BILL NUMBER: SB 523 CHAPTERED 09/22/03 CHAPTER 477 FILED WITH SECRETARY OF STATE SEPTEMBER 22, 2003 APPROVED BY GOVERNOR SEPTEMBER 22, 2003 PASSED THE SENATE SEPTEMBER 4, 2003 PASSED THE ASSEMBLY AUGUST 21, 2003 AMENDED IN ASSEMBLY AUGUST 18, 2003 INTRODUCED BY Senator Escutia FEBRUARY 20, 2003 An act to add Sections 2207 and 17655 to the Corporations Code, relating to corporations. LEGISLATIVE COUNSEL'S DIGEST SB 523, Escutia. Corporate liability. Existing law provides for the regulation of corporations and limited liability companies. Existing law requires corporations and limited liability companies to pay specified penalties for neglecting, failing, or refusing to keep, or causing to be kept or maintained, certain records relating to the corporation or limited liability company. This bill would make a corporation and a limited liability company liable for civil penalties up to $1,000,000 in an action brought by the Attorney General or a district attorney or city attorney if the corporation or limited liability company has knowledge of certain acts and fails to notify the Attorney General or the appropriate government agency and shareholders or investors. THE PEOPLE OF THE STATE OF CALIFORNIA DO ENACT AS FOLLOWS: SECTION 1. (a) The Legislature finds and declares that unlawful activities of private corporations may result in damages not only to the corporation and its shareholders and investors, but also to employees of the corporation and the public at large. The damages caused by unlawful activities may be prevented by the early detection of wrongdoing. While corporate executives and managers are already governed by federal and other state law with regard to their duties to the corporation, the Legislature finds and declares that enhanced disclosure requirements are needed to ensure appropriate notification of authorities and shareholders when a corporation acquires knowledge that a materially false or misleading statement is made by the corporation or its officers and agents that affect the public's perception of the financial condition of the corporation and that affect the market. (b) It is the intent of the Legislature to ensure that corporations and limited liability companies notify government authorities and their shareholders or members when they acquire actual knowledge that materially false or misleading statements are made. It is also the intent of the Legislature that, together with the changes to the Whistleblower Protection Act that Senate Bill No. 777 would enact, publicly traded corporations and limited liability companies act in a responsible manner with respect to statements about their financial condition, especially when those decisions affect not only their shareholders and the public, but also their employees. SEC. 2. Section 2207 is added to the Corporations Code, to read: 2207. (a) A corporation is liable for a civil penalty in an amount not exceeding one million dollars ($1,000,000) if the corporation does both of the following: (1) Has actual knowledge that an officer, director, manager, or agent of the corporation does any of the following: (A) Makes, publishes, or posts, or has made, published, or posted either generally or privately to the shareholders or other persons either of the following: (i) An oral, written, or electronically transmitted report, exhibit, notice, or statement of its affairs or pecuniary condition that contains a material statement or omission that is false and intended to give the shares of stock in the corporation a materially greater or a materially less apparent market value than they really possess. (ii) An oral, written, or electronically transmitted report, prospectus, account, or statement of operations, values, business, profits, or expenditures, that includes a material false statement or omission intended to give the shares of stock in the corporation a materially greater or a materially less apparent market value than they really possess. (B) Refuses or has refused to make any book entry or post any notice required by law in the manner required by law. (C) Misstates or conceals or has misstated or concealed from a regulatory body a material fact in order to deceive a regulatory body to avoid a statutory or regulatory duty, or to avoid a statutory or regulatory limit or prohibition. (2) Within 30 days after the actual knowledge is acquired of the actions described in paragraph (1), the corporation knowingly fails to do both of the following: (A) Notify the Attorney General or appropriate government agency in writing, unless the corporation has actual knowledge that the Attorney General or appropriate government agency has been notified. (B) Notify its shareholders in writing, unless the corporation has actual knowledge that the shareholders have been notified. (b) The requirement for notification under this section is not applicable if the action taken or about to be taken by the corporation, or by an officer, director, manager, or agent of the corporation under paragraph (1) of subdivision (a) is abated within the time prescribed for reporting, unless the appropriate government agency requires disclosure by regulation. (c) If the action reported to the Attorney General pursuant to this section implicates the government authority of an agency other than the Attorney General, the Attorney General shall promptly forward the written notice to that agency. (d) If the Attorney General was not notified pursuant to subparagraph (A) of paragraph (2) of subdivision (a), but the corporation reasonably and in good faith believed that it had complied with the notification requirements of this section by notifying a government agency listed in paragraph (4) of subdivision (e), no penalties shall apply. (e) For purposes of this section: (1) "Manager" means a person having both of the following: (A) Management authority over a business entity. (B) Significant responsibility for an aspect of a business that includes actual authority for the financial operations or financial transactions of the business. (2) "Agent" means a person or entity authorized by the corporation to make representations to the public about the corporation's financial condition and who is acting within the scope of the agency when the representations are made. (3) "Shareholder" means a person or entity that is a shareholder of the corporation at the time the disclosure is required pursuant to subparagraph (B) of paragraph (2) of subdivision (a). (4) "Notify its shareholders" means to give sufficient description of an action taken or about to be taken that would constitute acts or omissions as described in paragraph (1) of subdivision (a). A notice or report filed by a corporation with the United States Securities and Exchange Commission that relates to the facts and circumstances giving rise to an obligation under paragraph (1) of subdivision (a) shall satisfy all notice requirements arising under paragraph (2) of subdivision (a), but shall not be the exclusive means of satisfying the notice requirements, provided that the Attorney General or appropriate agency is informed in writing that the filing has been made together with a copy of the filing or an electronic link where it is available online without charge. (5) "Appropriate government agency" means an agency on the following list that has regulatory authority with respect to the financial operations of a corporation: (A) Department of Corporations. (B) Department of Insurance. (C) Department of Financial Institutions. (D) Department of Managed Health Care. (E) United States Securities and Exchange Commission. (6) "Actual knowledge of the corporation" means the knowledge an officer or director of a corporation actually possesses or does not consciously avoid possessing, based on an evaluation of information provided pursuant to the corporation's disclosure controls and procedures. (7) "Refuse to make a book entry" means the intentional decision not to record an accounting transaction when all of the following conditions are satisfied: (A) The independent auditors required recordation of an accounting transaction during the course of an audit. (B) The audit committee of the corporation has not approved the independent auditor's recommendation. (C) The decision is made for the primary purpose of rendering the financial statements materially false or misleading. (8) "Refuse to post any notice required by law" means an intentional decision not to post a notice required by law when all of the following conditions exist: (A) The decision not to post the notice has not been approved by the corporation's audit committee. (B) The decision is intended to give the shares of stock in the corporation a materially greater or a materially less apparent market value than they really possess. (9) "Misstate or conceal material facts from a regulatory body" means an intentional decision not to disclose material facts when all of the following conditions exist: (A) The decision not to disclose material facts has not been approved by the corporation's audit committee. (B) The decision is intended to give the shares of stock in the corporation a materially greater or a materially less apparent market value than they really possess. (10) "Material false statement or omission" means an untrue statement of material fact or an omission to state a material fact necessary in order to make the statements made under the circumstances under which they were made not misleading. (11) "Officer" means any person as set forth in Rule 16A-1 promulgated under the Securities Exchange Act of 1934 or any successor regulation thereto, except an officer of a subsidiary corporation who is not also an officer of the parent corporation. (f) This section only applies to corporations that are issuers, as defined in Section 2 of the Sarbanes-Oxley Act of 2002 (P.L. 107-204; 15 U.S.C. Sec. 7201 and following). (g) An action to enforce this section may only be brought by the Attorney General or a district attorney or city attorney in the name of the people of the State of California. SEC. 3. Section 17655 is added to the Corporations Code, to read: 17655. (a) A limited liability company is liable for a civil penalty in an amount not exceeding one million dollars ($1,000,000) if the limited liability company does both of the following: (1) Has actual knowledge that a member, officer, manager, or agent of the limited liability company does any of the following: (A) Makes, publishes, or posts, or has made, published, or posted either generally or privately to the shareholders or other persons either of the following: (i) An oral, written, or electronically transmitted report, exhibit, notice, or statement of its affairs or pecuniary condition that contains a material statement or omission that is false and intended to give membership shares in the limited liability company a materially greater or a materially less apparent market value than they really possess. (ii) An oral, written, or electronically transmitted report, prospectus, account, or statement of operations, values, business, profits, or expenditures that includes a material false statement or omission intended to give membership shares in the limited liability company a materially greater or a materially less apparent market value than they really possess. (B) Refuses or has refused to make any book entry or post any notice required by law in the manner required by law. (C) Misstates or conceals or has misstated or concealed from a regulatory body a material fact in order to deceive a regulatory body to avoid a statutory or regulatory duty, or to avoid a statutory or regulatory limit or prohibition. (2) Within 30 days after the actual knowledge is acquired of the actions described in paragraph (1), the limited liability company knowingly fails to do both of the following: (A) Notify the Attorney General or appropriate government agency in writing, unless the limited liability company has actual knowledge that the Attorney General or appropriate government agency has been notified. (B) Notify its members and investors in writing, unless the limited liability company has actual knowledge that the members and investors have been notified. (b) The requirement for notification under this section is not applicable if the action taken or about to be taken by the limited liability company, or by a member, officer, manager, or agent of the limited liability company under paragraph (1) of subdivision (a) is abated within the time prescribed for reporting, unless the appropriate government agency requires disclosure by regulation. (c) If the action reported to the Attorney General pursuant to this section implicates the government authority of an agency other than the Attorney General, the Attorney General shall promptly forward the written notice to that agency. (d) If the Attorney General was not notified pursuant to subparagraph (A) of paragraph (2) of subdivision (a), but the limited liability company reasonably and in good faith believed that it had complied with the notification requirements of this section by notifying a government agency listed in paragraph (4) of subdivision (e), no penalties shall apply. (e) For purposes of this section: (1) "Manager" means a person defined by subdivision (w) of Section 17001 having both of the following: (A) Management authority over the limited liability company. (B) Significant responsibility for an aspect of the limited liability company that includes actual authority for the financial operations or financial transactions of the limited liability company. (2) "Agent" means a person or entity authorized by the limited liability company to make representations to the public about the limited liability company's financial condition and who is acting within the scope of the agency when the representations are made. (3) "Member" means a person as defined by subdivision (x) of Section 17001 that is a member of the limited liability company at the time the disclosure is required pursuant to subparagraph (B) of paragraph (2) of subdivision (a). (4) "Notify its members" means to give sufficient description of an action taken or about to be taken that would constitute acts or omissions as described in paragraph (1) of subdivision (a). A notice or report filed by a limited liability company with the United States Securities and Exchange Commission that relates to the facts and circumstances giving rise to an obligation under paragraph (1) of subdivision (a) shall satisfy all notice requirements arising under paragraph (2) of subdivision (a) but shall not be the exclusive means of satisfying the notice requirements, provided that the Attorney General or appropriate agency is informed in writing that the filing has been made together with a copy of the filing or an electronic link where it is available online without charge. (5) "Appropriate government agency" means an agency on the following list that has regulatory authority with respect to the financial operations of a limited liability company: (A) Department of Corporations. (B) Department of Insurance. (C) Department of Financial Institutions. (D) Department of Managed Health Care. (E) United States Securities and Exchange Commission. (6) "Actual knowledge of the limited liability company" means the knowledge a member, officer or manager of a limited liability company actually possesses or does not consciously avoid possessing, based on an evaluation of information provided pursuant to the limited liability company's disclosure controls and procedures. (7) "Refuse to make a book entry" means the intentional decision not to record an accounting transaction and all of the following conditions are satisfied: (A) The independent auditors required recordation of an accounting transaction during the course of an audit. (B) The audit committee of the limited liability company has not approved the independent auditor's recommendation. (C) The decision is made for the primary purpose of rendering the financial statements materially false or misleading. (8) "Refuse to post any notice required by law" means an intentional decision not to post a notice required by law when all of the following conditions exist: (A) The decision not to post the notice has not been approved by the limited liability company's audit committee. (B) The decision is intended to give the membership shares in the limited liability company a materially greater or a materially less apparent market value than they really possess. (9) "Misstate or conceal material facts from a regulatory body" means an intentional decision not to disclose material facts when all of the following conditions exist: (A) The decision not to disclose material facts has not been approved by the limited liability company's audit committee. (B) The decision is intended to give the membership shares in the limited liability company a greater or a less apparent market value than they really possess. (10) "Material false statement or omission" means an untrue statement of material fact or an omission to state a material fact necessary in order to make the statements made under the circumstances under which they were made not misleading. (11) "Officer" means a person appointed pursuant to Section 17154, except an officer of a specified subsidiary limited liability company who is not also an officer of the parent limited liability company. (f) This section only applies to limited liability companies that are issuers, as defined in Section 2 of the Sarbanes-Oxley Act of 2002 (P.L. 107-204; 15 U.S.C. Sec. 7201 and following). (g) An action to enforce this section may only be brought by the Attorney General or a district attorney or city attorney in the name of the people of the State of California.