Changing SOX

Given the manifest problems with the misbegotten SOX (see my and Butler's AEI draft and my SOX archive), it's about time somebody's thinking of doing something.

Senator Demint and Congressman Feeney wrote yesterday in the WSJ that "[i]t seems that the SEC is not going to move quickly enough on recommendations by the Small Businesses Advisory Committee that would allow small businesses to opt-out of Section 404" and "the Public Company Accounting Oversight Board has released guidance that is not being understood or even heard."  As a result they are introducing the Competitive and Open Markets Protecting and Enhancing Treatment of Entrepreneurs (Compete) Act. The legislators describe the act as creating

alternative requirements for companies that wish to opt out of Section 404 and it would instruct the SEC and PCAOB to change the standard of what is a true material weakness. Auditors would be able to focus on substantial issues truly affecting the investor's bottom line rather than auditing every insignificant transaction. This will allow small- and medium-sized companies to invest in growth instead of unnecessary auditing costs. Also, our legislation would allow companies conducting an internal audit to receive technical advice from external auditors.

Today, per this WSJ story about the SEC SOX Roundtable, SEC chair Cox, who so far has been a reluctant participant in reform, said the SEC "has every intention of getting the law right "sooner rather than later."" And PCAOB Chair Gradison said "the board welcomes ideas about how to make Section 404 "scalable" to businesses of all sizes."

This is all good news – particularly the Demint/Feeney bill, which might make a meaningful difference. But I continue to believe, for the reasons in my AEI paper, that wholesale revision is necessary. Our paper, out as a book in the next couple of weeks, has specific suggestions.

So I'm most sympathetic with this statement at the Roundtable by Mallory Factor, chairman of the Free Enterprise Fund, which has brought a suit that could overturn SOX:

Three years following its implementation, it is now clear that the high cost of compliance with Sarbanes-Oxley outweighs the benefits and that the law is proving to have long-term, exponential negative implications for our economy.

Comments

[burnspbesq]

A couple of points that seem to have been missed (or perhaps deliberately obfuscated) by those who would like to see 404 go away:

(1) The costs of 404 compliance are tremendously front-loaded. Putting in a set of appropriate internal controls is exponentially more expensive than maintaining a set of controls already in place.

(2) Let's be clear about who the true villains are in the "high cost of 404 compliance" melodrama. It's the Big Four accounting firms, who are quite blatantly using 404 to fatten bottom lines that were hammered when the business of selling abusive tax shelters dried up. Show a little spine in fee negotiations, CEOs; or do your part to break up the cartel by hiring a non-Big Four firm.

As a consumer of financial statements, I am of the unshakable opinion that more transparency is A Good Thing. Not by any stretch of the imagination do I consider the costs of 404 compliance a dead-weight loss. Further, no company is put at a significant competitive disadvantage by having to comply with 404.

Stop whinin,' y'all.

[Larry E. Ribstein]

I haven't "missed" these points, but rather discuss them squarely in my and Butler's AEI project. The costs of 404 are not merely frontloaded, and auditors' litigation risk makes their conduct understandable and predictable.