Evaluating the effectiveness of the Sarbanes-Oxley Act
The Sarbanes-Oxley Act was passed amidst numerous oppositions from different players in the accounting sector. The Act was meant to regulate financial auditing which was marred by irregularities. Nonetheless, the Public Company Accounting Reform and Investor Protection Act has vehemently failed to fulfill its intended factions. Analysts have spotted the challenges faced by small and middle-sized companies while trying to adjust and comply with this new regulation on financial accounting controls (Thomas, 2002).
Many feel that the regulation has brought a rigid burden to the companies other than solving the looming irregularities in financial accounting. With reference to section 404 of the regulatory Act, companies are required to conduct both internal and external audits of their financial accounting controls (John & Marano, 2007). Although the burden occurring because of these regulations are unintended, their impacts have adverse effects on the economy of the United States of America.
The compliance cost of this Act is a challenge to many companies since having both internal and external audits is expensive and time-consuming (John & Marano, 2007). Going by these facts, this particular regulation has not been one of the best. Therefore, its effectiveness in minimizing corporate fraud and protecting investors is negligible. The implementation of Section 404 is based on a previous legal suit against the Arthur Andersen Corporation among other audit companies.
Therefore, through implementation, these companies seek to protect auditors from a future recurrence of the same as well as shielding them from the growing criticism that they are performing poorly in their jobs (Arens, Elder & Beasley, 2010). In addition to that, the cost of implementation is not evenly spread to accord an equal playing ground to both the big and small firms (Thomas, 2002). The cost impact is very high on smaller companies than in bigger ones and consequently, the intention to protect investors is undermined.
The impact of the Sarbanes-Oxley Act on audit firms and public accounting
The Public Company Accounting Oversight Board is mandated to regulate the audit firms in a bid to stop or reduce corporate frauds (Schwartz, 2006). The formation of this particular regulatory board has a number of impacts on the auditing profession as well as the entire public accounting. The most significant impact of the PCAOB is that it sets the standards that will govern the way audits are conducted in the United States. The PCAOB performs research to identify the potential areas that require regulation and they compile a standard to be followed in response to such an issue.
The PCAOB also conducts an annual inspection, which is a very positive procedure to improve the quality of auditing (Thomas, 2002). Annual inspections improve the quality of the financial statements provided by audit firms hence improving the entire public accounting profession. The mandate to regulate the audit firms and public accounting give the oversight board the authority to take disciplinary measure against parties who go against the set standards. This helps in forcing the players to stick to the set guidelines hence improving financial accounting in public companies and reducing the chances of corporate fraud.
A regulation such as the Sarbanes-Oxley Act has increased the scope of the audit committees by requiring all the companies that are listed on the stock exchange to set up audit committees (Koehn & Vecchio, 2004). The Act’s requirements have presented a challenge especially for smaller public companies listed on the stock exchange market. For instance, the Act requires all the audit committees to be independent and not to be in any way affiliated with the company. This presents a major financial challenge for most companies. Audit firms will be forced to use extra finances to put up independent audit committees, which is an extra burden for the majority of the firms.
Self-regulation versus government regulation
With regard to the Sarbanes-Oxley Act of 2012, I believe that auditing firms are better off when self-regulated than when regulated by the government. The recent scandals in the auditing industry may have serious implications on investors’ confidence in the public market. Nonetheless, the current regulation has not done much to solve the problem. Although the Act was in good faith to and meant enhance transparency in financial accounting, its effects on the public market are unacceptable and unjustifiable. The disproportionate auditing expenditure burden is outrageous.
Self-regulation is the best since the federal authorities are very ignorant of some fundamentals in public accounting. The Sarbanes-Oxley Act is a perfect example of how ignorant the government can be in matters that affect the players in the industry. If they were allowed to regulate themselves, such blind burdens on auditing firms would not occur at all. Research shows that more small firms exited the public market immediately after the enactment of the regulatory Act (John & Marano, 2007). This has had financial repercussions on the entire economy. Although the regulation has brought openness hence reducing the risk of financial frauds, the companies exiting from the public market are a major loss compared to the risk of frauds.
The government regulation board is not keen to evaluate the implications of its regulations in terms of liability insurance costs, retraining of staff as well as the rising liability risk (Prentice, 2005). These kinds of ignorance on matters that are detrimental to the financial muscles of a company are expected to reoccur in other regulations since the federal regulators have their own priorities, which may conflict with investors’ interests. Based on these facts, my honest opinion is that regulation should be left in the hands of the auditors since they understand their own problems better.
Corporate fraud may remain the same
The Sarbanes-Oxley Act may not fully address the issue of corporate fraud since its implementation has already led to firms exiting from the public market. A good regulatory measure should not act as a factor that limits the very existence of the regulated businesses rather it should govern and bring sanity in the business’ operation. Corporate fraud may not increase because of the Sarbanes-Oxley Act, but certainly, the regulation will not reduce such cases either. My assumption is that the status quo will be maintained and fraud risks will still be a threat to the economy in the United States.
The cost of implementing this regulation is very high and many firms will not be able to finance such costs for long. The impact is already being seen in the public market where firms are exiting. The penalties imposed for contravening this regulation are too dire and companies are scared to be trapped in a scandal that can lead to great financial loss. Suppose most of the companies exit the public market, the corporate fraud risk will still be at the same level therefore the regulation may not be effective in reducing risk.
Arens, A., Elder, R.J., & Beasley, M. (2010). Auditing and assurance services: 2010 custom edition (13thed.). Upper Saddle River, NJ: Pearson Education.
John, D., C. & Marano, N., M. (2007). The Sarbanes-Oxley Act: Do We Need a Regulatory or Legislative Fix? Web.
Koehn J., L & Vecchio, S., C. (2004). Ripple Effects of the Sarbanes-Oxley Act. Web.
Prentice, R. (2005). Student Guide to the Sarbanes-Oxley Act. London, UK: Thomson Learning.
Schwartz, S., L. (2006), The Chilling Effect of Sarbanes-Oxley: Myth or Reality, CPA Journal, 76(6), 14-19.
Thomas, C.W. (2002). The Rise and fall of Enron, Journal of Accountancy, 193(4), 41-47.