[Federal Register Volume 77, Number 187 (Wednesday, September 26, 2012)]
[Rules and Regulations]
[Pages 59050-59053]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-23723]
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FARM CREDIT ADMINISTRATION
12 CFR Part 630
RIN 3052-AC77
Disclosure to Investors in System-Wide and Consolidated Bank Debt
Obligations of the Farm Credit System; System Audit Committee
AGENCY: Farm Credit Administration.
ACTION: Final rule.
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SUMMARY: The Farm Credit Administration (FCA, us, we, or our) amends
our regulations related to the Federal Farm Credit Banks Funding
Corporation (Funding Corporation) System Audit Committee (SAC) and the
Farm Credit System (System) annual report to investors. The final rule
removes the provision for a two-thirds majority vote of the Funding
Corporation board of directors to deny a request for resources by the
SAC and requires the SAC to use resources to preserve and promote the
safety and soundness of the System. The rule also requires quarterly
reporting by the SAC to the Funding Corporation board and annual
reporting to investors on resources used.
DATES: This regulation will be effective 30 days after publication in
the Federal Register during which either or both Houses of Congress are
in session. We will publish a notice of the effective date in the
Federal Register.
FOR FURTHER INFORMATION CONTACT: Deborah Wilson, Senior Accountant,
Office of Regulatory Policy, Farm Credit Administration, McLean, VA
22102-5090, (703) 883-4414, TTY (703) 883-4434, or Laura McFarland,
Senior Counsel, Office of General Counsel, Farm Credit Administration,
McLean, VA 22102-5090, (703) 883-4020, TTY (703) 883-4020.
SUPPLEMENTARY INFORMATION:
I. Objectives
The objectives of this final rule are to:
Allow the SAC unrestricted access to resources to engage
legal counsel, consultants and outside advisors; and
Clarify that the SAC must have the agreement of the
Funding Corporation board of directors in order to appoint, compensate,
and retain the external auditor of the combined System-wide reports.
II. Background
The Farm Credit Act of 1971, as amended (Act),\1\ authorizes the
FCA to issue regulations implementing the Act's provisions.\2\ Our
regulations are intended to ensure the safe and sound operations of
System institutions and to govern the disclosure of financial
information to shareholders of, and investors in, the System. Section
630.6(a) of our existing regulations requires the Funding Corporation
to establish and maintain the SAC, including providing monetary and
nonmonetary resources for SAC operations. Our existing regulation
requires a two-thirds vote of the full Funding Corporation board to
deny any SAC request for resources.
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\1\ Public Law 92-181, 85 Stat. 583 (1971), 12 U.S.C. 2001 et
seq.
\2\ 12 U.S.C. 2252(a)(8), (9) and (10).
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In a May 2010 petition, the SAC requested that we amend Sec.
630.6(a) to allow the SAC the unfettered ability to engage outside
advisors, consultants and legal counsel in the performance of its
duties. In a February 14, 2012, proposed rulemaking, we proposed:
Removing the requirement that the Funding Corporation
Board deny a SAC request for resources by a two-thirds majority vote of
the full board;
The SAC use resources in a manner that would not adversely
affect the safety and soundness of the System; and
Disclosure of resources used by, and the composition of,
the SAC.\3\
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\3\ 77 FR 8179 (Feb. 14, 2012).
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The 60-day comment period for the proposed rule closed on April 16,
2012.
III. Comments and Our Responses
We received comment letters on the proposed rule from each of the
four Farm Credit banks, the Farm Credit Council (Council) on behalf of
its membership, and a joint letter from the Funding Corporation and the
SAC (joint letter). The Farm Credit banks and the Council expressed
support for the comments made in the joint letter. We discuss the
comments to our proposed rule and our responses below. Unless otherwise
discussed in this preamble, those areas of the proposed rule not
receiving comment are finalized as proposed.
A. System Audit Committee Authority [Sec. 630.6(a)]
All commenters supported removing the requirement that a two-thirds
majority vote of the full Funding Corporation board of directors was
needed to deny a SAC request for resources. Also, commenters supported
the requirement that the SAC report at least quarterly to the Funding
Corporation board on its use of resources.
Commenters expressed concern with the requirement that the SAC use
Funding Corporation resources in a
[[Page 59051]]
manner that would not adversely affect the safety and soundness of the
System. They stated that the safety and soundness provision was not
operational and could be subject to different interpretations. One
commenter provided an example in which the SAC may choose not to
investigate or uncover potential financial wrongdoing because
disclosing how it used the resources and the results from the use of
those resources may impact the System's cost of funds in a manner that
could adversely affect the safety and soundness of the System. The
commenter noted that failure of the SAC to investigate or uncover a
potential financial wrongdoing could also adversely affect the safety
and soundness of the System. We respectfully disagree with comments
arguing that the provision may not be operational when there may be a
duty to disclose financial wrongdoing which might adversely affect the
cost of funds for the System. Uncovering financial wrongdoing and any
unavoidable impact would not be contrary to the rule. While the
wrongdoing itself may affect safety and soundness, the corrective
actions taken to respond to and resolve the wrongdoing would be a
positive impact on the safety and soundness of the System and,
therefore, not prohibited under the rule. It is the financial
wrongdoing that could adversely affect the safety and soundness of the
System, not the action taken by the SAC to uncover and correct it.
Commenters stated that requiring the SAC to use Funding Corporation
resources in a manner that would not adversely affect the safety and
soundness of the System provision would create a standard that is
stricter than that applied under governance best practices and should
not be required. Some commenters expressed that holding the SAC to a
stricter standard in the use of resources may hinder the Funding
Corporation's ability to attract and retain SAC members, which could
potentially damage the safety and soundness of the System. As the
safety and soundness regulator of System institutions, including the
Funding Corporation and its SAC, we expect all institutions to use
resources according to law and regulations and in a safe and sound
manner. We believe using resources accordingly and in such a manner
should always be considered a best practice. Further, since the SAC is
not composed solely of members of the board of directors as are other
System institution audit committees,\4\ we want to be clear that the
SAC is held to the same safety and soundness standard.
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\4\ The SAC is only required to have one-third of its membership
from the Funding Corporation board of directors. Audit committee
members of Farm Credit banks and associations are composed solely of
members of the respective institution's board of directors.
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Commenters stated the SAC cannot guarantee that the use of
resources would lead directly to results that ensure the safety and
soundness of the System. One commenter noted that the requirement may
discourage the SAC from engaging outside third parties to assist with
investigations or prevent the SAC from seeking their advice. The rule
does not require the SAC use of resources guarantee the System's safety
and soundness. Instead, the rule requires that the SAC not use Funding
Corporation resources in a manner that would adversely affect the
safety and soundness of the System or be contrary to law and
regulation. We refer again to the example in which the SAC would use
resources to uncover financial wrongdoing. The actual act of financial
wrongdoing may adversely affect the safety and soundness of the System.
The use of resources by the SAC to uncover and correct the wrongdoing
may not be considered to have caused the adverse effect, but may help
preserve and promote the safety and soundness of the System.
The joint letter asserted that the SAC is already bound by its
fiduciary duties to act prudently. The joint letter stated that the
Business Judgment Rule allows SAC members to rely on the advice of
experts, but the safety and soundness provision would create a judicial
and regulatory hindsight that the Business Judgment Rule was meant to
deter. The commenter stated that this could potentially lead to a
liability for SAC members.
The Business Judgment Rule provides a measure of liability
protection to directors, officers, employees, and agents of a
corporation when, in the course of decision-making, they place a
reasonable reliance on expert advice. When applying the Business
Judgment Rule, the courts consider whether the decision-making process
involved careful consideration of reasonably available and relevant
facts and whether the decision-maker honestly and reasonably believed
that the decision was in the best interest of the institution. The
safety and soundness of the System is in the best interest of the SAC
and the Funding Corporation. We see nothing in the requirement to use
Funding Corporation resources in a safe and sound manner that is
contrary to the SAC's fiduciary duties or diminishes the protection
offered the SAC under the ``Business Judgment Rule.'' As such, the
argument that the provision hinders or otherwise contradicts the
principals behind the Business Judgment Rule is not meritorious.
The SAC's use of Funding Corporation resources must have the
intended purpose of preserving or promoting the safety and soundness of
the System. We do not believe that it is more difficult for the SAC to
carry out its responsibilities in a manner that does not adversely
affect the System's safety and soundness than it is for other System
institution audit committees. However, in consideration of the
comments, we are modifying the language to clarify the requirement. The
provision as finalized places a positive duty on the SAC to use
resources in a lawful manner and to preserve and promote the safety and
soundness of the System. This provision does not prevent the Funding
Corporation board from developing its own policies and procedures to
address the request for and use of resources by the SAC.
B. External Auditors [Sec. 630.6(a)(4)(ii)(A)]
All commenters agreed with the proposed clarification that the SAC
determines the appointment, compensation, and retention of the external
auditor only with the agreement of the Funding Corporation board.
However, commenters asked that the rule text make clear that this
authority relates to the performance of the audit of the System-wide
combined financial statements and not the audit fees related to the
performance of the audit of the financial statements of individuals
banks and associations. We do not believe any changes are needed to the
language in Sec. 630.6(a)(4)(ii). The rule clearly states that the
appointment, compensation and retention of the external auditors
relates solely to issuing the combined System-wide audit report and not
the audit report of individual banks and associations. Our rule at
Sec. 620.30(d)(2) gives that authority to the audit committees of
individual banks and associations. In addition, in a 2006 rulemaking,
we made changes to our rules to limit the authority of the Funding
Corporation, and by extension the SAC, to intervene in the activities
of any bank or association's external auditor.\5\
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\5\ See 71 FR 76111, Dec. 20, 2006.
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The joint letter requested that the rule not require Funding
Corporation board concurrence for ordinary or recurring external
auditor fees. We do not believe
[[Page 59052]]
this change is necessary because, as previously stated, the Funding
Corporation board may develop its own procedures to address the
activities of the SAC as long as those procedures do not conflict with
law or regulation.
We finalize the provisions of Sec. 630.6(a)(4)(ii)(A) as proposed.
C. Disclosure of System Audit Committee Expenditures [Sec. 630.20(n)]
We proposed in Sec. 630.20(n) that Funding Corporation resources
used by the SAC be disclosed by category and amount in the annual
System-wide report to investors if the total of each expense category
for the reporting year was $5,000 or more. The proposed categories
included, at a minimum, administrative expenses, contracted legal
services, contracted consultants and advisors, and other contracted
services performed on behalf of the SAC. We proposed excluding from
this section disclosure of the fees paid to the external auditor for
issuing System-wide audit reports. That disclosure is required by
existing Sec. 630.20(k)(2).
Commenters expressed concern with the additional disclosures
proposed in Sec. 630.20(n). Other commenters contended that the
disclosure placed a higher standard on the SAC than what is required of
entities registered with the Securities Exchange Commission (SEC) or as
required by the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley).\6\ The
joint letter stated the disclosures were unnecessary and explained that
as a best practice the SAC follows most SEC disclosure requirements,
using a materiality assessment. Commenters suggested disclosures not be
required before any investigation or similar inquiry by the SAC is
completed. One commenter stated that the disclosures could reveal
confidential information and might affect the ability of the SAC to
engage outside consultants. The joint letter asserted attorney-client
communications would also be compromised.
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\6\ Public Law 107-204, July 30, 2002. Congress enacted
Sarbanes-Oxley after revelation of accounting and financial
management scandals involving public companies. It was enacted to
strengthen financial disclosure, reporting, and accountability
requirements for publicly traded companies and other entities
registered with the SEC. Farm Credit banks and associations are not
subject to the governance requirements of Sarbanes-Oxley.
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We believe disclosure of the use of Funding Corporation resources
by the SAC provides transparency to System stockholders and investors
and strengthens board and management accountability. Further, we
believe removing the provision that a two-thirds majority vote of the
full Funding Corporation board be required to deny an SAC request for
resources necessitates an added level of accountability by the SAC.
We do not believe that disclosing the dollar amount of resources
used to hire legal counsel, consultants and other categories of
services would compromise confidentiality or attorney-client relations.
The provision does not require the disclosure in the annual System-wide
report to investors of the name of or service performed by legal
counsel, advisors or outside consultants engaged by the SAC. Instead,
the provision requires reporting the cost of and benefits to the System
from the use of those resources. However, since disclosure of benefits
derived from using those resources appears to be the source of
commenters' concerns, and considering the safety and soundness
constraints placed on the use of resources, we are finalizing the rule
with the cost disclosure only and without the requirement to report the
benefits of resources used. We expect the SAC to disclose information
on the benefit from the use of resources to the Funding Corporation
board.
One commenter requested that we limit the definition of external
resources to ``experts'' engaged by the SAC and not include resources
used by the SAC for off-site meeting facilities. The commenter stated
that the use of these resources should instead be periodically reported
to the Funding Corporation board. We respectfully disagree with the
suggestion of limiting the disclosure on the SAC's use of resources to
only ``experts.'' The Funding Corporation is required to provide both
monetary and nonmonetary resources to the SAC and we proposed
disclosures of those resources to ensure that investors are provided
transparent and complete disclosure on the use of resources by the SAC.
Further, we identified categories of resources based on use, including
a disclosure category of ``administrative expenses,'' which may include
either internal or external resources or both. Thus, if the SAC uses
Funding Corporation resources for meeting sites, those expenses would
be reported in the ``administrative expense'' category.
One commenter asserted that the $5,000 de minimis reporting
threshold was too low and should be increased. We believe this
threshold is reasonable given we are removing the requirement for a
two-thirds majority vote of the full Funding Corporation board to deny
an SAC request for resources. In addition, the threshold resembles
other disclosure thresholds contained elsewhere in our rules. We are
not increasing the reporting threshold in this final rule.
One commenter requested that we clarify the relationship of the
proposed Sec. 630.20(n) exemption from reporting external audit fees
for issuance of System-wide audit reports with the existing requirement
of Sec. 630.20(k)(2), which requires the disclosure of fees. Existing
Sec. 630.20(k)(2) requires disclosure of fees paid to the external
auditor during the reporting period for audit services, tax services,
and non-audit services. Because Sec. 630.20(k)(2) currently requires
disclosure of these fees, we did not also propose requiring a similar
disclosure requirement in Sec. 630.20(n). We are revising the language
in Sec. 630.20(n) for clarity.
No comments were received on the proposed requirement to disclose
in the annual System-wide report to investors the name, experience, and
compensation of SAC members. Also, we received no comments on the
categories of resources used by the SAC that were identified in the
proposed rule and required to be disclosed. We finalize these
provisions as proposed.
IV. Regulatory Flexibility Act
Pursuant to section 605(b) of the Regulatory Flexibility Act (5
U.S.C. 601 et seq.), the FCA hereby certifies that this final rule will
not have a significant economic impact on a substantial number of small
entities. Each of the banks in the Farm Credit System, considered
together with its affiliated associations, has assets and annual income
in excess of the amounts that would qualify them as small entities.
Therefore, Farm Credit System institutions are not ``small entities''
as defined in the Regulatory Flexibility Act.
List of Subjects in 12 CFR Part 630
Accounting, Agriculture, Banks, banking, Organization and functions
(Government agencies), Reporting and recordkeeping requirements, Rural
areas.
For the reasons stated in the preamble, part 630 of chapter VI,
title 12 of the Code of Federal Regulations is amended as follows:
PART 630--DISCLOSURE TO INVESTORS IN SYSTEM-WIDE AND CONSOLIDATED
BANK DEBT OBLIGATIONS OF THE FARM CREDIT SYSTEM
0
1. The authority citation for part 630 is revised to read as follows:
Authority: Secs. 4.2, 4.9, 5.9, 5.17, 5.19 of the Farm Credit
Act (12 U.S.C. 2153, 2160, 2243, 2252, 2254); sec. 424 of Pub. L.
100-233, 101 Stat. 1568, 1656; sec. 514 of Pub. L. 102-552, 106
Stat. 4102.
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0
2. Section 630.6 is amended by revising paragraphs (a)(3) and
(a)(4)(ii)(A) to read as follows:
Sec. 630.6 Funding Corporation committees.
(a) * * *
(3) Resources. The Funding Corporation must provide the SAC
monetary and nonmonetary resources the SAC determines necessary to
enable it to perform the duties listed in paragraph (a)(4) of this
section. The Funding Corporation must permit the SAC to contract, for
reasons directly related to the duties listed in paragraph (a)(4) of
this section, the services of external auditors, independent legal
counsel, and outside advisors. The SAC must only use the resources of
the Funding Corporation in a manner that complies with laws and
regulations and for the purpose of preserving and promoting the safety
and soundness of the System. The SAC must provide the Funding
Corporation board of directors a quarterly accounting of expenditures
made pursuant to this section.
(4) * * *
(ii) * * *
(A) Determine, with the agreement of the Funding Corporation board
of directors, the appointment, compensation, and retention of the
external auditors issuing System-wide audit reports;
* * * * *
0
3. Section 630.20 is amended by revising paragraph (n) to read as
follows:
Sec. 630.20 Contents of the annual report to investors.
* * * * *
(n) System Audit Committee. The Funding Corporation must include in
the System-wide Report to Investors a description of the System Audit
Committee and its activities during the reporting period. At a minimum,
the description must:
(1) List the names of the System Audit Committee members, including
each member's term of office and principal occupation during the past 5
years. For each member, state the total cash and noncash compensation
paid for services on the System Audit Committee during the reporting
period.
(2) Disclose by category the monetary and nonmonetary resources
used by the System Audit Committee during the reporting period. Discuss
only those categories where the resources used within a category
equaled or exceeded a total aggregate value of $5,000 during the
reporting period. Fees paid for the audit of the System-wide financial
statements, which are disclosed under paragraph (k)(2) of this section,
are not included in any category under this paragraph. At a minimum,
there must be separate categories for:
(i) Administrative expenses,
(ii) Contracted legal services,
(iii) Contracted consultants and advisors, and
(iv) Other contracted services, identifying the services.
* * * * *
Dated: September 20, 2012.
Dale L. Aultman,
Secretary, Farm Credit Administration Board.
[FR Doc. 2012-23723 Filed 9-25-12; 8:45 am]
BILLING CODE 6705-01-P