Sabarnes Oxley Summary- Four Ways Sabarnes Oxley Stops Corporate Fraud.

The Sarbanes-Oxley Act of 2002 cracks down on corporate fraud. It created the Public Company
Accounting Oversight Board to oversee the accounting industry.It banned company loans to executives
and gave job protection to whistleblowers. The Act strengthens the independence and financial literacy of
corporate boards. It holds CEOs personally responsible for errors in accounting audits.

The Act is named after its sponsors, Senator Paul Sarbanes, D-Md., and Congressman Michael Oxley, R-
Ohio. It's also called Sarbox or SOX. It became law on July 30, 2002. The Securities and Exchange
Commission enforces it.

Many thought that Sarbanes-Oxley was too punitive and costly to put in place. They worried it would
make the United States a less attractive place to do business. In retrospect, it's clear that Sarbanes-Oxley
was on the right track. Deregulation in the banking industry contributed to the 2008 financial crisis and
the Great Recession.

Section 404 and Certification

Section 404 requires corporate executives to certify the accuracy of financial statements personally. If the
SEC finds violations, CEOs could face 20 years in jail. The SEC used Section 404 to file more than 200
civil cases. But only a few CEOs have faced criminal charges.

Section 404 made managers maintain “adequate internal control structure and procedures for financial
reporting." Companies' auditors had to “attest” to these controls and disclose “material weaknesses.”

Requirements

SOX created a new auditor watchdog, the Public Company Accounting Oversight Board. It set standards
for audit reports. It requires all auditors of public companies to register with them. The PCAOB inspects,
investigates, and enforces the compliance of these firms. It prohibits accounting firms from doing
business consulting with the companies they are auditing. They can still act as tax consultants. But
the lead audit partners must rotate off the account after five years.

But SOX hasn't increased the competition in the oligarchic accounting audit industry. It's still dominated
by the so-called Big Four firms. They are Ernst & Young, PricewaterhouseCoopers, KPMG, and Deloitte.

Internal Controls

Public corporations must hire an independent auditor to review their accounting practices. It deferred this
rule for small-cap companies, those with a market capitalization of less than $75 million. Most or 83% of
large corporations agreed that SOX increased investor confidence. A third said it reduced fraud.

Whistleblower

SOX protects employees that report fraud and testify in court against their employers. Companies are not
allowed to change the terms and conditions of their employment. They can't reprimand, fire, or blacklist
the employee. SOX also protects contractors. Whistleblowers can report any corporate retaliation to the
Occupational Safety and Health Administration.

Effect on the U.S. Economy

Private companies must also adopt SOX-type governance and internal control structures. Otherwise,
they face increased difficulties. They will have trouble raising capital. They will also face higher insurance
premiums and greater civil liability. These would create a loss of status among potential customers,
investors, and donors.

SOX increased audit costs. This was a greater burden for small companies than for large ones. It may
have convinced some businesses to use private equity funding instead of using the stock market.

Why Congress Passed Sarbanes-Oxley

The Securities Act of 1933 regulated securities until 2002. It required companies to
publish a prospectus about any publicly-traded stocks it issued. The corporation and its investment bank
were legally responsible for telling the truth. That included audited financial statements.

Although the corporations were legally responsible, the CEOs were not. So, it was difficult to prosecute
them. The rewards of "cooking the books" far outweighed the risks to any individual.

SOX addressed the corporate scandals at Enron, WorldCom, and Arthur Anderson. It prohibited auditors
from doing consulting work for their auditing clients. That prevented the conflict of interest which led to the
Enron fraud. Congress responded to the Enron media fallout, a lagging stock market, and looming
reelections.

Bottom Line

The Sarbanes-Oxley Act was passed by Congress to curb widespread fraudulence in corporate financial
reports, scandals that rocked the early 2000s. The Act now holds CEOs responsible for their company’s
financial statements. Whistleblowing employees are given protection. More stringent auditing standards
are followed. These are just a few of the SOX stipulations.

Some critics though believe SOX is an expensive compliance, particularly for small companies. But its
focus on high auditing quality has restored and strengthened investor confidence in U.S. companies.

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