Enron redux: Where was SOX?

As we face SOX II let’s reflect on the effect of SOX I.

Remember Enron? That happened because nobody knew what was going on inside the company, including its independent audit committee, which was well up to the then-current regulation of the board of directors.

Instead of taking the time to really figure out the underlying governance failures, we had criminal trials centered on proving the guilt of scapegoated individuals and the hastily slapped together SOX. I have been warning since that act was passed not just about its cost, but that it would be completely ineffective to accomplish what it was supposed to do. As I said a couple of weeks ago in the post linked above:

SOX was sold as the way to prevent future market bubbles and crashes. Obviously, in addition to imposing huge costs, it utterly failed to deal, not only with some indefinite future, but with problems that were already brewing at the time SOX was enacted. Indeed, SOX may well have hurt by helping to make investors complacent.

Now here’s the WSJ on yesterday’s AIG hearing:

The committee . . . released minutes of a meeting of AIG board members that said AIG's outside auditor had warned Mr. Sullivan on Nov. 29 that the giant insurer "could have a material weakness" in its risk management. That was less than a week before Mr. Sullivan told investors in December that AIG was "confident in our marks and the reasonableness of our valuation methods."

Two months later, AIG disclosed that its auditors had found a material weakness in its accounting controls, and said it would lower the valuation on complex derivatives by billions of dollars. Mr. Sullivan said that when communicating with investors, he said what he truly believed to be accurate at the time Those derivatives, sold by the financial-products unit Mr. Cassano headed, were largely responsible for three consecutive multibillion-dollar quarterly losses AIG reported in the months before the government agreed to loan the company as much as $85 billion * * *

Rep. Henry Waxman, the committee chairman, asked both Mr. Sullivan, who was CEO from March 2005 until this June, and Mr. Willumstad, who had been AIG's chairman since 2006 and served as CEO from June to September, about concerns raised by a former auditor in the financial-products unit. "It looks like you both brushed it aside," Rep. Waxman said.

Mr. Willumstad said he didn't recall the matter being discussed by the firm's audit committee, and Mr. Sullivan said the company had been putting additional controls in place.

So where was SOX in all this, with all of its vaunted high-cost internal controls disclosures?  And what’s the fix going to be this time? Throwing more executives in jail? Slapping together some more complicated rules without any real consideration given to whether they’ll work?