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Sunday, July 11, 2010

Sarbanes Oxley Act, The Public Company Accounting Reform and Investor Protection Act of 2002

The Sarbanes Oxley
I. Introduction
A. How Sarbanes Oxley Act Came Into View
Accounting is a profession comprised of brilliant individuals. In the process, with too much knowledge of this profession, some accountants have managed their way into ploying acts that are out of ethical standards and eventually became "abuses harming the public" (Earl Powers, 2007). These acts were heightened by the Enron and WorldCom scandals forcing the public and the United States government to enforce some laws and regulations to prevent them.

Senator Paul Sarbanes and Representative Michael G. Oxley were the ones who held their heads together in leading their co-legislators in making the desired regulations for the safety of the public when it comes to financial matters. These two led the way to the birth of Sarbanes Oxley Act, otherwise known as the Public Company Accounting Reform and Investor Protection Act of 2002, and more popularly known as SOX or Sarbox in the financial community.

Signed into federal law on July 30, 2002, the House of Representatives smoothly passed the bill (423 vs. 3) and it was then unanimously approved by the Senate (99 vs. 0).

Even the United States Securities and Exchange Commission have put a big deal in the rulemaking and reports on the progress of the Act, starting as far back as to the preparation to Implement Sarbanes-Oxley Act Requirement for CEO And CFO Certification of SEC Filings which was press- released in August 2, 2002 as well as answering the questions of the public in their efforts to respond to Frequently Asked Questions (FAQ) regarding auditor independence which they have press- released on August 13, 2003.

B. Accounting Frauds and Scandals of 2002 and the Accounting Profession
The sensational Enron scandal had a big "participation" upon the passage of the SarbOx. This scandal has always been mentioned in accountancy classes and up to now, its stigma has remained in the financial world. Professors of Accounting classes, especially that of Accounting Information Systems and Internal Audit related courses have made it appear and sound that this scandal brought into action with the accounting fraud is an integral part of the course. What is this Enron scandal then? And what other accounting frauds have paved the way in awakening the public for a need of more refined laws when it comes to financial frauds?

Five companies made their way to the strong scrutiny of public opinion back in 2002 when they were discovered to have "high profile corporate fraud scandals"(AP News, 2007). Among these five, Enron stands in the first line. Other companies found fraudulent with their respective former Chief Executive Officers convicted are Enterasys, Qwest, Adelphia and WorldCom. Since Enron was the most sensational and have made its stigma to the world up to the present, it is worth noting what has become of the case.

Criminal charges brought against 36 defendants, including 27 former executives. Eighteen have pleaded guilty or been found guilty at trial, including Enron founder Kenneth Lay and former chief executive Jeffrey Skilling. Skilling is serving a sentence of more than 24 years. Lay's convictions for conspiracy, fraud and other charges were wiped out after he died of heart disease last year. The government seized a total of more than $100 million in illegal gains and helped victims recover more than $450 million. (AP News, 2007) The accounting community should be aware that together with the Enron scandal was the fall down of the big accounting firm, Arthur Andersen. It is very worth noting that the scandal at Enron was with the participation of the accountancy profession, the profession that supposedly protect the public's interest and adhere with the principles of integrity and independence.

Houston jury found Andersen guilty of obstructing justice. It provided a moment of vindication for investors who lost more than $60 billion in the spectacular collapse of Enron, whose books had been audited by Andersen. But the verdict held a twist: at first the case seemed to hinge on whether an Andersen employee ordered tons of Enron paperwork to be shredded before investigators arrived. Jurors said they based their decision instead on Andersen's alteration of an internal memo that was critical of an Enron earnings release. (Cathy Booth Thomas, 2002)

II. The Sarbanes Oxley Act (SarbOx)
A. Key Points on SarbOx
What does this act really mean and what is its importance in the day- to-day activities of the financial world? Is it really a "need" to have this act? Should listed companies adhere into SOX?

According to President Bush, Sarbanes Oxley includes "the most far-reaching reforms of American business practices since the time of Franklin Delano Roosevelt."... You can see how a bill covering so many different topics might be seen as discouragingly complex (Earl Powers) This might be true but SOX does not reflect simplicity as it sounds.

It is an encompassing act covering a relatively wide area of financial matters in the financial world. Similar to other reforms passed, this act has its own set of difficult provisions and not very easy topics. Among these, found in the eleven-section bill are the following:

a. Personal loans by the company to executive officers or directors
b. Financial report certification
c. More timely insider trading reporting
d. Strong limitations on insider trades
e. Public reporting of top executive real compensation and company profits
f. Auditing independence
g. Personal accountability by the chief officers of the company, backed up by criminal and civil penalties including serious jail time and financial penalties on individuals who misstate financial statements and commit securities violations.

Even the United States Securities and Exchange Commission (SEC) have made it a big deal to publicize and educate the public, especially the financial world about the emergence of SarbOx back in 2002. The SEC have a detailed compilations of press releases, events and anything useful about the passage and implementation of Sarbox.

B. The Good Side of the Act
Sarbox have influenced the public both in fact and psychologically. The public's trust in the financial world have been restored and it was evident in the recovery of the stock market and the United States economy. However, it is obvious that many are not happy about SarbOx. The near six- year old bill is not very welcomed into the corporate America. Is there anything good with SarbOx at all?

Steve Schwarzman, CEO of private-equity juggernaut Blackstone, recently said that Sarbanes-Oxley "is probably the best thing that's happened to our business and one of the worst things that has happened to America." (Andy Serwer, 2006) Indeed adhering with SarbOx is expensive but trust of the public to the economy is priceless and it is for the general good when financial entities are transparent when it comes to their internal control systems' legitimacy. This bill is for public security, trying its best not to repeat the bad fate that happened to those who lost their retirement and pension savings from investing to fraudulent companies. As the Fortune editor-at- large Andy Serwer have said, "Sarbanes-Oxley isn't perfect. And by all means, it should be scrutinized. But consider the alternative. What if we had done nothing?"

C. The Cons of Sarbox
As previously mentioned, the American corporate world is not too happy about the passage and implementation of SarbOx. The number one reason is the cost that it carries. With too much cost and not too much benefits, it is obviously against the policy of one business entity. A business lives for a profit and profit is one of the top motivating factor why a business exists. In fact, in 2006 an article by Andy Serwer of Fortune Magazine states that:
Mallory Factor, chairman of the Free Enterprise Fund, an advocacy group focused on conservative fiscal policy, recently made all those arguments and more in written testimony to Congress. (Earlier this year his group filed suit against the Public Company Accounting Oversight Board, the entity created by Sarbanes-Oxley, claiming it is unconstitutional.) To Factor, SarbOx's bottom line is simple: "The costs in fact grossly outweigh the perceived benefits."
Another critic of the bill is its harsh effects to small businesses. Since it is costly, small enterprises have a hard time complying with this Federal regulation SarbOx. This is a reasonable view considering that the Sec has already a considerable number of rules and regulations that the corporations are required to adhere with. Moreover, SarbOx was not greatly polished as a bill. One of the most intriguing section of SarbOx is the Section 404 requiring management and the external auditor to report on the adequacy of the company's internal control over financial reporting. This section have been related to the "Error" section whenever someone finds online an error page, stating Error 404, page not found.

D. The Controversial Section 404
Section 404 is claimed to be the most costly section of the bill and it is reasonable enough to claim so because it is the truth. Since companies are required to implement the SarbOx, they have been struggling with this specific section that needs so much effort, time and resources. From an economic stand point, this section is indeed a belt-tightening measure requiring the documentation and testing of the important financial manual controls and automated controls. Overall, the corporate world looks at SarbOx as a very costly and meticulous legislation requiring so much from investors instead of helping them. However, this specific section, if properly implemented gives a "sigh of relief" to company executives.

After the compliance with Sarbanes Oxley 404 many executives feel that there has been a lot of improvement in company's documentation procedure after using the Sarbanes Oxley software offered by various vendors. Majority of key executives felt the need to have compliance with the law as it provides more transparent results and financial status of the company. It also offers more controls to key executives over documentation procedures. (Earl Powers, 2007)

III. The Accounting Profession and the SarbOx
Internal auditing, documentation process, external auditing, internal control systems and accounting information systems have been imbedded with various accounting studies. This has been done not to put more loads to a student's school work but to serve a purpose. When an accountant sets off to work, and with the implementation and compliance of the SarbOx, that accountant is definitely involved. Whether it is the company's accounting process and records or in the field of auditing, accountants are involved with SarbOx. With the passage of SarbOx, accountants employed by private companies should be more aware and be informed of the SarbOx because the businesses of their respective employers are at stake. On the other hand, external auditors have more responsibilities and have stricter methods when it comes to examination of their client companies' accounting control systems and other internal control systems. Auditing firms and auditors can be held liable as wee, like what happened with some of Arthur Andersen's. In any way, the accountancy profession should be aware of SarbOx.

Accounting is a professional practice molded by independence and integrity. Without this two, the profession would become useless and it would defeat its purpose in serving the public. These two, are obviously imbedded in the SarbOx act. Accountants have the responsibility to be informed and be aware of what the SOX says. Ignorance of this act can lead to severe penalties both civil and criminal of the executives of the financial entity whom the accountant serves if ever they release erroneous information to the public, both intentionally or accidentally and/or if the executives of the financial entity fails to present to the public the information the former owes the latter in a definite period of time. The financial world, most importantly the accounting profession and the major executives cannot ignore this act. Furthermore, they cannot afford to be ignorant of what is going on with the books of the financial entity that they affiliated with.

The main thing to understand about Sarbanes Oxley, though, is that it primarily affects how you do your accounting, and thus how you run your IT services. Electronic controls must properly manage your financial information, so that you have clear, easy- to-access real-time information on your company's finances. Corporate finances must be kept separate from executive finances, payroll, and other moneys. Auditing for accountability is crucial, so that if errors or misinformation enter the data stream you will be able to determine the source." (Earl Powers, 2007)

IV. Your Business , the Financial World and SarbOx
A. Why Should the Financial World Be Aware of the SOX?

Knowledge is power. And knowledge leads to prevention of a mistake. SarbOx is a federal regulation. It is then very important that those who have businesses or those who are running the business or affiliated with it must know about this act. Knowledge is the best way to prevent a mistake and a mistake against SarbOx carries harsh consequences. As a bill made into view with the inspiration of various companies' scandalous frauds, it is then inherent for this bill to provide for the stricter compliance and no excuses for mistakes. As mentioned, a mistake done by an entity against SarbOx can lead to criminal or civil suit and a harsher punishment. Even the mistake is not fraudulent in nature, say it was unintentional, the penalties simply apply just the same. As the common rule that everyone is familiar with, "Ignorance of the law excuses no one". This sentence alone makes a strong point why should the financial world be aware of the existence of SarbOx and be aware of how to properly comply with it.

B. The Consequences of a Financial Entity's Ignorance
Getting into jail is one among the reasons why entities must adhere with SarbOx. Which executive wants to be imprisoned? The answer is obviously "none". It can be viewed that businesses comply with the provisions of the federal regulation SarbOx due to fear above anything else.

To summarize, the following can happen upon violation and non- compliance with the SarbOx provisions:

Titles VIII, IX and XI speaks of violation - related subjects. Under title VIII of the bill, Corporate and Criminal Fraud Accountability, the knowingly destruction and creation of documents to impede, obstruct or influence any existing or contemplated federal investigation is a felony. Felony is a crime deserving punishment. Moreover, under the same title, a new crime for securities fraud that has penalties of fines and up to 10 years imprisonment is present and every executive, auditor and accountant should know.

Title IX which is about White Collar Crime Penalty Enhancements contains facts such as
a. Maximum penalty for mail and wire fraud increased from 5 to 10 years;
b. Tampering a record or impeding any proceeding is considered a crime;
c. The SEC may seek court freeze of extraordinary payments to directors, offices, partners, controlling persons, agents of employees;
d. The SEC may prohibit anyone convicted of securities fraud from being an officer or director of any publicly traded company; and most importantly,
e. Financial statements filed with the SEC must be certified by the CEO and CFO and the certification must state that the financial statements and disclosures fully comply with provisions of the Securities Exchange Act and that they fairly present, in all material respects, the operations and financial condition of the issuer. Maximum penalties for willful and knowing violations of this section are a fine of not more than $500,000 and/or imprisonment of up to 5 years. Above are the fearful consequences of violating what the SarbOx says.

It is then safe fir an entity to follow the bill like an "obedient child" so as not to provoke any investigation and not to end up in jail and losing what they have invested. With these, the question why the financial world should know about the bill is enhanced by the reasons cited above. Businesses should know for their own sake and survival in the business world. If a business have a "going concern" motive and purpose, it is therefore an obligation for that business to comply SarbOx Act.

C. Necessity to be SarbOx Standard Compliant
With the points that have been mentioned that certain acts might put a firm's major executive in jail, it is therefore a very cautious action to be compliant of what the law says. Indeed there are still provisions in the act that financial experts found to be polished and "need a second look" (Richard S. Savich, 2006), the SarbOx has undeniably restored and strengthened the trust of the public into the financial world, and needless to say, to the accounting profession. Indeed not all of the SarbOx is for the better. Some experts and analysts have seen the disadvantageous side of SarbOx to small businesses. Others have seen it as "a measure that claims to make the stock market safer, but actually has the effect of taking money from small investors and giving it to multimillionaires" (Jim Manzi, 2007). Moreover, the bill was passed with a good purpose, with the purpose of protection and transparency. The costliness of the bill is only a collateral part of it, therefore SarbOx is for the good of the majority.

V. Conclusion
With the points presented, both the good and the not so good side of
SarbOx, it can be weighed that SarbOx serves the public in general. Although many are having a sour grape for this bill, it is because of the fact that businesses hate all facts that make them spend extra. However, if only businesses look at the picture in a wider perspective, SarbOx is indeed helpful. Proper compliance with this federal rule would mean a more trustworthy business, a stronger business with properly checked and audited internal control systems and a business that can continue to survive longer. SarbOx has undeniably lessen the possibilities of company frauds, not because of the fact that it is very effective as a bill but because it scares the ego of the major executives to start any tricky actions in their companies.


Manzi, Jim. (2007, May 14). A pox on Sarbox: the unintended and rotten consequences of the Sarbanes-Oxley law The Free Library. (2007). Retrieved March 08, 2008 from http://www.thefreelibrary.com/A pox on Sarbox: the unintended and rotten consequences of the...-a0162833862

Powers, Earl. (2007, December 13). What Is Sarbanes Oxley? The Free Library. (2007). Retrieved March 08, 2008 from http://www.thefreelibrary.com/What Is Sarbanes Oxley?-a01073760474

Powers, Earl. (2007, December 13). Sarbanes Oxley Section 404 or Was That Page not Found 404! The Free Library. (2007). Retrieved March 09, 2008 from http://www.thefreelibrary.com/Sarbanes Oxley Section 404 or Was That Page not Found 404!-a01073759944

Press, The Associated. (2007, July 17). Corporate fraud scandals since 2002 .The Free Library. (2007). Retrieved March 09, 2008 from http://www.thefreelibrary.com/Corporate fraud scandals since 2002- a01610726832รน
Savich, Richard S. (2006, June 1). Cherry-picking Sarbanes-Oxley: provisions that deserve a second look The Free Library. (2006). Retrieved March 08, 2008 from http://www.thefreelibrary.com/Cherry- picking Sarbanes-Oxley: provisions that deserve a second look.- a0147013411

Serwer, Andy (2006, August 1). Stop whining about SarbOx Fortune Magazines. (2006). Retrieved March 9, 2008 from http://money.cnn.com/magazines/fortune Stop whining about SarbOx- archive/2006/08/07/8382589

The Securities and Exchange Commission Website (2003, August ) SEC Staff Responds to Frequently Asked Questions Regarding Auditor Independence. Retrieved March 15, 2008 from http://www.sec.gov/news/press/2003- 94.htm/ SEC Staff Responds to Frequently Asked Questions Regarding Auditor Independence

Thomas, Cathy Booth (2003, June 18). Called to Account Time. (2002). Retrieved March 9, 2008 from http://www.time.com/Called to Account- article 0,8599,263006,00

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