A federal legislation, the Sarbanes-Oxley (SOX) Act was established in 2002 to reign on corporate fraud and enhance transparency in corporations. The bill is named after its sponsors in the United States (U.S) Senate namely Senator P. Sarbanes and Michael G. Oxley, a U.S Representative. The bill requires that every member of a firm’s top management must certify financial information for accuracy (Fletcher & Plette, 2008). It also enhanced the severity of penalties associated with financial fraud. Notably, the bill expanded the independence accorded to outside auditors as well as the oversight role of directors. Establishment of the law was driven by the growing number of accounting and corporate scandals. Some of these scandals affected top U.S companies such as Tyco International, Enron, WorldCom, and Adelphia (Gitlow, 2005). The scandals resulted in the collapse of notable corporates between the years 2002 and 2004. Moreover, the event reduced the confidence of the U.S public in the securities markets. Ultimately, the bill transformed the financial system ensuring that all companies operate ethically and in a more transparent manner.
The act has been effective in several ways. For instance, it enhanced the internal controls, especially regarding financial reporting. Likewise, it ensured that many companies enhanced their expertise and independence on more-keen committees, boards, and directors. Anand (2013) further cites that the bill was effective in expanding such responsibilities as handling complaints, overseeing and selecting external auditors as well as approving numerous audit and non-audit services. This meant that with such oversight fraud could easily be detected and effectively contained hence protecting investors from possible losses.
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The bill has been effective in changing the responsibility accorded to a company’s management in the reporting of financial information. This is because the law demands that the top management independently certifies the accuracy of financial reports. By doing so, the bill ensures that the management is also responsible for the reporting. This implies that if a top manager willfully or knowingly provides false certification, he or she can face ten to twenty years in jail (Green, 2004). The bill, therefore, shields the rest of the company members from misconduct that may emanate from the top management. Moreover, if the company is forced to readjust the financial statements due to its management’s misconduct, the senior managers can be forced to give up their profits or bonuses accruing from the sale of the company’s stock (Gitlow, 2005). The manager can also be compelled to relinquish his position in the company due to false certification.
Another positive implication of the act is that it considerably strengthens or enhances the disclosure obligation. In this case, public companies are legally required to make public any information that is not captured in the balance sheet. Some of these arrangements are special purpose entities and operating leases. On the other hand, business entities are obliged to disclose any pro forma statements and how they would be under the Generally Accepted Accounted Principles (GAAP) (Prakash, 2000). The stock transactions also ought to be reported to the Securities and Exchange Commission (SEC) by insiders within two business days.
Conversely, the SOX is deemed ineffective in encouraging the smooth operation of corporations (Holt, 2008). This is because the act has many compliance costs. Thus, companies incur costs associated with the increasing expenses for yearly audits. These costs, in many cases, are passed on to the clients. Accounting firms have also had to put up with enhanced due diligence and the time required for completion of the audits. Additionally, the audit scope has expanded pushing companies to invest in internal control software and measures which are costly.
The bill also blocked foreign corporations from operating within the U.S. As much as it’s a precautionary move, the law prevents the U.S from benefiting from revenues that may be brought in by the foreign entities (Fletcher & Plette, 2008). Consequently, the bill prohibits the creation of new job opportunities for the populace, which would be useful in powering the American economy. The presence of foreign companies may be good for the overall growth of the U.S economy. Also, it expands the investment portfolio against the backdrop of globalization.
The bill has been ineffective in spurring growth in small and medium-sized companies. Many of these entities are not keen on going public due to the SOX ramifications that are both costly and complicated. As a result, many of these companies end up retaining the status quo which is a “financially secure” option (Holt, 2008). Other small and medium entities prefer not to re-privatize, which is a ploy to avoid the costs and implications associated with SOX.
Overall, the bill has been effective in turning around the corporate environment in the U.S. This is due to its efforts in ensuring that internal controls are enhanced by expanding the auditing and reporting space. By doing so, SOX provides that financial reporting is not a preserve of a few individuals who can collude and present flawed reports to the public. However, the legislation has not managed to protect shareholders and increase the public’s confidence per se. Nevertheless, it has brought forth severe penalties and regulations which have reduced cases of corporate fraud. Due to its whistleblower structures, the law encourages reporting of fraud by alerting the authorities and the public. It has also been a revolutionary law in terms of promoting a cultural and attitudinal change, and this is currently evident in many public companies and accounting entities. This shift is viewed as the most profound impact of the law. Despite the inefficiencies associated with SOX, changes can be incorporated into the bill with proper deliberations across the board. This would ensure that the bill is full-proof and positively impactful.
References
Anand, S. (2013). Essentials of Sarbanes-Oxley . Hoboken, NJ: Wiley.
Fletcher, W. H., & Plette, T. N. (2008). The Sarbanes-Oxley Act: Implementation, significance, and impact . New York: Nova Science Publishers.
Gitlow, A. L. (2005). Corruption in Corporate America: Who is responsible? Who will protect the public interest? Lanham, MD: University Press of America.
Green, S. (2004). Manager's guide to the Sarbanes-Oxley Act: Improving internal controls to prevent fraud . Hoboken, NJ: Wiley.
Holt, M. F. (2008). The Sarbanes-Oxley Act: Costs, benefits and business impact . Amsterdam: CIMA.
Prakash, S. (2000). The Sarbanes-Oxley Act and small public companies . Palo Alto: Stanford University.
