Tuesday, August 20th, 2019 

Sarbanes-Oxley Act Postscript

Financial Reporting “...  Sarbanes-Oxley Act: Cost/Benefit Relationship for Financial Reporting .”

The Sarbanes-Oxley Act ("Act") recalibrates the cost/benefit relationship for Financial Reporting plus the Act implementation experience has reawakened the wisdom of following best practices. The Act objectives are "Good Governance, Oversight, Controls, Documentation, and Transparency." The Act did not change any of the inherent requirements for preparing financial statements in terms of what people should be doing. The Act reinforces the importance of controlled processes and the true cost of failure by imposing greater responsibility and punishment.

The best practices include:

  • Independent and Qualified Audit Committees
  • Codes of Conduct
  • Whistleblower Channels (formal means to report misdeeds)
  • Confidence in Financial Preparation Process and Results
  • Economic Substance of Transaction over Legal Form
  • Streamlined and Improved Process
  • Centralization of Internal Control Assessments
  • Enterprise Risk Framework

The downside of Sarbanes-Oxley Act Section 404 is:

  • Higher Costs from Implementation
  • Distracted, Risk-adverse Boards of Directors
  • Risk-adverse, Non-Committal Auditors
  • Time Requirements on Management

The bottom line is the Sarbanes-Oxley Act worth the effort?

Enron, World-com, Aldelphia, etc. have shown that rules-based or minimum compliance approach to applying generally accepted accounting basis principles ("GAAP") can produce financial statements that while technically in compliance with GAAP rules, are materially misleading in their emphasis on legal form over economic substance. Also, financial statement disclosures have not always provided a fair picture of an entity's financial condition. An investor must be able to rely, that the Company and External Auditors, have produced financial statements and related disclosures that present a fair and economically factual representation of an entity's financial condition.

Marketplace consensus is that Sarbanes-Oxley Act Section 404 has provided investors benefits. The initial adoption of Act has generated more than 500 material weaknesses or more than 15% of applicable public companies are disclosing a lack of "strong" internal controls. Material weaknesses in a company's internal controls over financial reporting are serious indicators of fundamental flaws and higher acceptance of risks. The Act gives stakeholders a better measure for evaluating the Company's risk profile and the level of trust and reliability to be placed on the financial statements.

If you have any questions, please contact us at (630) 243-0117 or E-mail at MFischer@riskinc.net.

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