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In the 2 1/2 years since Houston-based Enron Corp. filed for Chapter 11 bankruptcy protection in the wake of financial reporting problems and the collapse of its stock price, corporate integrity has become the new business catchphrase and a topic of great importance to in-house lawyers and corporate executives. Texas Lawyer and Executive Legal Adviser, a Texas Lawyer publication, brought together a general counsel, CenterPoint Energy’s Scott Rozzell of Houston; a chief executive officer, Malcolm Skolnick of CytoGenix Inc. of Houston; and famed former Enron executive Sherron Watkins, on June 11 in Houston for a roundtable discussion on corporate integrity issues. Before an audience of more than 200 lawyers and business executives, Rozzell, Skolnick and Watkins talked about how new corporate integrity rules and regulations are affecting business, and the costs of compliance. Watkins also warned the crowd to make sure they are getting good advice, noting for instance that the Sarbanes-Oxley Corporate Fraud and Accountability Act of 2002 applies to public companies and wouldn’t necessarily apply to nonprofits. A portion of the discussion appears below, edited for length and style. Brenda Sapino Jeffreys, senior reporter, Texas Lawyer: [E]xplain how the new corporate integrity rules, regulations and environment are affecting [your] job. Malcolm Skolnick, chairman, president and CEO, CytoGenix Inc.: My company is a biotech company, a startup, a public company, three severe disadvantages if you talk to investment bankers. We depend on the quality of our science to convince people to give us money so we can do more science, translated into therapeutic modalities and into things that we think will help, and, by the way, pay our salaries and our insurance agents and our attorneys. If we can’t convince people that that’s true, our stock price falls, people walk away, and we go out of business. So, we have to deal with a set of issues on a daily basis of how you interpret science, which is very complicated to people who haven’t got graduate degrees, and make them understand, one, what it is; two, how it can help them as individual investors, and how it’s going to eventually get to a market and get sold. It starts with things in the laboratory where you collect data. We’re a science-driven business. And in science there’s a right way to collect data and a right way to report it and a wrong way. It’s one of the few absolutes that I know. Unfortunately, there are lots of ways to cheat, and you have to watch very, very carefully. Sometimes you get scientists who are so in love with their own hypothesis and their own experiment that they will take shortcuts and say, you know, this little piece of data here really isn’t valid because it’s a mistake. You know, somebody dropped a test tube, somebody turned the wrong switch, so we’re just going to ignore it. Well, you can’t do that. Next thing comes in reporting the science, making press releases, making people understand it, all the way from investors to investment bankers to other scientists. And if you don’t tell the truth and the whole truth, you fall into the trap. … I don’t have many mentors anymore being the age that I am, but I do have a wife and she has taken the place. And every day when I come home, and sometimes before I leave, she has questions: What did you do about this guy? What did you do about that experiment? What are you going to do about this press release? And if I can’t explain it to her, I know I’m in trouble. And she never quits, thank goodness. She doesn’t walk away. Well, I’m sure that every other executive, whether it’s in a teeny microcap company like mine, that’s still pretty much a startup, or large company, has to deal with just those kinds of issues, and I promise you, from my point of view, the small ones are just as critical as the big ones. And I of course have my own heartbreak story. I had a guy who I thought was terrific, Ph.D. in molecular biology, an MBA and a JD. This guy is a real triple threat and I thought he was going to be terrific. Turns out his moral compass and mine were going in very, very different directions, and when that became apparent I took what I thought was the appropriate action and ended up, after I thought I had done the right thing, getting sued anyway, which is where I found out more that I didn’t know about employment law, and that continues to be the case. My company has been the beneficiary of some extraordinary legal assistance. We have an SEC attorney who is a nice man, a very, very good lawyer, and a very clear thinker, who knows what the rules are, knows how the agency works. He worked there himself. And he knows what will work that’s clear and honest and straight and defendable, and what won’t. And we listen to him very, very carefully. I wish I had had that kind of advice when I was just starting the company as opposed to finding it out only later. We have an intellectual property attorney on the outside, who knows what works, knows what doesn’t, knows what the rules are both internationally and in the United States and advises us very carefully. And mostly the advice is: You can’t do that and here’s why, and if we don’t listen to that we’re in trouble. The temptation to take shortcuts, to mold the message, is always there. And if you pay attention to that siren call, you’ve started down the slippery slope. And in our business, once you take the first step, you almost never can go back. So, I’m very, very careful. Scott Rozzell, executive vice president and general counsel, CenterPoint Energy: I’m the general counsel of CenterPoint Energy. That’s a public utility holding company. It’s the third largest combined gas and electric utility in the country, with about $19 billion worth of assets. We have 23 lawyers located in three states, and before coming to CenterPoint three years ago I was a lawyer at Baker Botts for 26 years. But I’m really a utility lawyer and I work for a utility. And the changes that have been wrought in the last several years because of changes in our marketplace, changes in the legislative arena, have been significant and far-reaching, but in many ways, for a company like ours, they’re really not all that different. Public utility companies conduct their business, by definition, in the public eye. Our books are always open to inspection by regulators. Disclosures, whether it’s compelled by the SEC or the PUCs [public utility commissions] in the various states in which we operate, have been a way of life for our company for 100 years. Utilities often have broad-based boards, boards that reflect the communities in which they operate, and it’s not uncommon for them to be primarily independent. So, a company like ours, with the exception of our CEO, has an entirely independent board of directors. We have codes of conduct that are imposed upon us by various regulatory agencies, both state and federal. And I’m proud to say that our company has been a little ahead of some of the reforms that have come out of the corporate scandals in the Sarbanes-Oxley laws. We have a non-executive chairman. Our chairman and CEO responsibilities … are split. We’ve always had audit committees, governance committees and compensation committees that have been entirely composed of independent directors. But, having said that, I’ll have to tell you that I think that the Sarbanes-Oxley laws have had a profound effect on our company. And what it’s forced us to do is re-examine some of the things that we thought that we were doing just fine and that we are very proud about and that we patted ourselves on the back [for]. I think that … at Enron not only did you have a failure of conscience, but you also had an indication of deficiencies in internal controls. And I think all companies can learn from that. I think if you would have asked us in 2000 what our company’s internal controls looked like, we would have said they looked just fine. But these laws have required us to go back and re-examine our internal controls and we’ve found lots of ways that they could be improved. We have been forced to go back and look at the various codes of conduct that we have been required to comply with and ask ourselves the hard questions: Do these codes really address all the situations that you need to be aware of, all the situations that you need to have procedures in place to deal with? And the answer we found is that there were additional topics that needed to be addressed. And, so, I think that those of us in the corporate world, whether we had significant sophisticated controls, operated in the public eye or didn’t operate so much in the public eye, have had to adapt a lot to the most recent legislative developments. And I think those are good. I think the fact of the matter is companies, when faced with these sorts of requirements, really have two choices: Do you want to comply or do you want to learn? And I think smart companies — and I hope we fall in that category — want to learn. They want to learn how they can make their internal controls better. They want to learn how they can make their codes of conduct better. They want to learn how they can make their corporate culture one that they can be proud of and that is clearly understood by their employees from top to bottom. I call that the difference between compliance and opportunity. And I think all of us, if we can step back a little bit from this, don’t mean to ask really the question “What is this costing us?” but “What is it that we’re going to get out of it?” And I think the answer to that is that we all can receive significant benefits from re-examining our companies and the way we do business in the light of the lessons that we’ve learned over the last several years. Jeffreys: Well, I was wondering, what the cost is to a corporation in terms of time, manpower, and whether you think it’s worth the cost. … [D]o you find that your companies are spending a lot more time and money on compliance? Rozzell: I would say for us, the answer to that is clearly yes. I think we’ve spent a lot more money … with our accountants and with our attorneys. And if you were to ask me is that worth every penny, probably not. And the reason I say that — and I don’t mean to sound inconsistent with what I just said — is that we tend in this country when faced with significant issues to look not at conduct but at procedures. And so we’ve spent a lot of time, I think, responding to directives that may or may not produce at the detailed level a real payback, but I think at the general level … when you back up and look at the question[s], What is it you’re supposed to learn from this? Can you improve your internal controls? Can you do all those other things that I mentioned before? I think it’s a real investment from which we expect to get a positive payback for our company, and not just in terms of avoidance of legal problems but in the way that our company is operated for the benefit of our shareholders. Skolnick: For a tiny startup company that is public, that faces the absolute requirement for compliance with the SEC, the burden is enormous. It costs us probably $250,000 a year to get our two-and-a-half-million-a-year budget audited and to report in the 10K’s and Q’s that we have to report to the SEC. And that’s the price we pay for being a public company listed in a public market. That’s a fearsome expense for us. It means that there are experiments we can’t do, it means there are procedures we can’t follow, but I think every penny is worth it. And the reason I do is because we’re not always going to be — given what I believe — a small company. And the practices that we put in place now, that are forced by those compliance requirements, are practices that will stand us I think in very good stead as we grow and as we increase in both the number of people that we have to deal with and the number of outside agencies we have to deal with. Now, we’ve learned some really severe but valuable lessons in dealing with the regulatory agencies with whom we have to deal, and I believe that those lessons are going to be one of the foundations on which the company is going to grow and increase its value for the shareholders, as well as provide benefit to the public. Sherron S. Watkins, former vice president, Enron Corp.: I just want to make one comment, too, that is a bit of a concern that I see out there. Jeff Sonnenfeld is an associate dean of Yale School of Management and he contributes a lot to the op-ed pages of The Wall Street Journal and so forth, and at one point he was commenting about the Sarbanes-Oxley Act and the cost of it and he really came up with a great sound bite, which was: It’s not a bad law, but there’s a ton of bad advice about it out there. And when you think about internal control and internal control development, there are a few silver bullets that probably accomplish a lot of what the Sarbanes-Oxley Act is all about, but that does not help the consultant that wants to put an army of accountants out there developing minute internal control procedures. And so you have to be very, very careful about the advice you’re giving. Is this padding the consulting bill from the accountants or is this truly a control that’s going to … meet our needs? And you know, money corrupts a lot and the reason I know that … there are a lot of corrupting influences out there … I’ve met with not-for-profits who say, “Oh, no, we’re getting Sarbanes-Oxley compliant.” I’ll say, “Why? It’s a public company act.” “Well, our advisers tell us that it’s a litigation risk if we aren’t Sarbanes-Oxley compliant.” Well, no, it’s not. It’s a big old consulting chunk of work for them. That shouldn’t necessarily be put to not-for-profits. And there are some silver bullets that every company ought to be putting in place. And it is much more attitudinal, if that’s a word to use, and in my book, the difficulty of setting up the right system is — well, it kind of falls in line with what Malcolm is saying. There’s a certain set of rules and procedures that you just can’t step away from. And even with a lot of pressure to step away, you can’t do it. And a well-run company has control people — be that the head of internal audit, be that the general counsel, be that the head of risk management — that are paid and regarded as the same as the top revenue producers. There’s not as many of them, but they need to be in the same, you know, title rank, they need to have the same pay as the top revenue producer and it needs to be recognized that there will be a lot of noise around those people. They will be saying “no” more often than not. And you will never, ever be able to measure the disaster that they averted for the organization, if they’re doing their job, and Enron never happens and WorldCom never happens. But, also, the company never envisions that they would have been a WorldCom. So, the disaster that that person averts for the organization is never measured, they’re never thanked for it, and they just have a bunch of revenue people constantly hounding them that they’re stopping … good progress. … [B]ut that has to be the case. You let those people do their jobs. At Enron, there was no internal audit department. It had been outsourced … to Arthur Andersen. So you have junior Andersen people supposedly trying to look at senior Andersen work and Enron executive work. I mean, it … was problematic. But otherwise, on paper … Enron had the very detailed internal controls. They had the code of conduct that was very thick. The problem was, bad news could not get to the top. And I’m a big proponent of third-party employee hot lines, because, in Enron’s case, the anonymous reporting … it started to have gatekeepers and the gatekeepers knew that Ken Lay didn’t want to hear from a former employee. It didn’t matter what that former employee said, if they were former, it was a disgruntled report that had no credibility. … But I’ve also heard [of] people that do things, like their title is head of internal investigations or head of, you know, what really would be an ombudsman or whistleblower-type department head. Whenever they get an anonymous report that seems credible, for one thing they never try to find out who the anonymous person is, but when they get something that seems credible they just know it’s time to pull out their tool kit and focus on that department. And they do employee surveys, they start interviewing various people up and down the chain. And then, typically … their gut instinct has been right and within a very short period of time they have six to eight to a dozen employees that have corroborated the whistleblower’s allegations. And so they nip these problems in the bud before they become real organization killers. But it’s a real healthy regard for those control types, which is difficult to foster in organizations. Jeffreys: You were suggesting that not all companies are under the regulations imposed by Sarbanes-Oxley. Are you suggesting that corporate executives should be wary from marketing from accounting firms, from law firms, you know, consultants? Should they be very skeptical of the advice they’re getting or should they get advice from more than one? Rozzell: Well, this is a roomful of lawyers and I suspect they’ve all engaged in marketing from time to time. And I don’t think there’s anyone here who has served in a general counsel’s position who six months ago was not receiving at least three or four solicitations a day for some sort of Sarbanes-Oxley compliance, from both the accounting and the legal side of the business. And I think you’re right. I think all of us have to have a degree of skepticism … with which we approach advice of that kind in general. On the other hand, I think it’s important — and I think most of us get this from our normal outside firms — it’s important for your lawyers and your accountants to make sure that you are aware not only of the details of new things as they come out but the significance of some of those details, not all of which are readily apparent to us. So I think skepticism is something that is deserved. Implementation is probably still by far the more important. Skolnick: Being relatively new, we are learning everything for the first time. It’s taken us almost five years to put in place some of the kinds of elements, not all that we need or like, but some of the kinds of elements that Sherron is talking about. And we get the same two or three e-mails, another three or four brochures, from people who want to help us out of almost everything we own — probably would. And we have a simple sort of set of rules: One, does it solve a problem that we have that we haven’t been able to solve some other way and how? Does it make sense? Secondly, does it prevent a problem from occurring that we never thought was going to be a problem and that this new consultant has brought to our attention? And, three, does it make sense to some of the outside kinds of advice that we have? Fortunately, we have some people on our … outside board of directors who have had both experience in this area and run some of the same gamuts. And they have been very helpful in saying, “No, you don’t need to worry about that, here’s why.” Or, “Yes, you need to worry about that and here’s what you should do about it.” These are the kinds of indicia that you need to look for or the criteria that you need to look for when you hire a consultant in this area. And so far that’s worked pretty well. But I can show you lots and lots of scars on various parts of my body that have come from making the kinds of mistakes, by listening to what seemed to be good advice, prudent advice, foresightful advice that turned out to be only a moneymaker for them, not for us.

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