• Sarbanes-Oxley Doublespeak

    By • Jan 5th, 2011 • Category: Food for Thought

    This article was originally posted at Going Concern.com on December 2, 2009.


    Morality cannot be legislated, but behavior can be regulated. Judicial decrees may not change the heart, but they can restrain the heartless.” ~ Martin Luther King, Jr.

    I recently discussed the proposals for a Sarbanes-Oxley exemption for “smaller” companies. But Sarbanes-Oxley is threatened in a bigger and more imminent way: The U.S. Supreme Court will hear arguments on the constitutionality of the PCAOB on December 7th. The argument against the Sarbanes-Oxley Act of 2002, which created the PCAOB, is often one of cost-benefit. Preoccupation with cost is causing us to forget what’s right about Sarbanes-Oxley:

    • Established the PCAOB, an independent regulatory body for the audit industry rather than the self-regulated process that created Enron and WorldCom.

    • Restricts the scope of services auditors can provide to audit clients.

    • Requires implementation of whistleblower systems that allow confidential communication directly with audit committees.

    • Implements legal requirements for CEO/CFO to sign statements verifying the completeness and accuracy of financial reports.

    • Requires attestations by CEO/CFO and outside auditors to effectiveness of internal controls for external financial reporting.

    • Requires “real-time disclosure” of material changes in financial conditions.

    A law by itself does not bring benefits. Measure the benefits of the moral and ethical behaviors the law promotes and requires, instead. Certainly, all the above requirements — except perhaps “real-time” reporting that will implemented by XBRL mandates — are now second nature to most public companies. This didn’t happen without significant cost for some and a lot of bitching. But the significant additional cost (and bitching) was the result of separate but equal conditions:

    • Many companies, even the largest and most highly regarded, were poorly run – policies, procedures and controls over external financial reporting were either very weak or non-existent.

    • The audit firms used the law to gouge clients and hold them hostage to a clean audit opinion. Auditor inefficiency and higher fees were the result of a vague, incomplete law that didn’t provide the rigid rules auditors are accustomed to. They also over-tested due to legitimate fears of legal liability.

    Why didn’t Sarbanes-Oxley prevent or mitigate the financial crisis?

    • Executives are incorrigible when big dollars are at stake.

    • Audit firm leadership is weak and corrupt. They crave the higher fees and rolled over when clients stretched, bent, and walked all over controls.

    So when you hear the arguments for exempting smaller companies from SOx or repealing Sarbanes-Oxley all together, have this dictionary of translations handy:

    1. “As CEO, I vouch for controls.”
Read: I don’t want to answer for top-side entries.

    2. “ERP systems are money pits.”
Read: Manual controls can be circumvented.

    3. “SOx costs too much money.”
Read: Paying more for audits cuts into my bonus.

    4. “Leave me alone to run my company.”
Read: I want to do funky, non-arms-length, related-party transactions.

    5. “This is the best controlled company around.”
Read: My people tell me, “You’re in control, boss,” while I’m telling them the EBITDA number we have to hit this quarter.

    6. “Auditors don’t add value to day-to-day business.”
Read: Those weasels tell me the transaction is ok, then claim plausible deniability when the lawsuit is filed.

    7. “The audit opinion is a necessary evil. No reasonable investor makes a decision based on it.”
Read: The audit opinion is a necessary evil. No reasonable investor makes a decision based on it.

    8. “Sarbanes-Oxley didn’t prevent financial crisis, Madoff… What’s the point?”
Read: Fraud happens. And no law will stop me from taking out my cash.

    9. “We believe in internal controls, but we don’t believe having them audited is the answer.”
Read: Our CEO/CFO control the numbers because they and their directors/officers own more than 90% of the company.

    10. “Let the marketplace decide, not a bunch of bureaucrats.”
Read: We believe in free markets. We should be free to do whatever the hell we want.

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    3 Responses »

    1. […] other recent stories discussing my position on Sarbanes-Oxley here, here, and here. Easy AdSense by […]

    2. […] In the meantime, I asked Bob Hirth (San Francisco), Executive VP, Global Internal Audit Practice for Protiviti, and Scott Gracyalny (Chicago), Managing Director, Risk Technology Services a few questions about Sarbanes-Oxley and companies’ attitudes towards risk, controls, and corporate governance. fm: What are your objectives in producing this study at this time given that the PCAOB, and perhaps SOx and Section 404, are perceived by many to be threatened by the forthcoming Supreme Court decision in Free Enterprise Fund v. Public Company Accounting Oversight Board? […]

    3. […] This post was mentioned on Twitter by Francine McKenna and Francine McKenna. Francine McKenna said: What I wrote about Sarbanes-Oxley and the doublespeak that goes in the corporate world, esp regarding small companies. http://bit.ly/fX5kYu […]

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