[Federal Register Volume 69, Number 70 (Monday, April 12, 2004)]
[Proposed Rules]
[Pages 19126-19132]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-8236]
[[Page 19126]]
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DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT
Office of Federal Housing Enterprise Oversight
12 CFR Part 1710
RIN 2550-AA24
Corporate Governance
AGENCY: Office of Federal Housing Enterprise Oversight, HUD.
ACTION: Proposed amendments.
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SUMMARY: The Office of Federal Housing Enterprise Oversight (OFHEO) is
proposing for comment amendments to its corporate governance regulation
to enhance the minimum corporate governance standards applicable to the
Federal National Mortgage Association and the Federal Home Loan
Mortgage Corporation.
DATES: Written comments on the proposed amendments must be received by
June 11, 2004.
ADDRESSES: You may submit your comments, identified by regulatory
information number (RIN) 2550-AA24, by any of the following methods:
U.S. Mail, United Parcel Post, Federal Express,
or Other Mail Service: The mailing address for comments is: Alfred M.
Pollard, General Counsel, Attention: Comments/RIN 2550-AA24, Office of
Federal Housing Enterprise Oversight, Fourth Floor, 1700 G Street, NW.,
Washington, DC 20552.
Hand Delivered/Courier: The hand delivery
address is: Alfred M. Pollard, General Counsel, Attention: Comments/RIN
2550-AA24, Office of Federal Housing Enterprise Oversight, Fourth
Floor, 1700 G Street, NW., Washington, DC 20552. The package should be
logged at the Guard Desk, First Floor, on business days between 9 a.m.
and 5 p.m.
E-mail: RegComments@OFHEO.gov. Comments to
Alfred M. Pollard, General Counsel, may be sent by e-mail at
RegComments@OFHEO.gov. Please include RIN 2550-AA24 in the subject line
of the message.
Instructions: OFHEO requests that comments to the proposed
amendments include the reference RIN 2550-AA24. OFHEO further requests
that comments submitted in hard copy also be accompanied by the
electronic version in Microsoft([reg]) Word or in portable document
format (PDF) on 3.5'' disk. Please see the section, SUPPLEMENTARY
INFORMATION, below, for additional information on the posting and
viewing of comments.
FOR FURTHER INFORMATION CONTACT: Isabella W. Sammons, Associate General
Counsel, telephone (202) 414-3790 (not a toll-free number); Office of
Federal Housing Enterprise Oversight, Fourth Floor, 1700 G Street, NW.,
Washington, DC 20552. The telephone number for the Telecommunications
Device for the Deaf is (800) 877-8339.
SUPPLEMENTARY INFORMATION:
Comments
OFHEO invites comments on all aspects of the proposed amendments,
including legal and policy considerations, and will take all comments
into consideration before issuing the final amendments.
All comments received will be posted without change to http://www.ofheo.gov, including any personal information provided. Copies of
all comments received will be available for examination by the public
on business days between the hours of 10 a.m. and 3 p.m., at the Office
of Federal Housing Enterprise Oversight, Fourth Floor, 1700 G Street
NW., Washington, DC 20552. To make an appointment to inspect comments,
please call the Office of General Counsel at (202) 414-6924.
Background
Title XIII of the Housing and Community Development Act of 1992,
Public Law 102-550, titled the Federal Housing Enterprises Financial
Safety and Soundness Act of 1992 (Act) (12 U.S.C. 4501 et seq.)
established OFHEO as an independent office within the Department of
Housing and Urban Development to ensure that the Federal National
Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage
Corporation (Freddie Mac) (collectively, the Enterprises or government
sponsored enterprises) are adequately capitalized and operate safely
and in compliance with applicable laws, rules, and regulations.
In furtherance of its supervisory responsibilities, in 2002, OFHEO
published the final corporate governance regulation, taking into
consideration comments filed in response to an earlier proposed
regulation.\1\ The corporate governance regulation sets forth minimum
standards with respect to corporate governance practices and procedures
of the Enterprises. It establishes a framework for corporate governance
addressing applicable law, requirements and responsibilities of the
board of directors and board committees, conflict-of-interest
standards, and indemnification.
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\1\ 12 CFR part 1710, 67 FR 38361 (June 4, 2002).
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As a result of findings and recommendations contained in the Report
of the Special Examination of Freddie Mac \2\ (Report of Special
Examination), as well as developments in law, supervision, and industry
standards, OFHEO is undertaking to amend the corporate governance
regulation within this framework. On June 7, 2003, the Director of
OFHEO ordered a special examination of the events leading to the public
announcement by Freddie Mac of an audit of prior year financial
statements and the termination, resignation, and retirement of three
principal executive officers of Freddie Mac.
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\2\ OFHEO, Report of the Special Examination of Freddie Mac
(Dec. 2003) (Report of Special Examination), which may be found at
http://www.ofheo.gov/media/pdf/specialreport122003.pdf.
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The Report of Special Examination found that ``[t]he accounting and
management problems of Freddie Mac were largely the product of a
corporate culture that demanded steady but rapid growth in profits and
focused on management of credit and interest rate risks but neglected
key elements of the infrastructure of the enterprise needed to support
growth.'' \3\ The Report of Special Examination, among other things,
made specific recommendations with respect to best practices in
corporate governance that Freddie Mac should follow and that OFHEO
should require.\4\ For example, included are recommendations that
functions of the chief executive officer and the chairperson of the
board of directors should be separated; board members should become
more actively involved in the oversight of the Enterprise; adequate and
appropriate information should be provided to the board of directors;
financial incentives for board members, executive officers, and
employees should be developed based on long-term goals, not short-term
earnings; strict term limits should be placed on board members; firms
that audit the Enterprises, not merely the audit partners, should be
changed periodically; and formal compliance and risk management
programs should be established. A Consent Order, issued by OFHEO to
Freddie Mac on December 9, 2003, required Freddie Mac to implement
certain corporate governance best practices that were recommended in
the Report of Special Examination, as well as other remedial steps.\5\
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\3\ Id., at 4 (footnote omitted).
\4\ Id., at 163--171.
\5\ OFHEO Order No. 2003-02, ``Consent Order, In the Matter of
the Federal Home Loan Mortgage Corporation'' (Dec. 9, 2003) (Consent
Order), which may be found at http://www.ofheo.gov/media/pdf/consentorder12903.pdf.
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The lessons learned by OFHEO through the special examination
[[Page 19127]]
provided new insights as to the appropriate best practices for both
Enterprises. Thus, OFHEO is proposing to add prudential requirements
that would have general applicability to its corporate governance
regulation consistent with the practices recommended or required by the
Report of Special Examination or the Consent Order.
OFHEO notes that the Enterprises are privately owned but federally
chartered companies. Created by Congress to facilitate liquidity and
stability in mortgage markets and to advance affordable housing, they
receive in exchange special benefits from their Government sponsorship.
Since their creation, the Enterprises have grown to become two of the
largest financial companies in the world, yet the Enterprises are
highly leveraged. Between them, Fannie Mae and Freddie Mac control a
majority share of the conforming mortgage market. Given their Federal
charters, public mission, and the size and significance of their
operations in capital markets and the banking system, OFHEO has
determined that Fannie Mae and Freddie Mac should adhere to certain
policies that may not be applicable to all companies but should
nevertheless apply to them.
With respect to recent developments, the New York Stock Exchange
(NYSE) has issued amendments to its corporate governance rules that are
applicable to companies listed on the NYSE, including the
Enterprises.\6\ In addition, Congress passed the Sarbanes-Oxley Act of
2002 (SOA),\7\ which contains corporate governance requirements, and
the U.S. Securities and Exchange Commission (Commission) has issued
regulations to implement the SOA. Fannie Mae has voluntarily registered
its common stock with the Commission effective March 31, 2003; Freddie
Mac has announced its intention to register.\8\
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\6\ Final NYSE Corporate Governance Rules (Nov. 4, 2003),
Section 303A. The NYSE final Corporate Governance Rules may be found
at http://www.nyse.com. Note that except for final NYSE rule Section
303A.08, which became effective June 30, 2003, listed companies have
until the earliest of their first annual meeting after January 15,
2004, or October 31, 2004, to comply with the new rules. The
Enterprises are companies listed on the NYSE. As listed companies,
the rules of the NYSE, including those addressing corporate
governance, are applicable to the Enterprises.
\7\ Pub. L. 107-204 (Jul. 30, 2002).
\8\ See http://www.fanniemae.com/ir/sec/index.jtml?s=SEC+filings
for Fannie Mae and http://www.freddiemac.com/news/archives/investors/2003/restatement_112103.html for Freddie Mac.
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Since registration, Fannie Mae files periodic financial disclosures
with the Commission as required by the Securities Exchange Act of 1934
and is subject to the requirements of the SOA and implementing rules
and regulations of the Commission.\9\ Upon registration, Freddie Mac
will be subject to the same requirements. OFHEO intends to ensure that
such requirements and implementing rules and regulations are or remain
applicable to the Enterprises even if Freddie Mac does not register
with the Commission or if one or both Enterprises deregister. In
connection with any conduct regulated by the Commission, OFHEO would
look to any rules, regulations, and interpretations issued by the
Commission and its requirements. OFHEO may initiate an enforcement
action in the area of the corporate governance in response to a
violation of its corporate governance regulation, including behavior
that violates laws or requirements set forth therein.
The proposed amendments to strengthen corporate governance of the
Enterprises will support the supervisory program of OFHEO. Strengthened
corporate governance will help to ensure the continued safe and sound
operation of the Enterprises.
Section-by-Section Analysis
Section 1710.11 Board of Directors
OFHEO is proposing a section that would add requirements and
consolidate existing requirements relating to the board of directors of
an Enterprise. One requirement would require an Enterprise to prohibit
the chairperson of the board from also serving as chief executive
officer of the Enterprise. Separating the functions of chairperson and
chief executive officer is prudent for safe and sound operations
because it would strengthen board independence and oversight of
management on behalf of shareholders consistent with the public mission
of the Enterprises. Separating the role of chief executive officer
would similarly clarify the role and responsibility of the individual
charged with leading the management team.\10\ OFHEO recognizes that
this is a different standard than is required of many other private
corporations but it is appropriate for the Enterprises, not only
because of their government sponsorship and dominance within their
market, but also in light of the recent experience at Freddie Mac. In
that case, separation of the two roles could have caused the board to
provide stronger independent guidance to management and identify
problems sooner. A separation of the chairperson and chief executive
officer functions would be in the best interest of the companies and
would enhance the effectiveness of changes being proposed for the board
of directors to meet its obligations. This reasonable step will assist
both in the perception and reality that these specialized institutions
maintain the highest standards of corporate governance. The effective
date of this requirement would be January 1, 2007.
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\9\ The existing corporate governance regulation provides that
the corporate governance practices and procedures of the Enterprises
must comply with their respective chartering act and other Federal
law, rules, and regulations, and that they must be consistent with
the safe and sound operations of the Enterprise. 12 CFR 1710.10(a),
67 FR 38361, 38370 (Jun. 4, 2002).
\10\ See Report of Special Examination, supra, note 2, at 164.
The concept of a non-executive chairman has support in recent
discussions on improvements to corporate governance. For example,
see General Accounting Office, Testimony of Comptroller General
Walker before Senate Banking Committee, Government-Sponsored
Enterprises: A Framework for Strengthening GSE Governance and
Oversight, GAO-04-269T (February 10, 2004) (calling for separation
of Chairman and CEO positions at Fannie Mae and Freddie Mac).
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Another new requirement would limit the service of a board member
to no more than 10 years or past the age of 72, whichever comes first.
OFHEO believes that a limit on years of service and age would promote
the highest level of functioning of the board of directors. This
approach has been undertaken by the Enterprises in various forms and
has acceptance in a number of corporate governance programs.\11\ OFHEO
invites comments on alternative age limits or term of service limits.
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\11\ Report of Special Examination, supra, note 2, at 166. An
age limit and term limit will work well in tandem and have been part
of Enterprise bylaws in one form or another.
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OFHEO requires conformance with certain rules of the NYSE in its
current corporate governance regulation. OFHEO is proposing that a
majority of the board members of an Enterprise be independent under the
rules of the NYSE.\12\ Notably, OFHEO makes no distinction between
those board members who are elected by shareholders and those who are
appointed by the President. Thus, if one or more vacancies exist on a
board among either elected or appointed shareholders, a majority of
seated board members is required. Under the final NSYE rule Section
303A.02:
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\12\ Final NYSE rule Section 303A.
(a) No board member qualifies as ``independent'' unless the
board of directors affirmatively determines that the director has no
material relationship with the listed company (either directly, or
as a partner, shareholder, or officer of an organization that has a
relationship with the company). Companies must disclose these
determinations.
* * * * *
(b) In addition:
[[Page 19128]]
(i) A director who is an employee, or whose immediate family
member is an executive officer, of the company is not independent
until three years after the end of such employment relationship.
* * * * *
(ii) A director who receives, or whose immediate family member
receives, more than $100,000 per year in direct compensation from
the listed company, other than director and committee fees and
pension or other forms of deferred compensation for prior service
(provided such compensation is not contingent in any way on
continued service), is not independent until three years after he or
she ceases to receive more than $100,000 per year in such
compensation.
* * * * *
(iii) A director who is affiliated with or employed by, or whose
immediate family member is affiliated with or employed in a
professional capacity by, a present or former internal or external
auditor of the listed company is not ``independent'' until three
years after the end of affiliation or the employment or auditing
relationship.
(iv) A director who is employed, or whose immediate family
member is employed, as an executive officer of another company where
any of the listed company's present executives serve on that
company's compensation committee is not ``independent'' until three
years after the end of such service or the employment relationship.
(v) A director who is an executive officer or an employee, or
whose immediate family member is an executive officer, of a company
that makes payments to, or receives payments from, the listed
company for property or services in an amount which, in any single
fiscal year, exceeds the greater of $1 million, or 2% of such other
company's consolidated gross revenues, is not ``independent'' until
three years after falling below such threshold.
OFHEO is proposing to incorporate the NYSE rule by reference
because the rule adequately covers what constitutes independence. As
expressly provided by proposed Sec. 1710.30, discussed below, OFHEO
would have the authority to provide for a different definition of the
term ``independent board member'' or to provide additional guidance
covering general or specific circumstances, if necessary in light of
the special characteristics of the two Enterprises, including but not
limited to circumstances where a board member has prior affiliation
with an accounting firm currently serving as auditor of the Enterprise.
In addition, the proposed section would address board meetings. It
would require that the board of directors of an Enterprise meet at
least twice a quarter to carry out its obligations and duties under
applicable laws, rules, regulations, and guidelines. Meetings must be
frequent enough to ensure that the board of directors can exercise
adequate oversight of management. OFHEO determined in its review that
the meetings of the board of directors of Freddie Mac were too
infrequent to address the issues presented by a company of its size and
complexity and also were less frequent than those of other public
companies. To meet the responsibilities of directors in their oversight
of a major financial firm, additional meetings are merited.\13\
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\13\ See Report of Special Examination, supra, note 2, at 166.
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The proposed section would also require that the non-management
directors of an Enterprise meet at regularly scheduled executive
sessions without management participation in order to promote open
discussion.\14\ The proposed section would consolidate without
substantive change the existing requirement of the current corporate
governance regulation with respect to the constitution of a quorum of
the board of directors and the prohibition against a board member
voting by proxy.
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\14\ See final NYSE rule Section 303A.03.
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Furthermore, the proposed section would require that management of
an Enterprise must provide board members with such adequate and
appropriate information that a reasonable board member would find
important to the fulfillment of his or her fiduciary duties and
obligations.\15\
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\15\ See Report of Special Examination, supra, note 2, at 166.
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Finally, the proposed section would require, at least annually, the
board of directors to review, with appropriate professional assistance,
requirements of laws, regulations, rules, and guidelines that are
applicable to its activities and duties.\16\
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\16\ See Consent Order, supra, note 5, at Art. II, Para. 10.
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Section 1710.12 Committees of Board of Directors
OFHEO is proposing to add a requirement to Sec. 1710.11,
redesignated as Sec. 1710.12, that a committee of the board of
directors of an Enterprise meet as frequently as necessary to carry out
its obligations and duties and to exercise adequate oversight of
management.\17\
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\17\ See Report of Special Examination, supra, note 2, at 166.
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The current corporate governance regulation requires that an
Enterprise establish audit and compensation committees of the board of
directors. OFHEO is proposing to add the requirement that an Enterprise
establish a nominating/corporate governance committee consistent with
the final NYSE rules.\18\
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\18\ Final NYSE rule Section 303A.04.
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The amended section would continue to require that committees of
the board of directors comply with NYSE rules.\19\ The NYSE rules
address, among other things, the independence of audit committee
members; the audit committee's responsibility to select and oversee the
issuer's independent accountant; procedures for handling complaints
regarding the issuer's accounting practices; the authority of the audit
committee to engage advisors; and, funding for the independent auditor
and any outside advisors engaged by the audit committee.
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\19\ See final NYSE rules Section 303A.06 and .07. The final
NYSE rule Section 303A.06 requires with respect to the audit
committee that listed companies must have an audit committee that
satisfies the requirements of Rule 10A-3 under the Securities
Exchange Act of 1934.
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The amended section would also require that audit committees comply
with the requirements set forth in section 301 of the SOA, which
address, among other things, audit committee responsibilities,
independence, establishment of complaint procedures, and authority to
engage advisers, as well as adequate funding of the committee. The
reference to the SOA and the final NYSE rules would not restrict the
authority of OFHEO to mandate additional requirements by regulation,
guideline, or order.
Section 1710.13 Compensation of Board Members, Executive Officers, and
Employees
OFHEO is proposing to amend Sec. 1710.12, redesignated as Sec.
1710.13, by adding language that would prohibit compensation in excess
of what is appropriate for these government sponsored enterprises, in
addition to what is reasonable (as the section currently reads) and
consistent with their long-term goals. The addition of this language is
intended to underscore the impropriety of compensation incentives that
excessively focus the attention of management and employees on short-
term earnings performance. Incentives focused primarily on short-term
earnings may lead to improper conduct at an Enterprise, as OFHEO
discovered in its investigation of Freddie Mac.\20\ Financial
incentives at the Enterprises should foster a management culture in
which effective consideration is given to operational stability and
legal and regulatory compliance.\21\ As noted above, OFHEO
[[Page 19129]]
has determined, in light of its experience with Freddie Mac and given
the Federal charters, public mission, and size and role in capital
markets of the Enterprises, that Fannie Mae and Freddie Mac should be
required to adhere to certain policies that may not be applicable to
all companies but should nevertheless apply to them. The proposed
compensation requirement in no way detracts from the obligations of
board members and management to meet their responsibilities
shareholders, but reflects the attention that needs to be paid as well
to other important considerations in directing the course and conduct
of an Enterprise.
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\20\ See Report of Special Examination, supra, note 2, at 164.
\21\ Consent Order, supra, note 5, at Art. 2, Para. 14.
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A new paragraph would require the chief executive officer and chief
financial officer to reimburse the Enterprise if the Enterprise is
required to prepare an accounting restatement due to the material
noncompliance of the Enterprise, as a result of misconduct, with any
financial reporting requirement. Reimbursement would be made in
accordance with section 304 of the SOA. Section 304 would require
reimbursement of (1) any bonus or other incentive-based, equity or
option-based compensation received by such person from the Enterprise
during the 12-month period following the first public issuance of the
financial document embodying such financial reporting requirement; and
(2) any profits realized from the sale or disposition of securities of
the Enterprise that such person owned or controlled during that 12-
month period.
The provisions of the proposed paragraph would in no manner limit
the authority of OFHEO to take any appropriate enforcement action
against an Enterprise or any of its board members or executive
officers.
Section 1710.14 Code of Conduct and Ethics
OFHEO is proposing to amend Sec. 1710.14 by revising the section
heading to read ``Code of Conduct and Ethics,'' and by referencing the
standards set forth under section 406 of the SOA. Section 406 would
provide that the code of conduct and ethics include standards as are
reasonably necessary to promote (1) honest and ethical conduct,
including the ethical handling of actual or apparent conflicts of
interest between personal and professional relationships; (2) full,
fair, accurate, timely, and understandable disclosure in the periodic
reports required to be filed by the issuer of the report, and (3)
compliance with applicable governmental rules and regulations. In
conducting its supervisory examination process, OFHEO would ensure the
adequacy of the code of conduct and ethics of an Enterprise.
In addition, the proposal would require that, at least every three
years, an Enterprise must review the adequacy of its code of conduct
and ethics to ensure that it is consistent with best practices.
Section 1710.15 Conduct and Responsibilities of Board of Directors
Section 1710.15 of the current corporate governance regulation
establishes minimum standards for the conduct and responsibilities of
the board of directors of an Enterprise. OFHEO is proposing to amend
Sec. 1710.15 to add a requirement with respect to the conduct and
responsibilities of the board of directors. The proposal would require
that the board of directors must remain reasonably informed of the
condition, activities, and operations of the Enterprise. The proposal
would also describe the responsibility of the board of directors to
have in place policies and procedures to assure its oversight of
corporate strategy, major plans of action, risk policy, programs for
legal and regulatory compliance, and corporate performance to include
prudent plans for growth and allocation of adequate resources to manage
operations risk.\22\
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\22\ See Special Report of Examination, supra, note 2, at 165-
168.
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Finally, the proposal would add a paragraph expressly addressing
the oversight responsibility related to extensions of credit to board
members and executive officers, consistent with the proposed Sec.
1710.16, discussed below. In conducting its supervisory examination
process, OFHEO would ensure that adequate policies and procedures are
in place.
Section 1710.16 Prohibition of Extensions of Credit to Board Members
and Executive Officers
OFHEO is proposing to add Sec. 1710.16, which would limit
extensions of credit to board members and other insiders as provided by
section 402 of the SOA. Section 402 of the SOA would prohibit an
Enterprise from directly or indirectly, including through any
subsidiary, extending credit or arranging for the extension of credit
in the form of a personal loan to or for any board member or executive
officer of the Enterprise. The proposed section would conform OFHEO's
regulation to that of other financial service regulators in addressing
extensions of credit by companies they supervise.
Section 1710.17 Certification of Disclosures by Chief Executive Officer
and Chief Financial Officer
OFHEO is proposing to add Sec. 1710.17, which would require
compliance with sections 302 of the SOA that mandates certain
certifications of quarterly and annual reports by the chief executive
officer and chief financial officer of an Enterprise. The proposed
section would conform OFHEO's supervisory regime to those of other
financial regulators. The proposal would assure review, endorsement,
and undertaking of responsibility by individuals required to certify
public disclosures. It would not limit OFHEO from requiring
certifications by additional parties or additional disclosures.
Section 1710.18 Change of External Audit Partner and Audit Firm
OFHEO is proposing to add Sec. 1710.18, which would prohibit an
Enterprise from accepting audit services from an external auditor if
either the lead (or coordinating) external audit partner, who has
primary responsibility for the external audit of the Enterprise, or the
external audit partner, who has primary responsibility for reviewing
the external audit, has performed audit services for the Enterprise in
each of the five previous fiscal years. This prohibition is consistent
with Section 203 of the SOA that makes it unlawful for a registered
public accounting firm to provide audit services to a public company by
such audit partners in excess of five previous fiscal years.
OFHEO is also proposing a requirement that, at least every ten
years, an Enterprise must change its external audit firm. Public
companies are currently required to rotate their audit partners, but
not the audit firm. In light of its experience with Freddie Mac, OFHEO
has determined that Fannie Mae and Freddie Mac should be required to
adhere to certain policies that may not be applicable to all companies
but should nevertheless apply to them. Given the importance of having
the most impartial oversight and review of accounting and other
matters, OFHEO is proposing that the Enterprises should secure a
different external audit firm on a periodic basis.
To allow a transition, OFHEO would require that Fannie Mae change
its external auditor no later than January 1, 2006, and thereafter no
less frequently than every ten years; and that Freddie Mac change its
external auditor no later than January 1, 2009, and thereafter no less
frequently than every ten years.
[[Page 19130]]
Section 1710.19 Compliance and Risk Management Programs
Proposed Sec. 1710.19 would require an Enterprise to establish and
maintain a compliance program headed by a person who reports directly
to the chief executive officer. The program would be required to ensure
compliance with all applicable laws, rules, regulations, and
guidelines, and adherence to best practices; establish written internal
controls and disclosure controls and procedures; and provide for
periodic meetings of the board of directors to ensure the board is able
to assess adherence to and adequacy of current policies and procedures
of the Enterprise regarding compliance and adjust such policies and
procedures, as required.
In addition, the proposed section would require an Enterprise to
establish and maintain a risk management program, headed by a person
who would manage the overall risk oversight function of the Enterprise.
The program would also be required to provide for periodic meetings of
the board of directors to ensure the board is able to assess adherence
to and adequacy of current policies and procedures of the Enterprise
regarding risk management and adjust such policies and procedures, as
required. For example, in order to assure that the board of directors
may assess adherence to compliance and risk management policies,
periodic meetings may be established between management personnel
heading such programs and the audit committee and other relevant
committees of the board of directors of the Enterprise.
The establishment and maintenance of compliance and risk management
programs are essential for the continued safe and sound operations of
the Enterprises.\23\ The establishment of such programs will assist the
board of directors in managing their responsibilities to oversee the
adequacy of policies and procedures for compliance and risk management.
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\23\ See Special Report of Examination, Recommended Actions,
Nos. 9 and 10, supra, note 2, at 165-168, and Consent Order, supra,
note 5.
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Finally, the proposed section would provide that if an Enterprise
deregisters or does not register its common stock with the Commission,
the Enterprise must continue to comply with sections 301, 302, 404,
402, and 406 of the SOA, subject to such additional requirements as
provided by Sec. 1710.30. It would also require that a registered
Enterprise maintain its registered status, unless it provides 60 days
prior written notice to the Director stating its intent to deregister
and its understanding that it will remain subject to certain
requirements of the SOA, as provided above.
Subpart D--Modification of Certain Provisions
Section 1710.30 Modification of Certain Provisions
OFHEO is proposing to move provisions of its existing regulation
and to maintain similar treatment for new provisions in Sec. 1710.30
to make clear that OFHEO, in referencing other sources for corporate
governance standards, may modify such standards to meet its statutory
responsibilities. References to standards of Federal or state law
(including the Revised Model Corporation Act), or NYSE rules in
Sec. Sec. 1710.10,\24\ 1710.11, 1710.12, 1710.17, and 1710.19 do not
limit the ability of OFHEO to modify such standards as necessary with
notice to the Enterprises.
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\24\ Section 1710.10 provides generally that an Enterprise must
follow the corporate governance practices and procedures of the law
of the jurisdiction in which the principal office of the Enterprise
is located, Delawre General Corporation Law, or the Revised Model
Business Corporation Act.
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Regulatory Impact
Executive Order 12866, Regulatory Planning and Review
The proposed amendments to the corporate governance regulation are
not classified as an economically significant rule under Executive
Order 12866 because they would not result in an annual effect on the
economy of $100 million or more or a major increase in costs or prices
for consumers, individual industries, Federal, state, or local
government agencies, or geographic regions; or have significant adverse
effects on competition, employment, investment, productivity,
innovation, or on the ability of United States-based enterprises to
compete with foreign-based enterprises in domestic or foreign markets.
Accordingly, no regulatory impact assessment is required. This proposed
regulation, however, has been submitted to the Office of Management and
Budget for review under other provisions of Executive Order 12866 as a
significant regulatory action.
Executive Order 13132, Federalism
Executive Order 13132 requires that Executive departments and
agencies identify regulatory actions that have significant federalism
implications. A regulation has federalism implications if it has
substantial direct effects on the states, on the relationship or
distribution of power between the Federal Government and the states, or
on the distribution of power and responsibilities among various levels
of government. The Enterprises are federally chartered corporations
supervised by OFHEO. The corporate governance regulation and the
proposed amendments thereto set forth minimum corporate governance
standards with which the Enterprises must comply for Federal
supervisory purposes. The corporate governance regulation requires that
an Enterprise elect a body of state corporate law or the Revised Model
Corporation Act to follow in terms of its corporate practices and
procedures. The corporate governance regulation and the proposed
amendments thereto do not affect in any manner the powers and
authorities of any state with respect to the Enterprises or alter the
distribution of power and responsibilities between Federal and state
levels of government. Therefore, OFHEO has determined that the
corporate governance regulation and the proposed amendments thereto, if
adopted, have no federalism implications that warrant the preparation
of a Federalism Assessment in accordance with Executive Order 13132.
Regulatory Flexibility Act
The Regulatory Flexibility Act (5 U.S.C. 601 et seq.) requires that
a regulation that has a significant economic impact on a substantial
number of small entities, small businesses, or small organizations
include an initial regulatory flexibility analysis describing the
regulation's impact on small entities. Such an analysis need not be
undertaken if the agency has certified that the regulation will not
have a significant economic impact on a substantial number of small
entities. 5 U.S.C. 605(b). OFHEO has considered the impact of the
proposed amendments to the corporate governance regulation under the
Regulatory Flexibility Act. The General Counsel of OFHEO certifies that
the corporate governance regulation and the proposed amendments
thereto, if adopted, are not likely to have a significant economic
impact on a substantial number of small business entities because it is
applicable only to the Enterprises, which are not small entities for
purposes of the Regulatory Flexibility Act.
List of Subjects in 12 CFR Part 1710
Administrative practice and procedure, Government Sponsored
Enterprises.
[[Page 19131]]
Accordingly, for the reasons stated in the preamble, OFHEO proposes
to amend 12 CFR part 1710 to subchapter C of chapter XXVII to read as
follows:
PART 1710--CORPORATE GOVERNANCE
1. The authority citation for part 1710 continues to read as
follows:
Authority: 12 U.S.C. 4513(a) and 4513(b)(1).
Sec. 1710.13 [Removed]
2. Remove Sec. 1710.13.
Sec. Sec. 1710.11 and 1710.12 [Redesignated]
3. Redesignate Sec. Sec. 1710.11 and 1710.12 as new Sec. Sec.
1710.12 and 1710.13, respectively;
4. Add a new Sec. 1710.11 to read as follows:
Sec. 1710.11 Board of directors.
(a) Membership.
(1) Chairperson and chief executive officer. Effective January 1,
2007, the chairperson of the board of directors of an Enterprise may
not also serve as the chief executive officer of the Enterprise.
(2) Limits on service of board members. No director of an
Enterprise may serve on the board of directors for more than 10 years
or past the age of 72, whichever comes first.
(3) Independence of board members. A majority of seated members of
the board of directors of an Enterprise shall be independent board
members, as defined under rules set forth by the NYSE.
(b) Meetings, quorum and proxies, information, and annual review.
(1) Frequency of meetings. The board of directors of an Enterprise
shall meet at least twice a quarter to carry out its obligations and
duties under applicable laws, rules, regulations, and guidelines.
(2) Non-management board member meetings. Non-management directors
of an Enterprise shall meet at regularly scheduled executive sessions
without management participation.
(3) Quorum of board of directors; proxies not permissible. For the
transaction of business, a quorum of the board of directors of an
Enterprise is at least a majority of the seated board of directors and
a board member may not vote by proxy.
(4) Information. Management of an Enterprise shall provide a board
member of the Enterprise with such adequate and appropriate information
that a reasonable board member would find important to the fulfillment
of his or her fiduciary duties and obligations.
(5) Annual review. At least annually, the board of directors of an
Enterprise shall review, with appropriate professional assistance, the
requirements of laws, regulations, rules, and guidelines that are
applicable to its activities and duties.
5. Amend newly designated Sec. 1710.12 by revising paragraph (b)
and by adding new paragraph (c) to read as follows:
Sec. 1710.12 Committees of board of directors.
* * * * *
(b) Frequency of meetings. A committee of the board of directors of
an Enterprise shall meet with sufficient frequency to carry out its
obligations and duties under applicable laws, rules, regulations, and
guidelines.
(c) Required committees. An Enterprise shall provide for the
establishment of, however styled, the following committees of the board
of directors, which committees shall be in compliance with the charter,
independence, composition, expertise, duties, responsibilities, and
other requirements set forth under section 301 of the Sarbanes-Oxley
Act of 2002, Public Law 107-204 (Jul. 30, 2002), as from time to time
amended (SOA), with respect to the audit committee, and under rules
issued by the NYSE, as from time to time amended (NYSE rules):
(1) Audit committee;
(2) Compensation committee; and
(3) Nominating/corporate governance committee.
6. Amend newly designated Sec. 1710.13 by revising newly
designated paragraph (a) and by adding a new paragraph (b) to read as
follows:
Sec. 1710.13 Compensation of board members, executive officers, and
employees.
(a) General. Compensation of board members, executive officers, and
employees of an Enterprise shall not be in excess of that which is
reasonable and appropriate, shall be commensurate with the duties and
responsibilities of such persons, shall be consistent with the long-
term goals of the Enterprise, shall not focus solely on earnings
performance, but shall take into account operational stability and
legal and regulatory compliance as well, and shall be undertaken in a
manner that complies with applicable laws, rules, and regulations.
(b) Disgorgement. If an Enterprise is required to prepare an
accounting restatement due to the material noncompliance of the
Enterprise, as a result of misconduct, with any financial reporting
requirement under law or regulation, the chief executive officer and
chief financial officer of the Enterprise shall reimburse the
Enterprise as provided under section 304 of the SOA.
7. Amend Sec. 1710.14 by revising the section heading, revising
newly designated paragraph (a) and adding new paragraphs (b) and (c) to
read as follows:
Sec. 1710.14 Code of conduct and ethics.
(a) General. An Enterprise shall establish and administer a written
code of conduct and ethics that is reasonably designed to assure the
ability of board members, executive officers, and employees of the
Enterprise to discharge their duties and responsibilities, on behalf of
the Enterprise, in an objective and impartial manner, and that includes
standards required under section 406 of the SOA.
(b) Review. Not less than once every three years, an Enterprise
shall review the adequacy of its code of conduct and ethics to ensure
that it is consistent with best practices.
8. Amend Sec. 1710.15 by revising paragraph (b) to read as
follows:
Sec. 1710.15 Conduct and responsibilities of board of directors.
* * * * *
(b) Conduct and responsibilities. The board of directors of an
Enterprise is responsible for directing the conduct and affairs of the
Enterprise in furtherance of the safe and sound operation of the
Enterprise and shall remain reasonably informed of the condition,
activities, and operations of the Enterprise. The responsibilities of
the board of directors include having in place adequate policies and
procedures to assure its oversight of, among other matters, the
following:
(1) Corporate strategy, major plans of action, risk policy,
programs for legal and regulatory compliance and corporate performance,
including but not limited to prudent plans for growth and allocation of
adequate resources to manage operations risk;
(2) Hiring and retention of qualified senior executive officers and
succession planning for such senior executive officers;
(3) Compensation programs of the Enterprise;
(4) Integrity of accounting and financial reporting systems of the
Enterprise, including independent audits and systems of internal
control;
(5) Process and adequacy of reporting, disclosures, and
communications to shareholders, investors, and potential investors;
(6) Extensions of credit to board members and executive officers;
and
(7) Responsiveness of executive officers in providing accurate and
timely reports to Federal regulators and in addressing the supervisory
concerns
[[Page 19132]]
of Federal regulators in a timely and appropriate manner.
* * * * *
9. Add new Sec. 1710.16 to read as follows:
Sec. 1710.16 Prohibition of extensions of credit to board members and
executive officers.
An Enterprise may not directly or indirectly, including through any
subsidiary, extend or maintain credit, arrange for the extension of
credit, or renew an extension of credit, in the form of a personal loan
to or for any board member or executive officer of the Enterprise, as
provided by section 402 of the SOA.
10. Add new Sec. 1710.17 to read as follows:
Sec. 1710.17 Certification of disclosures by chief executive officer
and chief financial officer.
The chief executive officer and the chief financial officer of an
Enterprise shall read each quarterly report and annual report issued by
the Enterprise and such reports shall include certifications by such
officers as required by section 302 of the SOA.
11. Add new Sec. 1710.18 to read as follows:
Sec. 1710.18 Change of external audit partner and audit firm.
(a) Change of external audit partner. An Enterprise may not accept
audit services from an external auditor if either the lead (or
coordinating) external audit partner who has primary responsibility for
the external audit of the Enterprise or the external audit partner who
has primary responsibility for reviewing the external audit has
performed audit services for the Enterprise in each of the five
previous fiscal years.
(b) Change of external audit firm. The Federal National Mortgage
Association shall change its external auditor no later than January 1,
2006, and thereafter no less frequently than every ten years; and the
Federal Home Loan Mortgage Corporation shall change its external
auditor no later than January 1, 2009, and thereafter no less
frequently than every ten years.
12. Add new Sec. 1710.19 to read as follows:
Sec. 1710.19 Compliance and risk management programs; compliance with
other laws.
(a) Compliance program. An Enterprise shall establish and maintain
a compliance program, headed by a person who reports directly to the
chief executive officer of the Enterprise, that shall--
(1) Ensure that the Enterprise complies with all applicable laws,
rules, regulations, and guidelines, and adheres to best practices;
(2) Establish written internal controls and disclosure controls and
procedures;
(3) Provide for periodic meetings of the board of directors to
ensure the board is able to assess adherence to and adequacy of current
policies and procedures of the Enterprise regarding compliance and
adjust such policies and procedures, as required.
(b) Risk management program. An Enterprise shall establish and
maintain a risk management program, headed by a person who reports
directly to the chief executive officer of the Enterprise, that shall--
(1) Manage the overall risk oversight function of the Enterprise;
(2) Provide for periodic meetings of the board of directors to
ensure the board is able to assess adherence to and adequacy of current
policies and procedures of the Enterprise regarding risk management and
adjust such policies and procedures, as required.
(c) Compliance with other laws.
(1) If an Enterprise deregisters or does not register its common
stock with the U.S. Securities and Exchange Commission (Commission)
under the Securities Exchange Act of 1934, the Enterprise shall
continue to comply with sections 301, 302, 304, 402, and 406 of the
SOA, subject to such requirements as provided by Sec. 1710.30 of this
part.
(2) An Enterprise that has its common stock registered with the
Commission shall maintain such registered status, unless it provides 60
days prior written notice to the Director stating its intent to
deregister and its understanding that it will remain subject to the
requirements of sections 301, 302, 304, 402, and 406 of the SOA,
subject to such requirements as provided by Sec. 1710.30 of this part.
13. Add new subpart D to read as follows:
Subpart D--Modification of Certain Provisions
Sec. 1710.30 Modification of certain provisions.
In connection with standards of Federal or state law (including the
Revised Model Corporation Act) or NYSE rules that are made applicable
to an Enterprise by Sec. Sec. 1710.10, 1710.11, 1710.12, 1710.17, and
1710.19 of this part, the Director, in his or her sole discretion, may
modify such standards upon written notice to the Enterprise.
Dated: April 7, 2004.
Armando Falcon, Jr.,
Director, Office of Federal Housing Enterprise Oversight.
[FR Doc. 04-8236 Filed 4-9-04; 8:45 am]
BILLING CODE 4220-01-P