More than one year after Congress passed the Sarbanes-Oxley Act as its answer
to corporate fraud and malfeasance, public companies are scurrying to mold their
financial-reporting methods to fit the new rules.
While major components of the law don’t take effect until next year, companies of various sizes are asking a similar question: “How much is this going to cost?”
There is no clear-cut answer, of course, because the cost of tightening financial reporting to meet the new standards will vary widely depending on a company’s size and past practices. But surveys seem to indicate that the new rules will be hardest on the little guys.
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“Larger companies with a well-established corporate reporting infrastructure are better able to handle the added certification and disclosure requirements,” said Frank Brown, global leader of Pricewaterhouse Coopers’ Assurance and Business Advisory Services, in a statement.
“For smaller companies, compliance has been more of a burden,” he said.
The beefiest component of the Sarbanes-Oxley Act is Section 404, which essentially calls on management to vouch for its internal controls for financial reporting.
It requires public companies to include an “internal control report” within its annual report, attesting to the soundness of its internal accounting controls. Also, the reporting company’s external auditor must attest to those controls.
The section also requires, among other mandates, that companies adopt a code of ethics for its senior financial officers.
The U.S. Securities and Exchange Commission gave companies a respite from Sarbanes-Oxley Section 404 compliance, which initially were set to take effect for companies whose fiscal years end on or after Sept. 15.
Those rules now will take effect for fiscal years ending June 15, 2004 for companies with market capitalizations greater than $75 million; April 15, 2005 for smaller companies.
The SEC estimates that it will take companies an average of 383 hours during the first year of gearing up to comply with the Section 404 rules (revised upward from its initial estimate of five hours).
Pricewaterhouse Coopers in July released a survey of U.S. multinational corporations that shows executives are divided over the costs of Sarbanes-Oxley. Fifty-six percent said initial compliance was not very costly while 44 percent said it was at least somewhat costly.
The survey says 76 percent of the cost of compliance is for extra internal resources, while 24 percent represents costs associated with outside services such as additional accounting and legal fees.
A separate survey seems to confirm Brown’s conclusion that small- and mid-sized companies are being hit harder.
A study by the law firm Foley & Lardner, reported earlier this year in New York Law Journal, shows that the costs associated with being publicly traded for mid-cap companies nearly doubled, to $2.5 million, less than a year after Sarbanes-Oxley was passed.
One industry that likely won’t be forced to absorb many extra costs, however, is the banking sector, which already has much tighter oversight than other industries, according to Merrill Sherman, president and chief executive officer of Bancorp Rhode Island Inc.
“These kinds of internal controls largely are in place for publicly traded banks, as a result of legislation passed after all the bank failures in the late 1980s and early 1990s,” Sherman said.
The Federal Deposit Insurance Corporation Improvement Act of 1991 requires banks to report “off balance sheet” items, for example. That is a key component of Sarbanes-Oxley, one aimed at protecting against the sort of smoke-and-mirrors accounting that inflated Enron Corp.’s financial statements and eventually led to its collapse.
BankRI has had to make minor adjustments to comply with the new rules, though. For example, Sherman and Chief Financial Officer Albert Rietheimer now must certify the bank’s quarterly financial statements and press releases.
It also has been forced to look beyond its external auditor, KPMG, when shopping for other accounting or consulting services, complying with a rule aimed at eliminating the risk of conflicts of interest with an auditor serving in a consultation role.
“That makes it inconvenient for us, but rules are rules,” Sherman said. “If we want additional help with services, we don’t go to KPMG, we’ve got to go to someone else.”
