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Brazilian Securities Commission

Brazil:
The Securities Commission (CVM)

by Euchério Lerner Rodrigues

June, 1996

Index: | Introduction | Regulation | Organizational Structure | Sphere of Competence | Powers |
| Imposing Penalties | Legislation of Public Companies |

The CVM and Legislation Regarding the Capital Market

The CVM was created in 1976 through the Law N^o. 6,385 with the objective of regulating and disciplining the workings of the Brazilian capital market and, consequently, to fulfil the role of one of the institutions responsible for the process of building up savings and assisting economic development. In this way, by offering investors appropriate security and operational flexibility on the capital market, it contributes towards the process of company capitalization, the dispersion of prosperity and better allocation of productive sector resources.

In order achieve objectives, the CVM assumes the following main functions:

• ensure the efficient, reliable and equitable working of the securities market and foment its expansion on these suppositions.

• protect investors and securities holders by avoiding or preventing irregularities, frauds and manipulative practices designed to create artificial conditions of demand, supply or price.

• ensure the ample and fair disclosure of relevant information concerning securities trades and the companies issuing such paper.
  

Principles for Regulation:

The initiatives to be taken by the CVM in its capacity as a regulating agency are based on a set of principles: public interest, dependability, the search for operational efficiency and proper allocation in the markets, the preservation of competitiveness, freedom within which the agents can act and, last of all, protection of investors in the capital market.

Public interest

The country's economic prosperity is regarded as a matter of public interest. Therefore, the mechanisms designed to foster it are seen in this light. In the specific case of the securities market, it is perceived that it should ideally complement the financial system in the task of allocating financial savings to investment.

Dependability

In order for the market to be able to properly fulfil its allocation function, there has to exist a series of circumstances which will induce participants to believe that the workings of the markets are fair and impersonal. Consequently, the guarantee of correct procedures during each stage of the process of intermediation, custody of securities and the faithful performance of each contract are factors which will attract the investing public and significantly extend the market's reach.

Efficiency

Operational efficiency can be defined as the ability of a determined market to facilitate the completion of transactions at the lowest possible cost, that is to say with reduced trading costs. Standards of informational efficiency already in place demand that prices for assets negotiated in a given market correctly and simultaneously reflect relevant information about their value.

The search for the highest standards of efficiency on both counts is the fundamental goal which drives regulation, since they can make the movement of resources by savers to available investment opportunities more efficient.

Freedom

Throughout the process of regulation and the development of the market in securities, it is vital to show a constant respect for the free flow of market forces, unrestricted access to the market and unrestrained activities. For this to take place, mechanisms which foster the freedom to act of all agents during each phase of the negotiation process are considered as being in the public interest.

Competitiveness

It is through competitive practices that the highest standards of efficiency are attainable. The dissemination of the number of investors and intermediaries and regulation geared towards combating improper practices are constant mechanisms in the quest to improve conditions and, at the same time, promote competitiveness.

Protection of the Investor

The individual investor is regarded as the most significant participant for the spreading of prosperity and consequent democratization of capital. Therefore, if the aim is to attract a constantly increasing number of participants, it is important to guarantee smooth facilities and just treatment to all, irrespective of the value of their investments.

However, bearing in mind the reduced economic power and smaller organizational capacity of individual investors, it is important that the regulatory process ensures a determined level of protection and bulwark to their interests in comparison with those of the intermediaries and companies. Furthermore, it is crucial that these small investors are properly informed about the risks inherent in the types of investment they choose.

It is in this spirit that it may be concluded that the regulatory process pays special attention to the task of protecting investors, as without them none of the previously mentioned goals could be attained.

Regulation and Self-Regulation

The securities and futures exchanges are defined as self-regulating bodies and this status has been guaranteed to them by CMN Resolutions N^o. 1,645/89, which concerns future exchanges, and CMN N^o. 1,656/89, which relates to stock exchanges. These Resolutions accord to the exchanges responsibilities over the regulation and inspection of transactions carried out on their floors and electronic negotiation systems, for the arbitration of disputes which may arise and for the installation of mechanisms to prevent and set right infractions of legal provisions, deviations from pre-assumed conditions for equity and fair play in the markets and protection afforded to investors.

Turning to the financial dependability of the market, it should be pointed out that the exchanges are obliged to maintain Guarantee Funds to safeguard the settlement of operations and protect against the risks of default.

The CVM Directive N^o. 220/94 represented an enormous stride towards self-regulation by determining that the stock exchanges should lay down and verify the fulfilment of rules which govern the conduct of brokers and their relations with investors and the market.

Organisational Structure of the CVM

The head office of the Securities Commission is located in Rio de Janeiro and is administered by a President and four Directors nominated by the President of the Republic. The President and the Directorate together make up the Collegiate, which draws up policies and lays down practices to be introduced and followed by the corps of Superintendents, the executive branch of the CVM.

The General Superintendent observes and co-ordinates the executive activities of the Commission and is assisted by the other Superintendents and Managers who are subordinate, and by the staff. Their work is specifically geared towards activities concerning companies, financial intermediaries, investors, external inspection, accounting and audit practices, legal matters, market development and internationalization, computing and administration.

The Head of the Cabinet lends direct support to the Collegiate, who can also count on receiving the support of the Advisory Committee on Communications, the Economics Advisory Committee and Internal Audit.

The executive structure of the CVM is completed by the Regional Superintendencies at São Paulo and Brasilia.

Below is CVM's organizational structure:

COLLEGIATE

Head of the Cabinet

Economic Affairs Advisory Committee

Communications Advisory Committee

Administrative Corregidor / Auditor

Superintendent General

Regional Superintendency at Brasilia

Regional Superintendency at São Paulo

Superintendency for Computing

Administrative / Financial Superintendency

Superintendency for Market Relations

Superintendency for Company Relations

Superintendency for Investors and Intermediaries Relations

Superintendency for External Inspection

Superintendency for Accounting and Auditing Practices

Superintendency for Development and Internationalization

Legal Superintendency

Representation on the Appeals Council of the National Financial System

Sphere of Competence of the CVM

Legislation determines that the following shall be defined as securities:

• Shares
• Debentures
• Subscription Bonuses
• Commercial Papers
• Real Estate Fund Shares
• Audio-visual investment certificates
• Depositary Receipts
• Warrants
• Representative Share Indexes

As far as the derivatives market is concerned, only those whose underlying asset are among the securities described above come within the jurisdiction of the CVM. This jurisdiction embraces forward contracts for shares, options on shares, and indices stock index futures and future contracts for individual shares. Therefore, the CVM abstains from activities connected to derivatives related to other assets that do not fall within the ones previously mentioned.

Functions and Powers of the CVM

• ensure the efficient, smooth and just workings of the market for securities and foment its expansion based on these criteria
• furnish protection to holders of securities and investors while avoiding and preventing irregularities, frauds and manipulative practices deigned to create artificial conditions of supply, demand and price
• ensure the proper disclosure of relevant facts concerning securities and the companies issuing them
• stimulate savings and long-term investments

- register and inspect companies which issue shares traded on the stock exchange and the over-the-counter markets

- supervise the activities and services in the securities market, in addition to the information concerning it, the parties who participate and the securities traded.

- advise the National Monetary Council in fixing maximum price limits, commissions, emoluments and other benefits charged by intermediaries

- accredit independent auditors, consultants and analysts working with securities

• authorize the activities of portfolio management and custody
• authorize the distribution of securities throughout the market
  

Imposing Penalties

The CVM's oversight work includes the identification of irregular practices and the immediate adoption of punitive measures, identifying instances in which the law or other regulations have been infringed, carrying out inspection of the institutions involved and, if necessary, initiating an administrative inquiry. Currently, this procedure has shown to be laborious and protracted.

Depending on the outcome of the administrative inquiries, one of the following penalties may be imposed on the party responsible for the breach:

• a warning
• a fine
• the administrator of the public company or entity may be suspended from performing duties in the shares distribution system
• declaration of unfitness for the exercise of the duties mentioned above
• suspension of authorization or from the register
• disfranchisement from authorization or being struck off the register

The Securities Commission has striven to accelerate the process by which inquiries which still have not been brought to a conclusion are examined and adjudged. Such initiatives produced a significant increase in the number of rulings and punishments imposed in 1995.

The legal apparatus in place guarantees to the CVM and to the stock exchanges the power to single out the investors responsible for the orders passed on to the brokers. This identification is performed on a daily basis as a routine part of business at the exchanges. The CVM may demand to know, in addition to routine information, the identification of the investors at any given moment. The specification of principals is a powerful aid for the purpose of inspection, enabling the identification and verification of irregular practices. It further allows the separate accounts of the brokers to be distinguished from those of the investors.

With the objective of fortifying the CVM's inspection capacity, various modifications to the laws governing the financial market have been discussed, and some of the most salient are:

• dispensing with bank confidentiality in special circumstances
• strengthening the penalties available
• introduction of a "compromise agreement", that is reducing the penalties for implicated parties who agree to collaborate in the inquiries.
  

Legislation Over Public Companies

Principal Features

The "Public Companies Act", i.e. the Law N^o. 6,404 of December 15^th., 1976, applies to public companies, whose capital is divided into shares and where the responsibilities of the partners or shareholders are restricted to the value of the shares to which they have subscribed or purchased.

Public companies can be classified into open or closed companies. A company will be regarded as open when its securities are accepted for negotiation on the stock exchange or on the over-the-counter market.

Only companies registered with the CVM may have their securities distributed on the market and traded on a stock exchange or over-the-counter market.

Opening of Capital

The opening of the capital of a company essentially involves registration with the CVM as a public company. In order for this to occur, a series of pre-requisites have to be satisfied and certain documents specified by law have to be presented.

The articles of association of a company will establish the value of its share capital, which can only be modified in accord with the precepts of the applicable law or articles of association.

The share capital may be made up of contributions in money or in any type of commodity with a cash value.

Types of Shares

The shares, according to the nature of the rights or benefits which they confer to their holders, are classified into ordinary (common), preferred or "fruition" shares.

The ordinary shares held by the closed company and the preferred shares of the open or closed company may be of one or two types.

The preferences or advantages of the preferred shares may lie in the priority with which dividends are paid, in the reimbursement of capital, in the premiums or in a combination of the benefits already mentioned.

The number of preferred shares which do not confer the right to vote or which are subject to restrictions on the exercise of such a right may not exceed two-thirds of the total of shares issued.

The articles of association may guarantee to one or two types of preferred shares the right to elect, either by voting or separately, one or more members of the administration.

Requirements for Information Disclosure

The Law applicable to public companies and subsequent regulations imposed by the CVM establish the minimum requirements for the disclosure of information. Essentially, these requirements involve the annual publication of complete financial statements in a high-circulation newspapers, the dispatch of quarterly statements to the CVM and the prompt disclosure of relevant facts which may impact on the prices for the securities issued. It is a mandatory requirement that the financial statements shall be audited by independent auditors registered with the CVM.

The deliberate use of any type of privileged information is considered a serious violation which can suffer rigorous punishment.

The Shareholders Rights

Shareholders are guaranteed the following basic rights:

• ability to share in company profits
• ability to share in the sum of the company's assets, in the event of liquidation
• inspect, according to the provisions of the law, the handling of transactions by the company
• exercise their right to vote at shareholders' meetings
• exercise their preference to subscribe for shares and other securities convertible into shares, according to the provisions of the law

withdraw from the company when they are opposed to the deliberations of the general meeting, receiving in return reimbursement to match the book value of their share in the company's assets.

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