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May 20, 2004 (Wheaton, IL) Sarbanes-Oxley – SarbOx, or SOx.
By any name it’s the legislation passed by Congress in response
to the recent spate of accounting scandals that everybody loves
to hate. Since its inception, few words of praise have been written
about it. It’s enough to give the poor legislation an inferiority
complex. There must be something about SOx that we can learn to
love.
This legislation first appeared to be just another knee jerk over
kill on the part of Congress to show how tough they were getting
with miscreants. SOx is clearly negative in its concepts and its
message. As a result, everybody felt threatened and nobody was happy.
First in line to complain were the company CEOs and CFOs who are
now required to sign off on their financial statements as being
free of material error. The huge negative reaction begged the question
of whether these executives were in fact aware of what was recorded
in their own financial statements.
Next, the Auditing Profession felt the heat, some of it deserved,
much of it not. The media, most of whom have no understanding of
the audit process, have nevertheless labeled the accounting scandals
“audit failures” as if the Auditing Profession caused
them. Professional “failure” ranges from culpability
to downright negligence, but the factor causing such failure was
corporate malfeasance. Yet, it is the Profession that has been the
primary focus of this legislation. Complain they will, but they
might as well get used to it. For years, the Profession has fought
to avoid any form of attestation with respect to internal controls.
Such controls were considered so ill defined that any audit failure
would be viewed as prima fascia evidence of internal control failure.
Unfortunately, SOx has now put them in precisely in that position.
The SOx legislation has also replaced the Public Oversight Board
with the far tougher Public Company Accounting Oversight Board or
“PCAOB.” Having visited with the PCAOB, I believe that
the Profession has cause for concern. The PCAOB’s strategy
is to review completed audit engagements for evidence of failure
and then confront the firms with the directive to fix it, whatever
“it” is – “or else.” Considering the
power of the PCAOB to invoke a death sentence to a firm, their concern
is well founded.
The last group of unhappy campers is Registrant Boards of Directors,
especially the Audit Committee members. The reaction from this group
has been swift and intense. Much has been written about the difficulty
of finding board members, especially audit committee members because
of the heightened level of risk due to SOx requirements. They are
also complaining about the substantial increase in audit fees related
to the requirement to document corporate controls over the preparation
of financial statements. Again, their ire is focused on the Profession
as if it had caused the mess in the first place and had written
the SOx legislation.
With all constituencies now on record with their perceived concerns,
it is time to stop the collective whining and begin to understand
the benefits of SOx. Let’s begin with understanding the point
of the legislation. SOx wasn’t written to make CFOs, CEOs,
their boards and their auditors happy. It was written to protect
the credibility of the greatest capital formation process in the
world, one that is key to our economic wellbeing, and one in which
we all have a huge stake. It follows that its credibility must be
restored at any reasonable cost. Now for the benefit. In the process
of doing so, the ultimate winner will be you, me and everyone else
who depends upon credible financial information.
So, first to CEOs and CFOs, stop your whining. SOx has only reaffirmed
that which they well know – they are responsible for the fairness
of their company’s reporting. So, why the problem in attesting
to it? Are they suggesting that they lack the confidence to do so?
Well, if they don’t trust their controls over the preparation
of their financial reports, why should we? And why is it such a
major effort to define and document corporate controls over the
preparation of financial reports? Aren’t such controls in
place now?
Next to step up the plate must be the Auditing Profession. For
years, they have touted their expertise in risk management and internal
control. Now is the time to prove it. What greater value could the
Profession add than helping responsible companies improve the quality
of their financial reporting?
While they are at it, they could clean up their own risk management
processes. Their strategy must be to cooperate with the PCAOB to
define, implement, monitor and improve those controls that ensure
that audits are performed with the highest level of quality attainable.
Sitting back and waiting for the PCAOB to “catch” them
in a substandard audit is a risk that no responsible Firm CEO has
the right to take. The last firm that was “caught” is
now completing its liquidation.
Lastly, to my fellow board and audit committee members, I would
remind you that our fundamental responsibility is to provide oversight
with respect to the financial reporting of our companies, not minimizing
audit fees. For years, as an audit partner, I was frustrated in
the lack of attention paid by audit committees to the importance
of internal control. Fortunately, those days are gone – thanks
to SOx. To those complaining about the time it now takes to prepare
for meetings and understand complex transactions, one would ask
why they weren’t spending the time before. I am pleased to
serve on boards where we understand the challenges and willingly
address them. Those unwilling or unable to make a similar commitment
have no alternative but to resign in favor of those who are.
As a thirty year veteran of the Auditing Profession and the member
of several boards and audit committees, I applaud Sarbanes-Oxley.
It has raised the awareness of responsibility on the part of all
of us who, together, can restore public confidence in financial
reporting.
And the big winner? Each of us who has a stake in our great capital
formation process.
Patrick J. McDonnell is the President & CEO of The McDonnell
Company LLP, a firm that assists companies face the challenges of
change. He is a retired partner and former Vice Chairman Business
Assurance of Coopers & Lybrand. He serves on several public
and private boards and is the author of Everybody Wants To Go To
Heaven: 6 Steps to Organizational Excellence. His website is www.themcdonnellcompany.com.
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