SOX’s Ten Year Anniversary: What Are The Takeaways

» Posted in News & Resources

Wow, time flies, even if you’re not having all that much fun. The Sarbanes-Oxley Act (SOX) will “celebrate” its 10-year anniversary this July 30, 2012. Enacted in the aftermath of large scale corporate accounting scandals like Enron and WorldCom, SOX had the laudable goals of deterring accounting fraud and shoring up confidence in public companies’ financial integrity. But it was a controversial set of regulations that were passed back in 2002. It imposed a host of new duties and responsibilities on public companies, and at a considerable cost. Those of us in public companies at the time had a wide range of reactions, from outrage over perceived regulatory overkill to a shrug that SOX merely codified what were sound corporate governance practices. Your faithful blogger here will confess to being in the former group, having quipped at the time that history will judge SOX to be about as worthwhile as another regulatory debacle, Prohibition. 

Has SOX been worth it? Has the time, money and sheer effort poured into SOX compliance yielded the significant benefits it sought to realize? The real answer to the eternal cost-benefit question is debatable. However – and notwithstanding that cynical reference to Prohibition ten years ago – we do believe SOX has led to some significant, positive and likely long lasting corporate governance practices that benefit companies, both public and private. Our takeaways: 

SOX Led to More Independent and Engaged Boards of Directors – Perhaps one of the most significant impacts of the SOX regulations has been on Boards: their composition, independence and interaction with management. Boards that consisted of pals of the CEO, meeting infrequently to rubber stamp whatever management proposed, and then heading off to a nice dinner – those Boards received a jolt. In the wake of SOX, Boards have to – and do – take a hard look at their composition and whether individuals meet the criteria of the statutorily defined “independent” director. Boards now value directors with technical expertise in the company’s core business and/or with valuable accounting and governance experience. SOX also imposes additional responsibilities on Boards to oversee management, especially Audit Committees. This in turn has empowered Boards and led to an important and perceptible attitudinal shift over the last decade: the Board is the top of the totem pole and management works for the Board. A Board of Directors in 2012 is more likely to consist of individuals with no loyalty connection to management, possess a high level of technical expertise, and be willing to exercise their independence by actively challenging and overriding management when necessary. This is due in no small part to SOX’s influence.

SOX Put More Emphasis on Sound Corporate Governance – SOX requires public companies to disclose their corporate code of ethics or explain why they don’t have one. In 2002, companies immediately adopted a Code of Conduct in order to comply. But many if not most companies did more than just the bare bones of disclosing a policy. Those companies began to evaluate all their corporate governance practices, embrace a culture of meaningful compliance and – perhaps most importantly – devote more time, people and resources to instilling best practices. Today, there is a constant emphasis on and evaluation of best corporate governance practices – it plays a prominent role in many companies. And it is certainly fair to say that SOX helped put that development in motion.

SOX Changed the Role of In House Counsel – Prior to SOX, most in house lawyers recognized that their careers largely rested on how they were perceived by the CEO and senior management. SOX imposed certain requirements on in house lawyers with respect to reporting and investigating potential fraud. As a result, in house counsel began to focus more on their role as a lawyer on behalf of the entity as a whole, rather than certain key individuals. SOX clarified that the client was that amorphous entity called a “corporation” and all its stakeholders. SOX also initiated the evolution of the role of in house counsel from pure advocate on behalf of the entity to something akin to a gatekeeper, obligated to be on the watch for, and then report, fraud or material wrongdoing. And not least of all, SOX demands that in house lawyers be more savvy about more topics such as financial information, compliance and internal reporting. In short, things got more complicated for in house lawyers, which can be a good thing provided they are commensurately empowered to act on behalf of the company.

SOX Has Had a Positive Impact on Private Companies – SOX applies only to public companies but its impact on private companies has been substantial. SOX has raised the bar for private companies regarding what is considered the norm for corporate best practices. Many companies voluntarily elect to implement some of the SOX provisions because it makes good business sense to do so and/or because other interested parties such as potential acquirers or sources of financing expect to see some SOX-like provisions in place. Again, the strengthening of corporate governance among private companies is a benefit of SOX.

In short, we have no answer to the question of whether the overall benefits of SOX have been worth the substantial cost of complying with the regulations. But we do stand corrected: SOX has not been as disastrous as Prohibition. There have been some very positive developments with respect to corporate governance that SOX put into motion back in 2002, so credit where credit is due. (But don’t get us started on Dodd-Frank!)