The limitations of the Sarbanes-Oxley Act

USA Today (Society for the Advancement of Education), March, 2005 by Scott Green

The key is legislative restraint. Let the markets self-correct whenever possible, and legislate where business is incapable of self-policing or cannot meet society's safety objectives. It is likely that the work accomplished by CEOs and CFOs to certify their financial statements--with oversight from a newly invigorated and regulated accounting profession--met the stated objective of sound financial reporting before the implementation of Section 404, and did so efficiently. Other objectives, such as board independence, benefited from Congressional guidance. It is unlikely that the board of directors of public companies voluntarily would have increased their independence to the point they have without the passage of Sarbanes-Oxley.

Looking forward, it also is unlikely that many "Imperial CEOs," those who hold the positions of chairman of the board and CEO, will give one up despite the clear conflict of interest. Shareholder activists continue to put pressure on boards to increase their independence from management, but they tend to focus on larger companies and seem to be fighting on too many fronts to be effective. This is an example of where legislation, in the absence of all effective self-correcting mechanism, potentially could create needed structural change at reasonable cost. Competent, independent oversight of management will do more to deter fraud at small companies than a mandated system of internal control.

The response to the market timing frauds experienced in the mutual fund industry provides a lesson in restraint. Rather than rushing new legislation through Congress, cooler minds are waiting to gauge the impact of the SEC's response to the crisis. When the next scandal presents itself, we should continue to exercise legislative restraint. Confidence building, yes. Aggressive prosecution, yes. More independent supervision, yes. Layering extensive and costly requirements of marginal benefit on public companies, no. If we ignore the competitive threat in an irrational attempt to eliminate all corporate fraud, the ticking we hear may not be legislation's biological clock, but rather the sound of a well-meaning but dangerous weapon delivered to an important pillar of the American economy. Sarbanes-Oxley is good legislation. It could be better by being less. As long as there are fallible people at the helm, no amount of legislation can eliminate fraud from the nation's corporations. Let's not destroy our competitiveness trying.

Scott Green is director of compliance for the law firm of Weil, Gotshal and Manges, New York, and author of Manager's Guide to the Sarbanes-Oxley Act: Improving Internal Controls to Prevent Fraud.