Sarbanes Oxley

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Effect of the Sarbanes-Oxley Act on the Accounting Sector

Because of the high-profile controversies in the accounting sector, the US legislature passed legislation to reform the sector. The Sarbanes-Oxley Act of 2002 enabled several reforms in the relationship between company clients and their competent accountants. The act has influenced how municipal accountants participate in other specialized accounting services (Ge, Koester & McVay, 2017). The law has an effect on the public sector by causing a financial system revolt. One of the most significant reforms brought on by this act was the establishment of the Public Company Accounting Oversight Commission, as well as the assessment of individual responsibility of board members, executives, and auditors as well as enhances disclosure. Additionally, it enabled the establishment of Section 404, which provide for the internal control procedures (Gu & Zhang, 2017). More importantly, the act has had a series of impacts on the accounting profession and business.

Impact on Corporate Governance

The Sarbanes-Oxley act has caused significant effects on the corporate governance in the country since it has enhanced the audit committees in all public organizations. The audit committees acquire extensive leverage in the supervision of accounting decisions of top management in a firm (Harris, Kinkela, Arnold & Liu, 2017). The members of the audit committee should be independent of the highest executive and assume new tasks such as providing approvals to a wide range of non-audit and audit services, overseeing and selecting external auditors, and management of complaints related to the management of accounting practices in the company (Ge, Koester & McVay, 2017).

Impact of Section 404

Section 404 of the Sarbanes Oxley Act has led to profound impacts in the corporate accounting. The section demands that public firms must conduct widespread internal control assessments and attach an internal control document with their yearly audits (Hoag et al., 2017). Documenting and testing automated and manual control in monetary financial reporting demands enormous participation and effort not only from specialized IT experts but also from external accountants. For this reason, the changes have increased the cost burden on public organizations (Albuquerque & Zhu, 2017). The cost of compliance is normally cumbersome for organizations that heavily depend on manual controls. Furthermore, the Sarbanes Oxley Act motivated firms to make their monetary documenting more automated, centralized, and efficient (Harris, Kinkela, Arnold & Liu, 2017).

Impact on Management and Financial Reporting

The legislation has affected the role of management in the monetary reporting. The Sarbanes Oxley act makes it mandatory for the top executive to personally confirm the correctness of financial reports. Such mechanisms have also improved compliance. In case a top executive wilfully or knowingly provides a false certification, s/he is liable for imprisonment of 10 to 20 years (Ge, Koester & McVay, 2017). On the other hand, if the organization is compelled to develop a compulsory accounting restatement owing to the misconduct of management, the senior executives can be obliged to deliver their profits or bonuses after selling the stock of the firm. Furthermore, in case the officer or director is imprisoned due to violation of security law, s/he can be banned from working in the similar capacity at the public entity (Gu & Zhang, 2017).

Enhanced Disclosure Conditions

The law substantially enhances the disclosure conditions. The listed firms are supposed to disclose any item off-balance sheet preparation such as special purpose entities and operating leases (Hoag et al., 2017). The corporate is also demanded to reveal any pro forma records and the manner in which they would appear pursuant to the generally accepted accounting principles (GAAP). In addition, insiders should report their stock dealings to the Securities and Exchange Commission (SEC) within 48 hours (Albuquerque & Zhu, 2017).

Penalties and Corporate Governance in Listed Organizations

The Sarbanes Oxley (SOX) Act enforces punitive penalties for wire fraud, mail fraud, securities fraud, and hampering justice. Such mechanisms have also improved compliance. The act establishes stringent penalties for persons who are reluctant to give information on fraud, engage in security fraud, or destroy documents (Harris, Kinkela, Arnold & Liu, 2017). The highest imprisonment term for securities fraud was updated to 25 years while crime related to hampering justice was raised to 20 years. The statutory provisions also amplified the maximum sentence for wire and mail fraud to 20 years from five years imprisonment. A person involved in the destruction of crucial documents, which can help in bankruptcy or federal investigation, is liable for a jail term of 20 years (Gu & Zhang, 2017). Moreover, the regulation substantially raised fines for public firms engaged in such malicious actions or offenses. Additionally, it also offers avenues to safeguard the safety of corporate whistle-blowers. Similarly, it abolishes personal loans to top management and bans insider trading, especially in blackout moments (Hoag et al., 2017).

Standardization and Automated Financial Controls

In terms of corporate governance in listed organizations, the legislation created the Public Company Accounting Oversight Board, which disseminates ideals for public accountants and restricts their conflicts of interests. The oversight board will also be required to investigate the auditors and audits of the listed organization (Harris, Kinkela, Arnold & Liu, 2017). Similarly, it has powers to sanction both individuals and firms for violations of rules, regulations, and laws. It also demands that the lead audit colleague should be rotated after five years when serving in the same public organization. Empirical evidence highlights that the introduction of the SOX act has helped in standardization of processes. In this regard, it helps to address inconsistencies witnessed in different departments (Ge, Koester & McVay, 2017). For instance, most organizations now develop amalgamated financial statements.

Reduction of Human Error and Improved Financial Reporting

The automation of financial controls has played an important part in the reduction of human error in financial reporting. The legislation minimized the use of manual processes but instead encouraged the utilization of automated controls (Albuquerque & Zhu, 2017). Manual processes are vulnerable to human error because human actions may be malicious, stressed, distracted, or fatigued. Fortunately, when automated controls are effectively planned and executed they reduce the pitfalls associated with the manual system (Gu & Zhang, 2017). Therefore, the automated process increases reliability and improves security because they cannot permit unauthorized activities or modifications. The legislation is also associated with enhancing the weak links in the company since they must verify partners and other third parties before engaging them. For this reason, most of the accounting organizations and customers are re-evaluating their subcontracting partnerships and arrangements (Harris, Kinkela, Arnold & Liu, 2017).

Benefits and Drawbacks of the Sarbanes Oxley Act

Research has indicated that businesses have benefited from the enactment of the Sarbanes Oxley Act. For instance, they have been able to utilize data to evaluate organizations more successfully. Additionally, the executives of many companies in the country have enhanced the internal processes (Hoag et al., 2017). Likewise, internal control assessment/testing has turned out to be more cost-effective. The legislation has also contributed in improving investor confidence since it has reduced cases of financial fraud. Furthermore, many organizations benefit from improved financial reporting (Albuquerque & Zhu, 2017).

On the contrary, the implementation of Sarbanes Oxley Act has played a key part in raising the fees of auditing, which adversely affects small businesses. Due to the introduction of external auditing, public companies have to pay a huge amount of money to retain their rating with the Public Company Accounting Oversight Board (Hoag et al., 2017). The board also demands that public accountants must retain certain on-going professional training associated with the contemporary legal requirements and accounting standards. In this regard, most of the accounting companies normally pass these charges to their customers so that they can remain sustainable and profitable (Gu & Zhang, 2017).

The Sarbanes Oxley Act has also forced accounting firms to reduce the amount of services provided to a single customer. The law precisely reduces the duties of public accounting to facilitate professional association at every moment between clients and public accountants. Business owners are obliged to use one accountant for tax advisory and another external auditor general accounting operations (Ge, Koester & McVay, 2017). Most of the businesses are unable to hire more than one accountant to meet the legal stipulations. Additionally, the business operations in the small firms necessitate the hiring of many accounting personnel to satisfy the legitimate guidelines. The Sarbanes Oxley Act mandates organizations to execute a robust separation of accounting responsibilities. The segregation mechanism ensures that the workers in the firm are not supposed to undertake extensive accounting operations (Gu & Zhang, 2017). For instance, an employee should not be involved in writing deposits, register drawers, and count cash. In so doing, it eliminates chances of an individual to embezzle the organization resources without being identified instantly.

Conclusion

Since the enactment of the Sarbanes Oxley Act of 2002, a wide range of impacts have been witnessed in the business or accounting industry. The act was designed to seal the loopholes in the financial sectors, which have been utilized to defraud customers and investors (Harris, Kinkela, Arnold & Liu, 2017). The legislation has played a key part in improving the corporate governance of these institutions. In addition, it has enhanced audit committees and established individual liability of executives (Ge, Koester & McVay, 2017). It has also enhanced disclosure and severer criminal penalties for fraudsters. Consequently, it has promoted compliance, reduces human error, and strengthened standardization. Nonetheless, it has led to a high cost of accounting and operating costs, especially among small businesses.

References

Albuquerque, A. M., & Zhu, J. L. (2017). Has Section 404 of the Sarbanes-Oxley Act Discouraged Corporate Investment? New Evidence from a Natural Experiment.

Ge, W., Koester, A., & McVay, S. (2017). Benefits and costs of Sarbanes-Oxley Section 404 (b) exemption: Evidence from small firms’ internal control disclosures. Journal of Accounting and Economics, 63(2), 358-384.

Gu, Y., & Zhang, L. (2017). The impact of the Sarbanes-Oxley Act on corporate innovation. Journal of Economics and Business, 90, 17-30.

Harris, P., Kinkela, K., Arnold, L. W., & Liu, M. (2017). Corporate Accounting Malfeasance And Financial Reporting Restatements In The Post-Sarbanes-Oxley Era. Review of Business and Finance Studies, 8(1), 41-48.

Hoag, M., Hoag, M., Myring, M., Myring, M., Schroeder, J., & Schroeder, J. (2017). Has Sarbanes-Oxley standardized audit quality?. American Journal of Business, 32(1), 2-23.

December 15, 2022
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