Sarbanes-Oxley Examining the Real Cost

Sarbanes-Oxley

Examining the Real Cost of Sarbanes-Oxley Compliance: Justified Protection or Highway Robbery?

Though the Sarbanes-Oxley Act is not the only piece of regulatory legislation in effect for publicly traded corporations today, it is without question the most costly. Enacted in 2003 after a spate of "creative accounting" scandals and company failures cost investors billions of dollars, the Sarbanes-Oxley Act has been singled out by some as a major cause of rising corporate costs in the past decade (Engle 2009; Chang et al. 2009). Furthermore, the recent financial meltdown is proof positive that these regulations are not enough to guarantee even a modicum of shareholder safety; should the market choose to go down, then down it shall go, accounting irregularities or no. Many have wondered if the regulations imposed by the Sarbanes-Oxley Act are actually worthwhile to corporations and investors alike; the costs of compliance are considerable, and the added assurance that these regulations provide to investors seem negligible at best.

It has been suggested that the Sarbanes-Oxley Act was motivated more by political than economic expediency, coming quick on the heels of scandals and collapse at Enron, WorldCom, and other companies, and that the actual immediate and long-term effects of the various provisions of the Act were not investigated -- let alone understood -- before it was passed into law (Chang et al. 2009). On the other hand, investor confidence was measurably restored following the passage of the Act and the resultant change in regulations, achieving both a pragmatic and an esoteric benefit for the costs of compliance (Engle 2009; Chang et al. 2009). Other direct extrinsic benefits to corporations from compliance to the Sarbanes-Oxley Act are minimal, at best, and according to some it would take a lot more consumer confidence to pay back compliance costs.

This argument might not really hold much water, however, as increasing evidence suggests that despite the initial costs of compliance, additional costs in subsequent years when mandatory and proper provisions had already been in place are minimal (FEI 2008). Section 404 of the Sarbanes-Oxley Act has been the most costly section to comply with, and the most often publicly bemoaned for this fact, but in 2007 the average cost of Section 404 compliance for companies whose average revenues were well into the billions was one-point-three million for companies with centralized operations, and one-point-nine million for those with decentralized operations (FEI 2008). These costs are certainly worth noting, but when they make up significantly less than one tenth of one percent of a company's takings, it is difficult to see hoe these can be considered prohibitive. Costs were certainly higher in previous years, but their reduction suggests that the new regulations have become the new mode of business (Chang et al. 2009).

Engle (2009) also notes that the costs of compliance in both monetary and human terms are greatly reduced by a willingness to embrace the regulation as a tool rather than shunning it as a "necessary evil." Though stating the obvious, he says what many in the business world simply couldn't bring themselves to hear just over a year ago, namely that "smart managers approach compliance before there is a problem that impacts the company and its stakeholders" (Engle 2009, p. 18). The issues at Bear Stearns and Lehman Brothers could have been prevented with regulation, but those at Enron and WorldCom were exacerbated by outright fraud, and the regulations provided by the Sarbanes-Oxley Act would have prevented such egregious mistreatment and mis-management of the company and its shareholders.

Strangely, the detection and prevention of fraud is not a benefit often perceived in the regulations of the Sarbanes-Oxley Act by companies, though the number of corporate executives who do believe the Act is effective in this regard is nearing the fifty-percent mark (FEI 2008). There are other perceived benefits that corporations are reporting alongside their lowered costs of compliance, however; more than half believe that their companies' financial statements have been made more accurate by compliance with the Sarbanes-Oxley Act, and over two-thirds report that investor confidence has noticeably improved in the period following the Act's implementation (FEI 2008). Though events following the Financial Executives International survey have undoubtedly changed things considerably, the evidence suggests that all other things being equal, compliance with the Sarbanes-Oxley Act has not only cheapened immensely but has begun to pay itself back through increased investor confidence and thus easier access to greater quantities of public capital (Chang et al. 2009; FEI 2008).