order to enable board members<br />
or delegates to make informed advance<br />
decisions on related party transactions,<br />
company procedures need to ensure that<br />
the information presented to them is<br />
sufficient in scope and quality:<br />
• Sources of information—The first<br />
source of information should be the<br />
related parties themselves. For example,<br />
an annual questionnaire distributed to<br />
directors and officers should capture<br />
basic information about transactions<br />
between directors and officers, their<br />
family members and the company.<br />
Furthermore, directors and officers<br />
should have an ongoing obligation to<br />
inform the company in advance of any<br />
potential related party transaction<br />
and to provide updates of parties<br />
related to them, their employment<br />
and relationships with charitable<br />
organizations. The company may also<br />
consider instituting independent<br />
information-gathering procedures,<br />
which may include periodic review of<br />
news articles or Internet searches.<br />
• Application of information—The<br />
company may consider developing<br />
a related party master list to be<br />
distributed, with any updates, to the<br />
relevant members of management<br />
such as the CFO and business unit and<br />
department leaders responsible for<br />
purchasing or selling. The company<br />
may also develop a “watch list” of<br />
potentially related persons, using the<br />
sources of information described above<br />
to check whether their status changes.<br />
Tasks: In preparing for the IPO, the<br />
company and its lawyers should do the<br />
following:<br />
• Review both existing related party<br />
arrangements and any plans for new<br />
ones as soon as possible. Consider<br />
the impact of such arrangements on<br />
disclosure and governance standards.<br />
• Identify arrangements between officers,<br />
insiders and their close relatives on<br />
the one hand, and the company on<br />
the other; these arrangements will<br />
generally have to be disclosed.<br />
• Confirm that the compensation<br />
committee approves all elements<br />
of compensation paid to executive<br />
officers. Compensation exceeding<br />
$120,000 paid to executive officers<br />
must be disclosed if not approved (or<br />
recommended for approval) by the<br />
compensation committee or a group of<br />
independent directors performing that<br />
function.<br />
• Unwind loans to directors and officers<br />
before the initial IPO registration<br />
statement is filed with the SEC.<br />
• Develop written related party<br />
transaction policies and procedures.<br />
If the company already has a code of<br />
conduct or other policies addressing<br />
this issue, it may be preferable to<br />
integrate related party transactions<br />
policies with such existing policies.<br />
Although the securities laws do not<br />
require that policies and procedures<br />
be in writing, best practice mandates<br />
written policies.<br />
7.6 Share ownership mechanics<br />
Morrow & Co., LLC<br />
(a) Types of share ownership<br />
Shareholders can be divided into two<br />
broad groups: “registered” holders and<br />
“beneficial” holders. A registered holder<br />
NYSE IPO Guide<br />
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