Summary of the Overview

How the SOX Act Affects Senior Corporate Managers

They had specific changes made to their roles by SOX, they are required to:
 Certify that the company's financial disclosures accurately describe their current financial
condition.
 Relinquish any stock, bonus, or option that they received 12 months after giving out a
misleading financial statement.
 Report financial transactions much quicker than in the past, with a deadline of the second
day after the transaction.
 Disclose any off-balance sheet transactions made.
 Be more straightforward when it comes to pro forma disclosures.
 Include a statement on all annual reports that management is ultimately responsible for
coming up with, as well as implement and assess adequate internal controls.
 Announce whether or not the business has created an ethics code for their senior financial
officers, and if there isn't one, explain its absence.
 Prevent company loans to directors or officers of the company.
 Take action if a lawyer mentions that there has been a material violation of the law,
otherwise, the lawyer will report the infraction to the board of directors or audit
committee.
How the SOX Act Affects Audit Committees
The SOX act also creates new rules for a company's audit committee. These include:
 Requiring audit committee members to have no affiliation with the company in question
other than acting as an independent director.
 Giving the audit committee full responsibility for the oversight, compensation, and
appointment of each auditor.
 Allowing audit committee members to question and interview company auditors without
having any corporate leadership in the room.
 Making sure the audit committee creates guidelines to follow if there are complaints about
the audit process.
 Adding a minimum of one financially competent person to the committee.
 Prohibiting the receipt of consulting fees from the company the committee is investigating.
How to Create Good Corporate Governance
With these changes in mind, some of factors to consider include:
 Building a strong board of directors who come from varied backgrounds and bring a wealth
of knowledge to the table.
 Forming separate committees for disclosures, compensation, and auditing.
 Aligning compensation for officers and directors with the projected financial future of the
company.
 Creating and enforcing stringent codes of conduct for all staff.
 Hiring a lawyer to review all contracts before they are signed.
 Implementing new control procedures and policies that will keep your company's financial
records and books accurate.
 Insuring your business with all relevant coverage, including crime/fidelity, fiduciary liability,
D&O, miscellaneous professional liability, and EPL coverages.
 Introducing a system of checks and balances that will keep employees or outsiders from
misusing company assets.
 Disclosing any material matters to shareholders within a pre-established timeframe.
Benefits of Good Corporate Governance
Good corporate governance policies will keep you safe from legal prosecution according to SOX.
Other advantages are:
1. Making the company look less risky to investors, employees, customers, and more.
2. Making it easier to attract ethically strong employees, specifically when it comes to reducing
employee theft, regulatory fines, and litigation.
3. Increasing firm value by boosting sales growth and earning higher overall profits.

The Corporate Governance Objectives of the Sarbanes-Oxley Act

The primary objectives of SOX are to promote:
 Fairness to Shareholders - SOX requires or promotes governance provisions that protect
shareholder rights and allow shareholders to exercise those rights through governance
procedures, such as shareholder meetings.
 Fairness to Stakeholders - SOX requires or promotes governance provisions that take into
consideration the interests of employees, suppliers, buyers, and the local community.
 Heightened Director and Board Responsibilities- SOX places specific requirements on the
composition of boards of directors, including skill and independence requirements. Notably,
in an effort to promote director independence in decision making, SOX requires
corporations to employee committees for special purposes.
Example: SOX requires boards appoint an audit committee where all members are independent of corporate
operations (not officers of the corporation) with at least one financial expert as a member of the committee.
 Director and Officer Ethics- SOX imposes additional obligations on corporations to establish
and maintain ethical standards for officer and director conduct and decision-making.
Example: SOX prohibits the corporation from making personal loans to corporate executives or their families.
 Disclosure and Accountability- SOX places requirements on boards to increase transparency
in corporate governance practices. This includes implementing procedures for ensuring accurate
accounting practices and public disclosure mechanisms.
Note: SOX requires internal review procedures and independence of external auditors that report directly to
the corporations independent audit committee. Further, SOX requires that key officers of the corporation (the
CEO and CFO) certify the accuracy of the financial statements and that internal financial controls are in place
and subject to the independent audit committees review.
 Accounting and Disclosure Procedures- SOX imposed a number of reforms on the
accounting and financial reporting requirements of public companies. The primary
requirements are as follows:
o The Public Company Accounting Oversight Board (PCAOB) - SOX established the PCAOB
to regulate auditors charged with reviewing the accounting procedures and disclosure
statements of public companies.
Note: Prior to the establishment of the PCAOB, public company auditors were self-regulated or subject to
the standards imposed by private institutions, such as the Financial Accounting Standards Board (FASB) or
Americ an Institute of Certified Public Accountants (AICP).
o External Auditing Firms - SOX now requires that a firm in charge of auditing the
corporation refrain from serving as independent consultants to that same firm. This
includes refraining from bookkeeping, system designs and implementation, appraisals and
valuations, actuarial services, human resources functions, and investment banking services for
the audited company. Further, the corporation must change auditing firms at least every 5 years.
There are also restrictions on the ability of company executives to have worked for the auditing
firm within the prior year.
Note: Prior to SOX, external auditing firms could simultaneously serve as consultants to the corporation
that it is auditing. The created an inherent conflict of interest. Further, allowing corporations to employ the
same auditors for extended periods increased the likelihood that on-going, improper accounting practices
would not be discovered. Without periodically rotating in new auditors, there was no real check on the
accounting firm.
 Securities Regulations - Much of the regulatory process prescribed by SOX is carried out by
the Securities and Exchange Commission. SOX includes provisions that strengthen the ability
of the SEC to oversee corporate governance matters and enforce violations.
Example: SOX established a criminal charge for conspiring to commit securities fraud. It also increased the
criminal and civil penalties for committing securities fraud. SOX provides additional protections against
discrimination for those reporting conduct that violates the securities laws (whistleblower protection).
Major Provisions of the Sarbanes-Oxley Act
The SOX Act consists of eleven elements (or sections). The most important sections of the Act
are:
a) Section 302- Financial reports and statements must certify that:
 The documents have been reviewed by signing officers and passed internal controls within the
last 90 days.
 The documents are free of untrue statements or misleading omissions.
 The documents truthfully represent the company’s financial health and position.
 The documents must be accompanied by a list of all deficiencies or changes in internal controls
and information on any fraud involving company employees.
b) Section 401-Financial statements are required to be accurate. Financial statements should
also represent any off-balance liabilities, transactions, or obligations
c) Section 404-Companies must publish a detailed statement in their annual reports explaining
the structure of internal controls used. The information must also be made available
 regarding the procedures used for financial reporting. The statement should also assess the
effectiveness of the internal controls and reporting procedures. The accounting firm
auditing the statements must also assess the internal controls and reporting procedures as
part of the audit process.
d) Section 409- Companies are required to urgently disclose drastic changes in their financial
position or operations, including acquisitions, divestments, and major personnel
departures. The changes are to be presented in clear, unambiguous terms.
e) Section 802- Section 802 outlines the following penalties:
 Any company official found guilty of concealing, destroying, or altering documents, with the
intent to disrupt an investigation, could face up to 20 years in prison and applicable fines.
 Any accountant who knowingly aids company officials in destroying, altering, or falsifying
financial statements could face up to 10 years in prison.
Benefits to Investors
After the implementation of the Sarbanes-Oxley act, financial crime and accounting fraud
became much less widespread than before. Organizations were deterred from attempting to
overstate key figures such as revenues and net income. The cost of getting caught by the United
States Securities and Exchange Commission (SEC) had exceeded the potential benefit that could
result from taking liberties with the way that financial documents were presented.
Thus, investors benefited from access to more complete and reliable information and were able
to base their investment analyses on more representative numbers.
Costs to Businesses
While the Sarbanes-Oxley act benefited investors, compliance costs rose for small businesses.
According to a 2006 SEC report, smaller businesses with a market cap of less than $100 million
faced compliance costs averaging 2.55% of revenues, whereas larger businesses only paid an
average of 0.06% of revenue. The increased cost burden was mostly carried by newer
companies that had recently gone public.
Repercussions
Due to the additional cash and time costs of complying with the Sarbanes-Oxley Act, many
companies tend to put off going public until much later. This leads to a rise in debt financing
and venture capital investments for smaller companies who cannot afford to comply with the
act. The act faced criticism for stifling the U.S. economy, as the Hong Kong Stock Exchange
surpassed the New York Stock Exchange as the world’s leading trading platform for three
consecutive years

Summary of What the Sarbanes-Oxley Act does on corporate governance

1. Strengthening of public companies' audit committees- They gained new responsibilities,
such as approving numerous audit and non-audit services, selecting and overseeing external
auditors, and handling complaints regarding the management's accounting practices.
2. Changed management's responsibility for financial reporting- top managers personally
certify the accuracy of financial reports. Otherwise you are sent to prison or you give up
your bonuses or profits made from selling the company's stock.
3. Strengthened the disclosure requirement- Public companies are required to disclose
operating leases, special purposes entities, pro forma statements and how they would look
under the generally accepted accounting principles (GAAP). Insiders must report their stock
transactions to the Securities and Exchange Commission (SEC) within two business days as
well.
4. The Sarbanes-Oxley Act imposes harsher punishment for obstructing justice, securities
fraud, mail fraud, and wire fraud. The maximum sentence term for securities fraud was
increased to 25 years, while the maximum prison time for the obstruction of justice was
increased to 20 years. The act increased the maximum penalties for mail and wire fraud
from five years of prison time to 20. Also, the Sarbanes-Oxley Act significantly increased the
fines for public companies committing the same offense.
5. Section 404 of SOX Act, requires public companies to perform extensive internal control
tests and include an internal control report with their annual audits. The SOX Act has
encouraged companies to make their financial reporting more efficient, centralized, and
automated.
6. The Sarbanes-Oxley Act established the Public Company Accounting Oversight Board, which
promulgates standards for public accountants, limits their conflicts of interest, and requires
lead audit partner rotation every five years for the same public company.