March 14, 2006
In 2002, the Sarbanes-Oxley (SarbOx) Act attempted to crack down on accounting irregularities, punish those responsible for hiding them from the public and curtail potential conflicts of interest in corporations' relationships with their auditors. However, the act's overall acceptance has been slow, says Brian Doherty of Reason.
SarbOx -- which requires CEOs and chief financial officers to certify, under penalty of 20 years in prison and $5 million in fines, that their internal financial controls are in order and that they lead to accurate reports -- is a complicated law that consists of even more complicated guidelines, says Doherty:
- It created the Public Company Accounting Oversight Board and gave it the power to force accounting firms to pay both fees for its operations and fines for disobeying its edicts.
- SarbOx also requires auditors to switch out every five years, and prohibits them from jumping ship to executive positions at companies they have just audited.
- However, the cost of compliance is extremely high; in 2004, it was estimated to have cost $15 billion, leading critics to argue the benefits will be small, says Doherty.
Even though, SarbOx probably won't cripple the economy, it is bound to create bad incentives and unintended consequences. According to a survey of companies with under $1 billion in annual revenue:
- SarbOx has more than tripled the average annual regulatory costs of being a public company in the United States from $1 million to $3.4 million.
- The law also may tend to chill mergers, since purchasing companies will now be legally responsible for the financial records and statements of their targets.
Furthermore, the costs of SarbOx compliance will siphon revenues toward legal and accounting work, says Doherty.
Source: Brian Doherty, "You Can Be Too Careful," Reason, January 2006.
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