[Federal Register Volume 61, Number 118 (Tuesday, June 18, 1996)]
[Rules and Regulations]
[Pages 30808-30814]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-15390]



=======================================================================
-----------------------------------------------------------------------

LIBRARY OF CONGRESS

Copyright Office

37 CFR Part 201

[Docket No. 93-2B]


Digital Audio Recording Devices and Media; Verification of 
Statements of Account

AGENCY: Copyright Office, Library of Congress.

ACTION: Interim regulation.

-----------------------------------------------------------------------

SUMMARY: The Audio Home Recording Act of 1992 requires the Register of 
Copyrights to issue regulations that provide for the verification of 
the information contained in digital audio recording technology (DART) 
Statements of Account filed with the Office. The Copyright Office is 
adopting Interim Regulations that establish procedures for requesting 
verification, the scope of the verification, and the allocation of 
costs. The regulations are intended to ensure that proper payments have 
been made to copyright owners.

DATES: This interim regulation is effective June 18, 1996. Comments 
must be submitted on or before September 16, 1996. Reply comments must 
be

[[Page 30809]]

submitted on or before October 16, 1996.

ADDRESSES: If sent by mail, fifteen copies of written comments should 
be addressed to Marilyn J. Kretsinger, Acting General Counsel, 
Copyright GC/I&R, P.O. Box 70400, Southwest Station, Washington, D.C. 
20024. Telephone: (202) 707-8380. Telefax: (202) 707-8366. If by hand, 
fifteen copies should be brought to: Office of the General Counsel, 
Copyright Office, James Madison Memorial Building, Room LM-407, First 
and Independence Avenue, S.E., Washington, D.C. 20540.

FOR FURTHER INFORMATION CONTACT: Marilyn J. Kretsinger, Acting General 
Counsel, Copyright GC/I&R, P.O. Box 70400, Southwest Station, 
Washington, D.C. 20024, or Tanya Sandros. Telephone: (202) 707-8380. 
Telefax: (202) 707-8366.

SUPPLEMENTARY INFORMATION:

I. Background

    The Audio Home Recording Act (AHRA) requires manufacturing and 
importing parties that distribute digital audio recording devices or 
media in the United States to file Statements of Account with, and make 
royalty payments to, the Copyright Office. It also requires the 
Register of Copyrights to issue regulations to protect the 
confidentiality of the information contained in Statements of Account, 
to provide for the disclosure, in confidence, of Statements to 
interested copyright parties, and to provide for the verification of 
Statements of Account. 17 U.S.C. 1003(c)(2).
    We published a Notice of Proposed Rulemaking on May 7, 1993. 58 FR 
27251 (May 7, 1993). The Notice contained a proposed regulation 
concerning access to, and confidentiality of, Statements of Account and 
asked for public comment on that proposal and also on the form and 
content of a regulation governing audit and verification procedures.
    In separate proceedings, we issued interim regulations governing 
the filing of Notices of Initial Distribution, 57 FR 55464 (November 
25, 1992), and establishing requirements governing the filing dates, 
frequency of filing, and content of Statements of Account and the 
primary auditor's report that must be filed by persons subject to the 
statutory obligation. 59 FR 4586 (February 1, 1994). In a separate 
proceeding, we published interim regulations governing access to and 
confidentiality of Statements of Account. 60 FR 25995 (May 16, 1995).

II. Verification of Statements of Account

    In the Notice of Proposed Rulemaking (NPRM), 58 FR 27251 (1993), we 
did not propose the actual language of a verification regulation. 
Instead, we noted that the Senate version of AHRA, S. 1623,\1\ 
contained detailed provisions regarding audit and verification which 
were eliminated from the bill as passed, but which we indicated we were 
inclined to use as the framework for the regulations. We therefore 
solicited public comments and detailed proposals for the form and 
content of a verification regulation based on S. 1623. In addition, we 
asked ten specific questions.
---------------------------------------------------------------------------

    \1\ S. 1623, 102d Cong., 1st Sess. (1991).
---------------------------------------------------------------------------

    The Office received eleven comments, including direct, reply, and 
surreply comments, from four parties. Comments were received from (1) 
the American Institute of Certified Public Accountants (AICPA); (2) the 
American Society of Composers, Authors, and Publishers, Broadcast 
Music, Inc., Copyright Management, Inc., the National Music Publishers' 
Association, Inc., SESAC, Inc., and the Songwriters Guild of America 
(The Copyright Parties); (3) the Alliance of Artists and Recording 
Companies (AARC); and (4) the Electronic Industries Association (EIA).
    The comments revealed that while there was general agreement on a 
number of issues, there were sharp differences among the parties on 
certain key issues, especially, the scope of the verification 
procedure, the possible role of an arbitrating accountant or the 
Copyright Office in resolving disputes, and the standards to measure 
the independence of the verifying auditor. The Office believes these 
issues need to be resolved through another round of comments. However, 
the Office believes that interim regulations need to be adopted to 
allow for the verification of the Annual Statements of Accounts that 
have already been received.\2\ Therefore, in order to go forward, the 
Copyright Office has had to take a certain approach, but these interim 
regulations represent only the Office's initial position, and are not 
intended necessarily to indicate the Office's final conclusions. 
Comments on the specific regulatory language and the issues they raise 
are particularly solicited.
---------------------------------------------------------------------------

    \2\ The first Annual DART Statement of Account was filed with 
the Office March 1, 1994. Since we are proposing that a verification 
procedure of an Annual Statement of Account can be invoked no later 
than three years after the filing deadline, it is important to 
provide interim regulations even while the verification procedure is 
being further refined.
---------------------------------------------------------------------------

    What follows is a discussion of the comments and a description of 
the interim regulations adopted by the Office.

III. Period for Invoking a Verification Procedure

    The first issue is one of timing: when should the Annual Statements 
of Account be available for a verification procedure and for how long? 
How often should the Annual Statements be audited?
    S. 1623 did not provide for a time limit for initiating a 
verification procedure, but did state that no filer should be audited 
more than once a year.
    EIA said it would accept a two or three year time limit following 
the filing of the Annual Statement of Account for verification. EIA, 
comments at 28. The Copyright Parties supported a rule stating that the 
verification procedure should not be conducted more than three years 
after the filing date of the Annual Statement of Account. Copyright 
Parties, reply at 25. AICPA supported a deadline beyond which 
verification procedures could not be conducted, and in its reply 
comments supported the three-year rule advanced by the Copyright 
Parties. AICPA, comments at 5, reply at 6.
    AICPA recommends that only one verification audit should be 
permitted per Statement of Account. AICPA, comments at 5. EIA states 
there should be no more than one verification audit per year per 
Statement of Account. EIA, comments at 27. The Copyright Parties urge 
the adoption of regulations that permit interested parties to 
consolidate the verification procedure for several Annual Statements. 
The Copyright Parties agree that no manufacturer or importer should be 
audited more than once in a calendar or fiscal year and the Annual 
Statements should be verified no more than once. Copyright Parties, 
comments at 29, reply at 24.
    While there was general agreement among the commentators supporting 
a time limit, because of the procedure for selecting a verifying 
auditor discussed below, we are measuring the time limit somewhat 
differently from the measurements proposed in the comments.
    First, within three months of the filing deadline of the Annual 
Statement of Account, no verification procedure may be invoked. This 
will give the Licensing Division time to review the Annual Statement 
and resolve any discrepancies.
    Second, after the three months, any interested copyright party will 
have until the third year anniversary of the filing deadline of the 
Annual Statement to notify the Copyright Office, the filer

[[Page 30810]]

and the primary auditor of his or her intent to invoke a verification 
procedure. The notice of one party will preserve the right of all 
interested copyright parties to participate in a verification 
procedure. While EIA's and the Copyright Parties' comments contemplated 
that the verification procedure itself would have to commence within 
three years of the filing of the Annual Statement of Account, the 
Office believes that this is not workable, because too many events, 
such as the Office publishing a notice in the Federal Register, and the 
subsequent coordination and selection of the verifying auditor, are 
beyond the petitioning party's sole control. The interested copyright 
party could not know how much time before the end of the three years he 
or she needed to allow to assure that the verification procedure began 
within three years of the filing deadline. Therefore, the Office has 
moved the tolling of the deadline from the time the verification 
procedure commences to the time when notice is filed by the interested 
copyright party that he or she wants to begin a verification procedure.
    The interim regulations provide that there can be no more than one 
verification procedure a year of any manufacturing or importing party, 
but the verification procedure may include more than one Annual 
Statement of Account.

IV. Selection of Verifying Auditor

    Assuming that one or more copyright parties wants to invoke a 
verification procedure, how do they coordinate the selection of the 
verifying auditor? S. 1623 provided that the Register of Copyrights 
should establish a procedure by which interested copyright parties will 
coordinate the engagement of a verifying auditor to perform the 
verification procedure.
    EIA commented that all parties would be best served by a formal 
procedure by which interested copyright parties provide public notice 
of their intent to invoke a verification procedure, permit other 
interested copyright parties to express an interest, and then jointly 
select a verifying auditor. EIA, comments at 29. The Copyright Parties 
recommended that we establish procedures by which interested copyright 
parties may coordinate the engagement of a verifying auditor to ensure 
that no manufacturing or importing party is audited more than once per 
year. Copyright Parties, comments at 10-11.
    The Office believes that it is the responsibility of the copyright 
parties to select the verifying auditor and coordinate the verification 
procedure. The Office can only play a limited role in this process, 
acting to notify the copyright parties that a verification procedure is 
contemplated and who is proposing the procedure.
    The Office will perform that role by publishing a notice in the 
Federal Register when it has been informed by an interested copyright 
party that he or she is interested in invoking a verification 
procedure. The notice will include whom to contact so that all 
interested copyright parties who want to be involved may coordinate 
their selection of the auditor. The party, or, if more than one, the 
joint interested parties will select the verifying auditor and will 
notify, within two months of the publication of the original Federal 
Register notice, the filer of the Annual Statement of Account, the 
primary auditor and the Register of Copyrights whether or not they wish 
to start a verification procedure.\3\
---------------------------------------------------------------------------

    \3\ The interested copyright parties may, after consultation 
with each other, decide not to conduct a verification procedure. In 
that case, they will not select a verifying auditor, but will, 
instead, notify the filer, the primary auditor and the Register of 
Copyrights that they do not intend to proceed.
---------------------------------------------------------------------------

V. Notice and Length of Verification Procedure

    The NPRM also asked what would be reasonable notice before 
commencing a verification procedure, and how long the verification 
procedure should take.
    EIA recommended that at least 30 days notice should be required and 
the manufacturer, importer, or primary auditor should be able to 
postpone the verification up to 60 days. EIA, comments at 6The 
Copyright Parties stated that 60 days is a reasonable notice before the 
verification procedure commences. The Copyright Parties observed that 
the duration of a verification procedure will vary from case to case, 
and that the duration is as much in the control of the manufacturer or 
importer as of the interested copyright parties or their verifying 
auditor. Copyright Parties, comments at 21-22. AICPA had no comment on 
the length of time required for notice of a verification procedure. It 
did suggest that the length of time to perform the procedure should be 
90 to 120 days. AICPA, comments at 3.
    The Office's interim regulations state that after the joint 
interested parties notify the filer of their intent to conduct a 
verification procedure, the verification procedure can begin one month 
later, or up to two months later if the filer or the primary auditor 
asks for a postponement. The Office agrees with the comments of the 
Copyright Parties that the duration of the verification procedure can 
vary from case to case and, therefore, the Office has not adopted any 
rules concerning how long the verification procedure should take.

VI. Scope of Verification Procedure

    The scope of the verification procedure has been one of the most 
contentious issues faced by the Office in drafting regulations to 
implement the AHRA. The Office is required to balance the need of the 
manufacturing and importing parties to avoid the disruption of their 
business and the exposure of confidential information, with the need of 
the interested copyright parties to be assured that sufficient 
royalties are deposited for distribution. EIA, comments at 2; Copyright 
Owners, comments at 2.
    Section 1011(e)(1)(D) of S. 1623 provided that the goal of 
verification should be limited to examining the accuracy of information 
contained in the Statements of Account filed by manufacturing and 
importing parties, and that the procedure to achieve this goal should 
be no broader than is reasonably necessary in accordance with generally 
accepted auditing standards (GAAS). All parties to this proceeding 
agreed with these two principles, but nevertheless disagreed on how 
much review was needed to verify the information in the Statements of 
Accounts.
    Of the four commenting parties, EIA advocated the narrowest scope 
of review. The Copyright Parties advocated the widest scope of review. 
AICPA and AARC took positions somewhere in between.
    EIA said that the scope of the verification procedure should be a 
review by the verifying auditor of the audit performed by the primary 
auditor. This review would encompass an evaluation of the primary 
auditor's audit procedures, examination of the primary auditor's work 
papers, and consideration of the primary auditor's conclusions. In the 
event the verifying auditor believes the audit was not properly 
performed, or that additional procedures are needed, he or she would 
consult with the primary auditor. If the two auditors are unable to 
agree, they would submit the matter to a neutral, independent 
accountant selected by both parties to arbitrate the dispute. The role 
of this third party accountant would be strictly to determine whether 
the primary auditor complied with GAAS in performing the work and to 
determine, and possibly perform, the additional procedures needed to 
correct noted deficiencies. EIA, comments at 5.

[[Page 30811]]

    EIA opposes any regulation that would provide for or permit a 
verifying auditor to conduct a duplicative full scope audit or to have 
unfettered access to the books and records of a filer that has already 
been audited by a primary auditor. Such an approach, in EIA's view, 
would impose unreasonable burden and expense, and would be a 
prescription for misunderstanding, controversy, and the unanticipated 
disclosure of confidential information. Furthermore, such an approach 
would not provide additional assurance beyond the assurance provided by 
EIA's proposed procedure. EIA, comments at 6.
    The Copyright Parties believe that the Copyright Office should 
allow for the possibility of a full scale audit without specific 
limitations on audit tests and procedures to be performed. The 
Copyright Parties assert that the verification procedure should include 
``the examination of evidence supporting the amounts and disclosure in 
the Statement of Account, an assessment of the accounting principles 
used by the manufacturer or importer in preparing the statement, and an 
evaluation of the overall presentation of the statement.'' Copyright 
Parties, comments at 27.
    The Copyright Parties state that the limited review of working 
papers proposed by EIA does not contribute to effective enforcement of 
royalty obligations under AHRA. Instead, they want the ability to use 
an independent verifying auditor to determine whether the Statement of 
Account fairly presents, in all material respects, the royalty 
obligations of a particular filer. Copyright Parties, reply at 18. 
However, the Copyright Parties supported a regulation that would 
promote initial reliance on the working papers and related documents 
generated in the course of the primary audit to avoid duplication of 
effort, and to concentrate the verifying auditor's focus on the 
additional work he or she considers necessary under the circumstances. 
Copyright Parties, surreply at 13-14.
    AICPA commented that consideration should be given to using 
``agreed-upon procedures'' which all users of the report would agree to 
so that the verifying auditor does not duplicate the effort of the 
first auditor. AICPA noted that ``agreed-upon procedures'' are 
generally less in scope than an audit under generally accepted auditing 
standards, and the verifying auditor would not express an opinion on 
the fair presentation of the information. He or she would report the 
procedures performed and any findings. Further, users of the report, 
namely, the Copyright Office and the interested copyright parties, must 
agree upon the procedures that the verifying auditor would perform. 
AICPA, comments at 4.
    While disagreeing with the Copyright Parties about the wisdom of a 
full scale verifying audit, AICPA also did not believe that the 
suggested procedures and approach of the EIA were appropriate. AICPA 
argued that the procedures to be performed must be more than the EIA 
suggested review of the working papers of the initial audit. The 
procedures should be objective procedures that test the amounts 
reported by the manufacturer or importer. The EIA proposal would 
require the auditor to formulate an opinion that the audit was properly 
conducted based upon a review of the working papers. This proposal is 
more in the nature of a quality review of the primary auditor's work 
than an audit of the royalty schedule, and in AICPA's view, not an 
appropriate ``agreed-upon procedures'' engagement. AICPA, reply at 2.
    AARC took a similar position to AICPA in finding problems with both 
EIA's and the Copyright Parties' positions. AARC commented that while 
it agrees with the EIA that a full scope audit by a verifying auditor 
may be inappropriate, AARC believes that the approach suggested by EIA 
does not go far enough. AARC argues that the interested copyright 
parties must have the ability to direct their own verifying auditor in 
the conduct of a verification procedure. At the same time, while AARC 
is generally in agreement with the intent of the approach suggested by 
the Copyright Parties, AARC believes the scope of verification sought 
in their initial comments may be unnecessarily broad in order to 
achieve the intended results.
    AARC believes that what is more appropriate is a ``compliance'' 
type audit; a type customarily used within the music industry to 
determine the proper payment of music publishers and/or artist 
royalties. When preparing royalty accountings, the manufacturers and 
distributors will have to set up a system that will provide information 
to their accounting department. The basis of this information will be 
their manufacturing, inventory, sales and shipping records. AARC 
asserts that the verifying auditor retained by the interested copyright 
parties should be able, at minimum, to test these accounting records 
and the underlying documents. AARC, reply at 2-3.
    With access to the documents described above, AARC does not believe 
it would be necessary for the verifying auditor to have access to the 
manufacturer's or importer's general ledgers as proposed by the 
Copyright Parties, so long as the primary auditor's opinion indicates 
that the royalty accountings tie into the general books of account. 
AARC, reply at 4.

VII. Discussion of Scope of Verification

    Clearly, the most contentious issue in this rulemaking is the very 
scope of the verification audit which, in turn dictates the need to 
access particular business records to perform the verification 
procedure. The Copyright Parties want the potential for a full scale 
audit. EIA wants the verifying auditor simply to review the primary 
auditor's work. AICPA recommends ``agreed-upon procedures,'' agreed to 
by the Copyright Parties and the verifying auditor which is something 
more than just a review of the primary auditor's work but something 
less than full access to all records. AARC recommends a ``compliance'' 
audit where the filer is told in advance what business records to 
segregate.
    The Office has decided to adopt a procedure for these interim 
regulations whereby the verifying auditor first reviews the primary 
auditor's work papers. If, in the verifying auditor's opinion, 
according to generally accepted auditing standards (GAAS), he or she 
needs access to the business records of the filer, the verifying 
auditor, after consulting with the primary auditor, shall be able to 
have access to those records as well.<SUP>4
---------------------------------------------------------------------------

    \4\ The consultation with the primary auditor is not intended to 
give the primary auditor any veto over the decision of the verifying 
auditor to require additional records. It is only intended as a 
means to get additional advice on what records may or may not be 
needed.
---------------------------------------------------------------------------

    The Office believes that two independent accountants--the verifying 
auditor and the primary auditor--acting in good faith, are the best 
judge of what additional information is needed from the filer.
    However, we highlight this provision in our interim regulations as 
one in which we particularly solicit comments from the parties. If the 
parties believe that the question of the scope of the verification 
should not rest with the independent accountants, they should so notify 
the Office in their comments. Moreover, the Office asks the parties 
whether they could agree upon which business records the filer should 
make available, in addition to the primary auditor's work papers, that 
would assure the accuracy of the Annual Statement of Account but at the 
same time would not create an overly extensive demand on the filer.

[[Page 30812]]

VIII. Independence of the Verifying Auditor

    AICPA states that GAAS requires that a verifying auditor be 
independent. AICPA recommends that if there is a question about an 
auditor's independence, it should be referred to the AICPA Professional 
Ethics Division and/or the State Board of Accountancy. AICPA, comments 
at 3.
    The Copyright Parties believe the Office should require that the 
verifying auditor be independent within the meaning of AICPA's Code of 
Professional Conduct. In addition, the Copyright Parties recommend that 
we establish a procedure to accept petitions from parties wishing to 
challenge the use of a particular auditor. Such petition should explain 
why the verifying auditor should not be used and should provide 
specific facts to support the petition. Where the Office considers that 
the petition raises a question as to whether the verifying auditor is 
independent, the matter should be referred to the proper professional 
authorities. Copyright Owners, comments at 17-19.
    EIA believes that the Office need not become involved in the 
question of a verifying auditor's independence, but it opposes sending 
the question to the AICPA Professional Ethics Division and/or the 
appropriate State Board because ``(1) these bodies have not applied a 
financial dependence standard and (2) they apply the traditional 
independence standard most often in a disciplinary context, where 
generally the presumptions and burdens favor the accused accountant.'' 
EIA, reply at 13. It suggested that an independent arbitrating 
accountant, chosen by the primary auditor and the verifying auditor, 
should help determine the independence of the verifying auditor. EIA, 
comments at 30-32, reply at 13.
    The Office agrees that it should not become involved in deciding 
whether a verifying auditor is independent, and any disputes involving 
the independence of an auditor should be referred to the AICPA or State 
Boards of Accountancy. EIA's opposition, notwithstanding, the Office 
considers that referring the matter to AICPA or State Boards is 
preferable to referring it to an independent arbitrating accountant. 
See, discussion at X, below. If there is a challenge to the verifying 
auditor's independence, the interim regulations nonetheless call for 
the verification procedure to continue while the question of the 
auditor's independence is being resolved.
    The Office considered two specific proposals concerning a verifying 
auditor's independence, but ultimately decided not to adopt them in the 
interim regulations. They were that the auditing firm retained to 
perform the verification procedure does not receive more than 15% of 
its gross revenues from services performed for the interested copyright 
parties, and that the auditor is not performing the verification 
procedure for a contingent fee. These proposals were supported by EIA 
but opposed by AICPA. EIA, comments at Appendix 2, at 18; AICPA, reply 
at 5. The Office solicits comments on whether these two specific 
proposals should be added to the definition of an independent verifying 
auditor. The Office also is aware that its current regulations on the 
primary auditor found in Sec. 201.28 do not discuss the primary 
auditor's independence beyond stating that the primary audit shall be 
performed according to GAAS. The Office solicits comments on whether 
any additional provisions should be adopted to assure the primary 
auditor's independence.

IX. Work Papers of the Verifying Auditor

    Section 1011(e)(2) of S. 1623 provided that the certification and 
results of all verification procedures shall be filed with the Register 
of Copyrights. In our Notice we asked if we should require the filing 
of the verifying auditor's work papers along with the results of a 
verification procedure.
    AICPA filed a strong objection to any requirement to file work 
papers in addition to the results of the verification procedure. It 
states that the auditor's report, not the work papers, provides the 
auditor's opinion as to the fairness of the presentation of figures on 
the Statement of Account and the primary auditor's report. The work 
papers are considered the personal property of the independent auditor. 
AICPA, comments at 4.
    EIA believes that work papers will contain extremely confidential 
information and should not be filed in the Office. EIA, comments at 2.
    The Copyright Parties believe that only the auditor's report must 
be filed with the Office. They propose that all work papers be 
deposited only if the verification procedure results in a dispute. 
Copyright Parties, comments at 24-25.
    In our interim regulations, therefore, the auditor's report to the 
Copyright Office will contain only the auditor's conclusions. If the 
verifying auditor concludes that there was any failure of the primary 
auditor to conduct properly the primary audit or obtain a reliable 
result, or that there was any error in the Annual Statement of Account, 
the supporting documentation will be included in an appendix to the 
report and distributed to the interested copyright parties, the filer, 
and the primary auditor only. It will not be included in the report 
sent to the Copyright Office.

X. Disputes Regarding Conduct of Verification Procedure

    AICPA had no comment on whether the Copyright Office has a role in 
the event there is a dispute in the conduct or the result of the 
verification procedure. It recommended requiring arbitration of 
disputes. AICPA, comment at 4. EIA said the Office should not be 
burdened with the task of resolving disputes. Disputes would best be 
handled between the primary auditor and the verifying auditor. If such 
discussions do not resolve the dispute, the auditors should mutually 
select a neutral arbitrating accountant who will examine all work 
papers and decide if additional procedures are required. EIA, comments 
at 22. The Copyright Parties also stated that ``there is no statutory 
role for the Office in resolving disputes arising from the conduct of a 
verification procedure or the primary audit.'' They said that, in 
practice, disputes will be resolved through negotiation. Copyright 
Parties, comments at 23.
    From the Office's viewpoint, there are three key points in the 
verification procedure when a dispute could take place. One, the filer 
could refuse to produce business records the verifying auditor 
considers necessary. Two, the filer could object that the verifying 
auditor is not independent. Three, the verifying auditor could file a 
report that there was a failure of the primary auditor to conduct the 
primary audit properly or to obtain a reliable result, or there was an 
error in the Annual Statement of Account.
    At this point, the Office has decided not to institute binding 
arbitration in these interim regulations. The Office solicits comments 
on how such disputes should be resolved. If the commentators believe 
binding arbitration should be established, the Office solicits comments 
on how it would work, and whether the Office has the authority to 
require it.

XI. Cost of Verification Procedure

    Sec. 1011(f) of S. 1623 specified that in the case of a 
verification procedure that ``leads ultimately to recovery of an annual 
royalty payment of 5 percent or more of the annual payment made, the

[[Page 30813]]

importing or manufacturing party shall provide reimbursement of the 
reasonable cost'' of such procedure.
    In all other cases, ``any recovery of royalty underpayments as a 
result of the audit shall be used first to provide reimbursement for 
the reasonable costs of such audit,'' and ``any remaining recovery 
shall be deposited with the Register.''
    EIA did not object to the cost allocation scheme proposed in S. 
1623, provided that the verification procedure is limited to an 
``agreed-upon procedures'' audit and there is arbitration between the 
primary and verification auditors in case of dispute to avoid 
duplication of audit work. EIA, comments at 30, and Appendix 2, at 16. 
The Copyright Parties recommended that the interested copyright parties 
who initiate the engagement of a verifying auditor should bear the cost 
of the verification procedure, but such cost should be reimbursable 
under the system proposed in S. 1623. Copyright Parties, comments at 
28. AICPA recommended that the cost of the verification procedure 
should be borne by the copyright party(s) that engage the verification 
auditor, but was silent on the 5% provision in S. 1623. AICPA, comments 
at 5.
    The interim regulation is based upon the system detailed in S. 
1623, described above, with which the Copyright Parties and EIA agree.

XII. Miscellaneous--Retention of Report; Use of the Word 
``Verification''

    AICPA had no comment on the length of time verification procedure 
reports should be retained by the Office. EIA and the Copyright Parties 
proposed that they be retained for three years. EIA, comments at 28; 
Copyright Parties, comments at 13. AICPA supported EIA's and the 
Copyright Parties' three-year proposal in its reply comments. AICPA, 
reply at 6. The Office has adopted the proposed three-year retention, 
but seeks more comments on how it should work. Should it apply equally 
to positive as well as negative verification procedure reports? Should 
it include follow-up reports if the filer and the verifying auditor 
come to subsequent agreements addressing the concerns of a negative 
report? May the Office, in its discretion, retain the report more than 
three years?
    Last, AICPA commented that the word ``verification'' is a misnomer 
because it implies a full scale audit while the scope of the verifying 
auditor's work might be well less than that. AICPA recommends that the 
procedure to be followed by the verifying auditor be called a ``second 
audit'' or a ``special audit.'' We have chosen to call it a 
``verification procedure,'' because the word ``verification'' was used 
in the AHRA, but we have given it its own special definition in 
Sec. 201.30(b)(5), so that it will not carry the implication of a full 
scale audit.

List of Subjects in 37 CFR Part 201

    Copyright; Digital audio recording products.

Interim Regulations

    In consideration of the foregoing, the Copyright Office is amending 
part 201 of 37 CFR, chapter II in the manner set forth below:

PART 201--GENERAL PROVISIONS  [AMENDED]

    1. The authority citation for part 201 is revised to read as 
follows:

    Authority: 17 U.S.C. 702; 17 U.S.C. 1003.

    2. Section 201.30 is added to read as follows:


Sec. 201.30  Verification of Statements of Account.

    (a) General. This section prescribes rules pertaining to the 
verification of information contained in the Statements of Account by 
interested copyright parties pursuant to section 1003(c) of title 17 of 
the United States Code.
    (b) Definitions.
    (1) Annual Statement of Account, generally accepted auditing 
standards (GAAS), and primary auditor have the same meaning as the 
definition in Sec. 201.28 of this part.
    (2) Filer is a manufacturer or importer of digital devices or media 
who is required by 17 U.S.C. 1003 to file with the Copyright Office 
Quarterly and Annual Statements of Account and a primary auditor's 
report on the Annual Statement of Account.
    (3) Interested copyright party has the same meaning as the 
definition in Sec. 201.29 of this part.
    (4) Verifying auditor is the person retained by interested 
copyright parties to perform a verification procedure. He or she is 
independent and qualified as defined in paragraphs (j)(2) and (j)(3) of 
this section.
    (5) Verification procedure is the process followed by the verifying 
auditor to verify the information reported on an Annual Statement of 
Account.
    (c) Purpose of Verification. The purpose of verification is to 
determine whether there was any failure of the primary auditor to 
conduct the primary audit properly or to obtain a reliable result, or 
whether there was any error in the Annual Statement of Account.
    (d) Timing of Verification Procedure.
    (1) Requesting a verification procedure. No sooner than three 
months nor later than three years after the filing deadline of the 
Annual Statement of Account to be verified, any interested copyright 
party shall notify the Register of Copyrights of its interest in 
instituting a verification procedure. Such notification of interest 
shall also be served at the same time on the filer and the primary 
auditor identified in the Annual Statement of Account. Such 
notification shall include the year of the Annual Statement of Account 
to be verified, the name of the filer, information on how other 
interested copyright parties may contact the party interested in the 
verification including name, address, telephone number, facsimile 
number and electronic mail address, if any, and a statement 
establishing the party filing the notification as an interested 
copyright party. The notification of interest may apply to more than 
one Annual Statement of Account and more than one filer.
    (2) Coordination and selection of verifying auditor. The Copyright 
Office will publish in the Federal Register notice of having received a 
notification of interest to institute a verification procedure. 
Interested copyright parties have one month from the date of 
publication of the Federal Register notice to notify the party 
interested in instituting the verification procedure of their intent to 
join with it and to participate in the selection of the verifying 
auditor. Any dispute about the selection of the verifying auditor shall 
be resolved by the parties themselves.
    (3) Notification of the filer and primary auditor. As soon as the 
verifying auditor has been selected, and in no case later than two 
months after the publication in the Federal Register of the notice 
described in paragraph (d)(2) of this section, the joint interested 
copyright parties shall notify the Register of Copyrights, the filer, 
and the primary auditor identified in the Annual Statement of Account 
to be verified, that they intend or do not intend to initiate a 
verification procedure.
    (4) Commencement of the verification procedure. The verification 
procedure shall begin no sooner than one month after notice of intent 
to initiate a verification procedure was given to the filer and the 
primary auditor by the joint interested copyright parties. The joint 
interested copyright parties shall grant the filer or the primary 
auditor a postponement of the beginning of the verification procedure 
of up to one additional month if either one requests

[[Page 30814]]

it. Verification procedures shall be conducted at reasonable times 
during normal business hours.
    (5) Anti-duplication rules. A filer shall be subject to no more 
than one verification procedure per calendar year. An Annual Statement 
of Account shall be subject to a verification procedure only once.
    (e) Scope of verification. The verifying auditor shall limit his or 
her examination to verifying the information required in the Annual 
Statement of Account. To the extent possible, the verifying auditor 
shall inspect the information contained in the primary auditor's report 
and the primary auditor's working papers. If the verifying auditor 
believes that access to the records, files, or other materials in the 
control of the filer is required according to GAAS, he or she may, 
after consultation with the primary auditor, require the production of 
these documents as well. The verifying auditor and the primary auditor 
shall act in good faith using reasonable professional judgment, with 
the intention of reaching a reasonable accommodation as to the 
necessity and scope of examination of any additional documents, but the 
decision to require the production of additional documents is solely 
that of the verifying auditor.
    (f) Verification Report. Upon concluding the verification 
procedure, the verifying auditor shall render a report enumerating in 
reasonable detail the procedures performed by the verifying auditor and 
his or her findings. Such findings shall state whether there was any 
failure of the primary auditor to conduct properly the primary audit or 
obtain a reliable result, and whether there was any error in the Annual 
Statement of Account, itemized by amount and by the filer's elected 
fiscal year. If there was such failure or error, the report shall 
specify all evidence from which the verifying auditor reached such 
conclusions. Such evidence shall be listed and identified in an 
appendix to the report in sufficient detail to enable a third party to 
reasonably understand or interpret the evidence on which the verifying 
auditor based his or her conclusion. If there was no such failure or 
error, the report shall so state.
    (g) Distribution of Report. Copies of the verifying auditor's 
report shall be subject to the confidentiality provisions of 
Sec. 201.29 and shall be distributed as follows:
    (1) One copy, excluding the appendix, if applicable, shall be filed 
with the Register of Copyrights.
    (2) One copy, with the appendix, if applicable, shall be submitted 
to each of the interested copyright parties who retained the services 
of the verifying auditor and who are authorized to receive such 
information according to Sec. 201.29.
    (3) One copy, with the appendix, if applicable, shall be submitted 
to the filer of the Annual Statement of Account.
    (4) One copy, with the appendix, if applicable, shall be submitted 
to the primary auditor.
    (h) Retention of Report. The Register of Copyrights will retain his 
or her copy of the verifying auditor's report for three years following 
the date the copy of the verifying auditor's report is filed.
    (i) Costs of Verification. The joint interested copyright parties 
who requested the verification procedure shall pay the fees of the 
verifying auditor and the primary auditor for their work performed in 
connection with the verification procedure, except, if the verification 
procedure results in a judicial determination or the filer's agreement 
that royalty payments were understated on the Annual Statement of 
Account, then,
    (1) if the amount is less than five percent (5%) of the amount 
stated on the Annual Statement of Account, that amount shall first be 
used to pay the fees of the verifying auditor and the primary auditor, 
and any remaining amount plus any applicable interest on the total 
amount shall be deposited, allocated by the filer's elected fiscal 
year, with the Register of Copyrights, or
    (2) if the amount is equal to or greater than five percent (5%) of 
the amount stated on the Annual Statement of Account, the filer shall 
pay the fees of the verifying auditor and the primary auditor, and, in 
addition, shall deposit the amount found to be due plus any applicable 
interest on the total amount, allocated by the filer's elected fiscal 
year, with the Register of Copyrights.
    (j) Independence and qualifications of verifying auditor.
    (1) The verifying auditor shall be qualified and independent as 
defined in this section. If the filer has reason to believe that the 
verifying auditor is not qualified or independent, it shall raise the 
matter with the joint interested copyright parties before the 
commencement of the verification procedure, and if the matter is not 
resolved, it may raise the issue with the American Institute of 
Certified Public Accountants' Professional Ethics Division and/or the 
verifying auditor's State Board of Accountancy while the verification 
procedure is being performed.
    (2) A verifying auditor shall be considered qualified if he or she 
is a certified public accountant or works under the supervision of a 
certified public accounting firm.
    (3) A verifying auditor shall be considered independent if:
    (i) he or she is independent as that term is used in the Code of 
Professional Conduct of the American Institute of Certified Public 
Accountants, including the Principles, Rules and Interpretations of 
such Code applicable generally to attest engagements (collectively, the 
``AICPA Code''); and (ii) he or she is independent as that term is used 
in the Statements on Auditing Standards promulgated by the Auditing 
Standards Board of the AICPA and Interpretations thereof issued by the 
Auditing Standards Division of the AICPA.

    Dated: June 6, 1996.
Marybeth Peters,
Register of Copyrights.

    Approved by:
James H. Billington,
The Librarian of Congress.
[FR Doc. 96-15390 Filed 6-17-96; 8:45 am]
BILLING CODE 1410-30-P