The Sarbanes-Oxley Act governs corporate accounting practices.
The Sarbanes-Oxley act, named for its legislative co-sponsors Paul Sarbanes and Michael Oxley, is a U.S. federal law enacted on July 30, 2002, that governs the accounting practices of all publicly held U.S. companies. The bill was developed in the context of a series of corporate accounting scandals, most notably involving Enron, Tyco and Worldcom.
Increase in Corporate Responsibility for Financial Reports
Section 302 of the Sarbanes-Oxley Act introduces the requirement for several certifications regarding periodic financial reports. The signing officers must certify that they have reviewed and approved the report, and that they have evaluated the company's internal accounting controls within the preceding 90 days, and reported honestly on their findings. Under Section 404 of the act, these findings must detail any uncovered control deficiencies or instances of employee fraud, and must also be reviewed and attested by the registered accounting firm. The authors of the report must certify that the report does not contain any false information, misleading statements or significant omissions, and that the financial statements and information included in the report accurately represent the financial condition of the company. Under Section 401 of the act, this representation must account for both balance and off-balance sheet debts, obligations and transactions in order to facilitate maximum transparency for shareholders.
Costs to Firms (and Investors)
A 2007 study on firms averaging nearly $5 billion in revenue found that the costs for compliance with the Sarbanes-Oxley Act averaged 0.036% of revenue. Repetitions of this study since the enactment of the law have shown that proportional costs to firms are falling steadily as they adapt to the new regulations. Still, strict regulations on balance reporting have led to relatively conservative earnings figures, naturally depressing stock values. Moreover, decentralized companies and smaller firms pay a disproportionately high price; companies with revenues under $100 million spent an average of %2.55 of revenues on compliance, taking a significant chunk out of profit, and, consequently, shareholder value.
Benefits to Investors (and Firms)
Studies conducted since the enactment of Sarbanes-Oxley have found that corporate transparency, as measured by the accuracy and dissemination of analyst earnings forecasts, has increased greatly in companies that comply with the law. By bolstering investor confidence, transparency benefits both the investor and the firm. Still, as recently as 2006, only 22% of officials surveyed indicated that benefits of compliance surpassed costs.
Criminal Penalties for Violation
Under Section 802 of the Sarbanes-Oxley Act, violations of the act are punishable by fine and/or imprisonment for up to 20 years. Additionally, under section 1107, any retaliation against whistle-blowing pertaining to the act is punishable by a fine and/or imprisonment for up to 10 years.
