The Sarbanes-Oxley Act, enacted July 30, 2002, was a classic case of a knee-jerk government action that did lots of harm and very little good. The goal was to reform public company accounting rules to avoid future scandals like those that played out at Enron, Tyco, Adelphia, Peregrine Systems and WorldCom. But the practical effect was to kill the initial public offering market in the U.S.
Former Speaker of the House Newt Gringrich (listen to my interview with him last May) and David Kralik are now calling for the repeal of Sarbanes Oxley. In an Op-ed piece in today’s San Francisco Chronicle, they outline the many problems created by the act:
- It didn’t prevent insolvencies and accounting shortfalls in companies such as Bear Sterns, Lehman Brothers, American International Group (AIG) and Merrill Lynch.
- The average company will now take 12 years before it can successfully issue an initial public offering (IPO) (up from 5 years pre-Sarbanes-Oxley) because they do not have enough capital to cover the estimated $4.36 million hidden tax in yearly compliance costs (The initial estimate from the Securities and Exchange Commission was approximately $91,000 per company on average).
- Smaller public companies went private or merged: “In 2006, the law firm Foley & Lardner LLP conducted a survey of 114 public companies on the effects of Sarbanes-Oxley. Twenty-one percent of companies were considering going private, 10 percent were considering selling the company, and 8 percent were considering merging with another company”
- U.S. companies are going public on foreign exchanges to avoid the Act: “In 2005, a report by the London Stock Exchange cited that about 38 percent of the international companies surveyed said they had considered issuing securities in the United States. Of those, 90 percent said the onerous demands of the new Sarbanes-Oxley corporate governance law had made London listing more attractive.”
- They also quote Representative Michael Oxley, one of the original sponsors of the bill, who said “Frankly, I would have written it differently…Everyone felt like Rome was burning.”
Why the San Francisco Chronicle? Because Silicon Valley may be the hardest hit region:
In the second quarter of 2008, there were no public offerings of Silicon Valley venture capital-backed companies, a phenomenon not seen since 1978. In the third quarter there was only one. Sarbanes-Oxley has had a direct effect on venture capital. Indeed, if Sarbanes-Oxley is not repealed, then we could see Silicon Valley’s status as a hot-bed of innovation erode and see more and more of the future invented outside of the United States.
That’s great this issue is getting attention.
Sarbanes-Oxley also effectively takes away a possible exit strategy for many start-ups, which makes it harder for VCs to get a return on their money. If the only real exit is acquisition, it means these companies will be under pressure to get acquired and further consolidate strength in larger companies.
Sure thing body.
buddy?
Arrignton’s article was funny in being so poorly argued and thought out. SOX was put in place to avoid repeats of Enron, Tyco and others. Apparently, it was successful as there have no such implosions since.
The article then says that SOX did not stop the collapse of Bear, Lehman, AIG and Merrill. Well guess what…all these companies incidentally happen to have something in common…they are in Financial Services and are subject to a set of regulations that exempted them from listing significant liabilities on their balance sheets…
In confirmation of this, the Financial Services industry is in for dose of better regulation and enforcement…much like SOX (just listen to Greenspan’s sober testimony before Congress).
Finally, in reference to SOX the slowing of the IPO feed. This is not such a bad thing, as good deals still go public (like netflix) while all the venture hyped crap deals don’t go anywhere. All this is good for the investor and for the public.
I think the economy had more effect on the IPO market than SAX. And how did the economy get so bad? Because we did not have enough regulations! Ok, maybe some innovations may not get through because of the higher bar, but the companies that do go all the way will be stronger.
Well, you obviously have not had to deal with SA compliance issues in real life. And by the way, economic outcomes are dominated by these behaviors ‘on the margin’ that you casually dismiss with “Ok, maybe some innovations may not get through because of the higher bar”.
The economic downturn obviously has obviously effected the IPO market, but I’d like to see a regression analysis done of IPO’s historically in comparable markets. I’ll be you’ll find that, after normalizing economic conditions, there are still less IPO’s currently than can be explained by the “bad economy” explanatory variable. And I’ll bet if you add a sarbanes-oxley dummy variable into that regression, you’ll get meaningful correlation with that trend.
I like it
The first argument Mr. Gingrich makes – about SOX failing to prevent insolvencies is simply because it fails to give clear guidelines and oversight agency for credit risk management. This should go complementary with the other provisions of SOX, specifically for credit organizations. BASEL II for example, deals with the credit risk very effectively. However, it proved useless when some members of the agreement didn’t enforce it (US, Iceland).
Re. the third argument: There is nothing wrong with small companies going private or merging. Raising (ridiculous) public money by small companies occurs mostly during economic bubbles, and ends up with all kinds of “Netscapes” being worth billions in market cap. Then, of course, the markets have to crash.
To prevent US companies from listing on foreign markets, the best way is to establish equal terms for doing business worldwide from the aspects of financial responsibility and corporate crime. US should lead the way in this.
And finally, just after you’ve written something you feel you can improve it: even more so with SOX – 6 years later. However, it certainly does not mean that SOX should be scrapped altogether, a regulation like that is absolutely necessary to prevent “Enrons” of all kinds.
So, in my oppinion de-regulation is not the solution, but rather a rational and international regulation. It’s hard to achieve, but I think it is the most viable choice.
I’m not convinced that the regulation is necessary to prevent Enron, because a). the perpetrators of Enron went to prison for laws already on the books, and b). we just saw an industry market collapse anyway. The mark-to-market rules enacted by Sox actually contributed to the problem in that instance.
Hmm, I’m not an accountant, but I’m surrounded by them, and I was under the impression that the mark-to-market rules were a FASB construction. SOX is internal controls and criminal penalties, not accounting rules, I think.
Recently there actually have been some reforms to fix some of the original SOX problems (in the form of AS5) to allow the accountants to streamline (and reduce the cost) of their procedures. Now, maybe more reforms are needed, but its encouraging that they are at least open to making those changes.
“So, in my oppinion de-regulation is not the solution, but rather a rational and international regulation. It’s hard to achieve, but I think it is the most viable choice.”
And fusion is the most viable choice to sunshine and happiness. Let’s find a viable choice that is a little less impossible, shall we?
I generally don’t spend a lot of time agreeing with Newt Gingrich, and this issue is no exception. Sarbanes-Oxley was intended to address real problems that ultimately cost shareholders billions of dollars, and it has been successful in preventing further Enron-style scandals. (It was not intended to address the lack of regulation in financial markets, so it can’t be blamed for bank failures. Sorry.)
It does go a bit too far, but repealing SOX and going back to the way things were is not the answer. It just needs to be tuned a bit to keep the necessary protections in place, while giving businesses a little more room to do what they need to, while not be overly burdened by compliance.
In India, companies spend big on advertising before an IPO and cheat people royally after sometime while government watches everything helplessly. Long live acts like S-O.
I hate to state the obvious here but S-O is a US law, and as such only applies in the US, not India.
As far as India goes I think you have it backwards. The government is way too involved in the Indian markets – companies can’t do anything without their actions becoming a major political issue – hence the markets become a breeding ground for cronyism and corruption.
Sad truth.
As with any law or regulation, it’s always a question of quality enforcement, not how the thing is written…rather like waving a piece of paper reading “Not Insane.” It begs the question~jkatt
Mike, the law wasn’t designed to prevent insolvency, and I’m not sure you would want a law that was: Lehman’s failure, for example, was in no ways a failure of Sarbanes-Oxley. You also claim that U.S. companies are going public on foreign exchanges, but the quote you cite seems focused on foreign companies preferring foreign exchanges. Finally, the $4.36 million in hidden tax over-estimates the burden placed on a company just going public; I think that’s an average for all public companies, which includes GE and Coca-Cola.
I am sure there are many problems with Sarbanes-Oxley, and one is certainly that it has raised the cost of being a public company, but is it possible that ten years ago there were companies going public who had no business doing so, and that more recently the absence of IPOs reflects the absence of startups that become profitable, large-scale businesses?
I just don’t think this is an easy call. As someone who has co-founded a company subject to Sarbanes-Oxley regulation I am of two minds on this subject. On one hand, the cost is onerous and the bill has been a bonanza for accountants and lawyers who don’t have much to do with making better products. On the other, It just seems like taking measures to ensure your financial statements are accurate is a reasonable cost if you want a grandma to buy your stock.
I think your argument would be more convincing if you listed a few companies that would be public if not for Sarbanes-Oxley legislation. Bill Gurley referred to a few in his portfolio, but not by name, and his threshold was $50 million in revenues when, for a public company, it probably should be closer to $75 million or $100 million.
Q: Why should it be closer to $75 million or $100 million?
A: Because of the $4-5 million SG&A cost of complying with SOX…
To chime in on the $4-5 million: I’m in public accounting and can say from experiance that, unless your a huge, multinational company, SOX doesn’t cost your 4-5 million. Hell, if you a smaller to mid-size public, the WHOLE audit won’t cost you 4-5 million, much less the SOX portion.
There are certainly reasons to oppose Sarbanes-Oxley – it’s a typical piece of government legislation that was only signed to satisfy the Politician’s Syllogism (1. Something must be done. 2. This is something. 3. Therefore we must do this.) It was overreactionary and full of unforeseen consequences, much like any other piece of legislation which includes the words “financial”, “terrorist” or “children”.
However, “we need to repeal SOX because it makes it impossible for VCs to rid themselves of rubbish web 2.0 companies that will never make an actual profit” is not going to be a compelling argument to the real world, so I suggest SV stays out of this one.
There are a lot of laws on the books that were the likely result of the Politician’s Syllogism. I just happen to believe that the mandatory minimums for drug offenses passed in the wake of Len Bias’ death are a hell of a greater miscarriage of justice than a few thestreet.com’s not going public.
The funny thing is, for all of the whining I have yet to see one company with a really great product fold, and I shudder at the thought that some of these monstrosities that are collapsing now would have ever gone as far as an IPO. Slapping something together using AJAX or Ruby on Rails doesn’t count, nor do a thousand retarded “apps” with a business plan that doesn’t surpass the “throw AdSense on it!” threshold.
David Myddelton (emeritus prof. @ Cranfield) says in his book “Unshackling Accountants” : “Sarbanes-Oxley Act 2002 was rushed through, in aclassic knee-jerk reaction, to“tighten up requirements” in the US (at enormous expense to companies). As so often when regulation falls short of what it promises, the “solution” is to reinforce failure by more of the same. Accounting scandals have always been with us, and always will be. Anyone who thinks over-regulation is the answer is ignorant of history.”
Under regulation isn’t the answer here either. That’s the problem too many people believe that the world is always just black and white when really its shades of gray…
Agree w/Gingrich. SoX is a steaming pile of legislative crap. Plus, it is practically powerless to deal w/actions of GSEs like Fannie/Freddie who caused our current financial crisis. Adding more regulation on top of SoX to fix it is just compounding the problem.
Yes, more de-regulation! FDR was a semi-crippled, defense-minded politician who got us out of the depression. Old McCain is a semi-crippled, defense-minded politician who can do the same! Somehow Reagan improved the economy with more de-regulation as well.
There are some provisions of SOX that work. I can tell you from hearing it first-hand that holding officers and directors personally accountable gives them laser focus during audit meetings (which in some companies would have been “going through the motions” pre-SOX). However, working for a private company, I also think that cost of compliance creates a steep barrier to public markets and offsets the benefits of cheaper liquidity, more transparency, and acquisition capital. I think it should be carefully reviewed and selected provisions should be scaled back, but to kill it would be reactionary and overkill.
Having worked at pre-SOX and post-SOX start-ups, I agree that it is overkill and needs dialed back a bit.
I agree, the act needs to be reformed or just canned. You just don’t get many companies going public anymore which is horrible for liquidity. The average person can no invest early into companies like Facebook or Myspace because by the time these companies go public they’ll be huge.
I worked as an engineer at a public company and I can tell you many of the policies related to Sarbanes-Oxley are just nonsense. Instead of improving our website, we had to spend two months out of the year just implementing SOX policies like audit controls and security roles. By the end of this period our competitors, mostly private companies were able to progress their product.
Also, I can say that one of the biggest problems – employee tampering – is not effectively blocked by SOX. I had the power at any given time to cripple our main business for at least a month without anyone knowing it was me.
There’s another negative effect in that public companies may not be able to buy small startups, because ALL startups are not sox compliant. And implementing SOX would require a great deal of resources.
The one positive about SOX is it leads to more jobs for 2nd rate accountants and anal-retentive engineers and potentially less for lawyers.
thanks for covering this Mike. I think it is immensely important to rethink major pieces of legislation. I am not sure if Obama is the right guy to repeal SOX though…
The President does not “repeal” laws, that is Congress’ job.
You need to learn about the roles of the Executive Branch, The Legislative Branch and The Judiciary Branch.
“I am not sure if Obama is the right guy to repeal SOX though” – Obama IS the guy to NOT do much. He was already back-pedaling on his “victory” speech: “changes will not take a year, even my first term [4 years] but we will get there!” – No one knows where or what is “there”
You can’t fix stupid. SOX wasn’t created to prevent the mishaps at Bear Sterns, Lehman Brothers, American International Group (AIG) and Merrill Lynch, couldn’t have prevented those mishaps, and that’s why it didn’t prevent those mishaps.
The unnecessary burden on public companies and companies that trade public companies is undeniable. I wonder if SOX should be wiped away completely or if it is fixable. I also wonder if TARP will become the next piece of legislation that was written under distress that will not stand the test of time.
I completely disagree. Having worked at an executive level of a fortune 500 company I can tell you with absolute certainty that Sarbox has had a huge effect on American companies. I witnessed first hand the internal panic of being called out for lying about earnings. Many of our departments were reporting the same numbers more than once which bloated the real earning numbers on purpose. I the ideas was that if any organizations noticed the oversight the company would simply claim an accounting error. So yes, sarbox works as intended. These large companies are working hard to craft lies that help they keep their jobs. Newt knows this but is being pressured by “others” to rollback the fiscal protection to allow them to go back to business as usual. Also, keep in mind the recent fiasco on Wall Street. Now imagine how bad it would have been without Sarbox. Now think about how crooked someone like Newt is to put his corporate friends first. Shallow.
I agree. Now, no law will do away with crookedness at any company or institution, large or small.
The same, of course, goes for politicians. Even ex-politicians…
Once a politician, always a crook.
We need to trust accountants and quantitiative experts, not so-called “representatives of the people.” All this “accountability” stuff – just trust the good CEOs and accountants, people! The honor system.
SOX and overregulation needs to be stopped, because it might lead to a financial disaster of some kind. We can’t afford that!!
@Blow – The “honor system” WAS a great thing in American life….
It is mentioned now by crooks that will surely rip you off!
Um…. Did Newt invoke the cone of silence last night, or for the past couple months? Who gives a crap what he thinks; he’s an incompetent idiot who brought the US into a depression. Save the space for people who matter, Arrington.
“Who gives a crap what he thinks; he’s an incompetent idiot who brought the US into a depression. Save the space for people who matter, Arrington.”
1. His IQ is about 100 points higher that yours
2. 6.3% Unemployment = Depression? yeah, ok
3. Current Resession is his fault? Huh, he hasn’t been in office for long while. I think you mean Barney Fag, er, I mean Frank.
@Michael — Get your facts straight: It was not Newt who “brought the US into a depression” The culprits are still on Capitol Hill: Barney Frank [the gay elephant in the room], Christopher Dodd, Chuck Schumer and many others connected to the mortgage crisis, starting in the Clinton administration with Henry Cisneros [at HUD], who, BTW is now in legal hot water for applying the same principles — approving mortgage financing for people who could not afford them, mostly illegal aliens.
If you are in the US, you must be one of the many idiots/retards who voted for Obama because he is black, and nothing else.
God help us!
http://www.budg...es/bkcma_2e.gif
This neither proves or disproves anything, but you can see how much we’ve slowed down compared to some other leading nations without as much regulation. There was a lag period which may be explained by the time given to companies to comply with the law, although that would encompass a pretty large span. There was definitely some real growth in there, but it doesn’t look like it was long lived or strong enough to make up for whatever difference there is between the various markets. Notice that the significant drop occurred starting at the beginning of 2004, a full 4-5 years ago even as the GDP was in a period of rapid expansion.
Sure thing.
http://vidsonly.blogspot.com
Who listens to Newt Gingrich anymore? Isn’t he a disgraced, corrupt Republican who got thrown out of Congress long ago?
Please TechCrunch… leave the conservatives off your tech pages. The American people just voted overwhelmingly to rid ourselves of these corrupt clowns.
Next, you’ll have Newt lecturing us about “family values” while he cheats on his cancer-stricken wife. Oh, wait.. different blog, same corrupt Republican hack.
Please stick to the tech stories, leave the Republican propaganda to Fox.
Thanks for speaking up and letting us know who the anger-filled, close minded bigot is the room is.
SOX also introduced some accounting practices that had a very material effect on financial institutions and helped lead up to this recent assortment of bank failures.
The accounting practice of Mark to Market, required by SOX, requires financial institutions to value their assets at current market value. Those that had large portfolios of mortgage backed securities took a big hit to their balance sheets, putting some of them at near insolvency. This was a big contributor to Wachovia’s failure.
At the same time, banks like Wachovia are very profitable and are in a fine position with respect to cash flow. So, an otherwise very viable institution faces bankruptcy.
With a stroke of the pen, Congress can change this and I believe that much of the bailout would not have been necessary. The SEC is slowly looking into this, but should have years ago before all this happened.
So, we are no living in the perfect storm of incompetency with the Republican adminstration asleep at the helm while the Democratic congress pushes for more of these bad loans to people who do not qualify and creates more legislation to regulate what they did not oversee.
Bill Warner
Here. Here.
Amen.
No one who has read or reviewed The Sarbanes Oxley Act 2002 would disagree that it is a terribly written law. What we need today is the transparency that was promised via Sarbanes Oxley and understandable laws & controls that can engender broad support. Laws like SOX have to be comprehensible for non- and for-profit organizations – and to the thousands of private companies who comprise the majority of our supply-chain support.
As president of a company that offers solutions for Fortune 500 organization seeking to comply with SOX, I have lived through the very difficult times following the passage of the Act and I understand the frustration it has created. To date, hundreds of companies continue to have interpretation and enforcement concerns.
I fully supported the revision of Section 404 to remove the onerous burden that mandated financial controls and reporting had placed on small and mid-sized businesses. However, in light of the implosion of the capital markets following the sub-prime debacle I can’t imagine the outright repeal of Sarbanes unless there was a plan in place to replace the salient and important requirements of the Act.
“we need to repeal SOX because it makes it impossible for VCs to rid themselves of rubbish web 2.0 companies that will never make an actual profit”
Ain’t that the truth. Perhaps Newt is position for a re-run in 2012?
Want most people do not understand is the term “free market”.
The literal meaning of free markets would be a 3rd world bazaar with not consumer protections, no licesnes required, no quality control (use all the melanine you like), no child labor laws, ….
An American “free market” is infact a regulated market. The repblicans idea of “de-regulation” was really re-regulation to benefit the few. A transfer of wealth from the middle class upwards.
We need a re-regulation to balance labor and capital back to favor the working middle class. Yes that makes it harder for capital – VCs to slime money from 401ks into thier pockets.
We also need a re-regulation of finance. Printing money.
I agree. Ditch it.
Instead, I think it makes sense to rate companies based upon criteria that matter, such as how aligned the interests of executives are with shareholder interests (perhaps they own a huge chunk of stock) or how well compensation rewards performance.
And maybe that’s already being done, but its not always based upon information that is collected by government. Maybe it makes sense to require this stuff right on the label.
What is most needed for small business in America is a re-write of patent laws.
The types of patents Google and Microsoft and other large tech company’s submit are absurd.
A business process or method is NOT an innvention and is by definition cannot possibly be original.
Patents should only be given out to original innovations, not improvements to prior innventions.
It should not be possible for establish firms such as Google, IBM, & Micrsoft to Patent competition to death.
It should not be possible to use absurd Patents and teams of lawyers to build barriers to entry for small businesses.
Sarbox oversight didn’t include Fannie or Freddie. You can thank the 9 dissenting democratic votes on the Financial Services Committee and in particular, Barney Frank and the Black Caucus, you guys are great!
Meldown at “Wall Street” definitely highlights loopholes in regulations and risk management techniques. At the heart of all this lies – poor governance. The quality of governance can not be measured with publicly available information. So, can tighter government oversight produce better results? This is anybody’s guess. Probably, a more principled driven approach that leads to greater transparency is desired.
Disclaimer: I have made a lot of money as a result of SOX.
Accountants or accounting rules can not stop business failures/insolvencies. Accounting is simply a scorecard it cant ensure that people will buy your product/service.
Even though Newt doesnt make any compelling arguments against SOX that doesnt mean there are not opportunities for improvement.
The mindset that SOX tries to instill in companies (continuous improvement) could be used on SOX itself.
The right answer is to tier the provisions of SOX so that the provisions only kick in after a few years or when revenue gets to $200 million per year.
IPOs are the single greatest engine for growing wealth. We need quality IPOs not the buckets of cow flop the VC cranked out in the late 90s. To ensure that people do not game the system, make false or negligent statements by Directors and Officers felonies punishable by 10-20 years in prison (yes 10 years minimum if you are convicted!), with third-party audited and verified sales and financials (who are subject to 20 year if they make a false statement).
This would be cheaper than SOX, be cost effective and have enough of a threat of real punishment to deter the excesses while giving the public early access to great companies, reopening the avenue of IPO exit and protecting all involved.
Yeah, they tried fighting theft in the some parts of the world by cutting off the hand of the thief, it didn’t work. There are still as many thieves…
You need contionuous monitoring, reporting & oversight, otherwise, you end up like Greenspan’s “I thought businesses are more responsible to themselves…”
This sort of argument is the same reason why it took an extra 20 years to turn out high-milage cars. Foot-dragging in implementing meaningful change only exacerbates the problem.
Calling expenses incurred in cleaning up internal auditing procedures a ‘hidden tax’ is similar to calling the price of cleaning supplies and labor for people pushing a mop in a restaurant a hidden healthcare tax.
I am reminded of a line from an SNL skit about an investment company:
“We will make a list of our clients and how much money each of them
has given us to invest. We will keep this list in a safe place. If
we have time we will make a copy of the list in case something happens
to the first list.”
Is keeping proper records really just too hard? Isn’t that what professionalism all about? We have all of these fancy expensive computers now too to help you. All we ask is that you use them properly if we’re going to let the public invest with you. Is that really so much to ask?
I implement SOX systems in IT all the time. More often than not, the audit merely exposes existing bad practices to much-needed sunlight. Rarely are we forced to jump through unreasonable hoops. Usually it’s merely a question of handing out round-tuits all around.
If Newt is in a hurry to crowbar ANY regulations off of business, then he should pick some legislation where the paint is dry.
Our view at Perth Leadership is that SOX directly contributed to the current financial crisis by increasing moral hazard. Furthermore, a good proportion of un-anticipated systemic market risk is created through financial innovations which are greatly beneficial to society but for which the downsides are unknown – you cannot create regulations to prevent that type of risk because you don’t know what the risks are yet. The best approach is to build the appropriate financial behaviors and business acumen in executives so they can deal with problems as they arise, rather than distracting them from building US competitive advantage with backward looking compliance.
gud