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The Sarbanes-Oxley Act

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The Sarbanes-Oxley Act of 2002 was passed with a purpose of increasing reliability and accuracy of the corporate reporting, auditing and accounting practices and with the purpose of ensuring that there is an independence of securities analyst recommendations and advice. This federal law Sarbanes-Oxley act explains on the law of employment at will, where the employers have the right to fire employees for a good reason, a defective one or no reason at all. This law was to protect the corporate whistleblowers. In some cases, the corporations should use the restrictive covenants to limit the rights of employees who leave their work place for competitors. This will help companies to protect their confidential information from getting out of the company. Here, the employees have no right to leave the company at their own will so that they can go and work in another company. This is because they have signed a contract, and they must adhere to it.

The Act enhances disclosure requirements, creates new federal crimes, increases accounting oversight and corporate accountability, and increases the penalties to be imposed on the existing federal crimes. This helps in strengthening the accounting oversight and corporate accountability. The Act raises the standards of the corporate accountability and transparency. Jones, Day, Reavis & Pogue (2002) look into the details of the Act.

On corporate accountability:

  • There is a ban on loans to the directors and the officers. Personal loans to any of the issuer’s directors or executive officers are not allowed. There is an exemption, however, if they are to be made in the ordinary course of the issuer’s lending business on the terms that they should not be more favorable than those loans offered to the general public.
  • The principal executive officer and the principal financial officer must certify the periodic reports. This means that they must certify that they have reviewed the reports given to the SEC, and that the reports fairly present the issuer’s financial condition, they do not have any false statements or they have not left out material facts, and that the internal control standards are satisfied.
  • The CEO and the chief financial officer must forfeit any bonuses, profits and incentive-based and equity-based compensation made from the sale of securities received during the 12 months following the 1st release of the noncompliant reports. If an issuer is required to restate its financial statements because of misconduct especially if the certain misconduct led to material noncompliance with the reporting requirements.
  • The Act requires that each listed company’s audit committee oversees the accounting firm that the issuer employs, should be comprised only of members who are independent from the issuer, should have the funding and authority to engage independent advisors and that the committee develops the procedures relevant for handling auditing and accounting complaints.
  • The Act permits the SEC to prohibit any person who has previously violated the anti-fraud provisions of the securities laws from serving as an officer or director of an issuer.
  • The Act prohibits executive officers and directors of issuers from purchasing, transferring or even selling any securities during any blackout periods. Should the directors and the officers go ahead and trade during the blackout periods, the issuer has the right to recover any profits made.
  • The Act requires that the SEC should set minimum standards of professional conduct for the attorneys representing the issuers. These standards spell out that the attorneys should report any material violation of security laws or any breach of fiduciary duty.

On accounting and auditor regulation

  • All the auditors must retain their review and audit work papers and reports for five years after the fiscal period which the reports were completed.
  • The Act prohibits the auditors from providing some specified non-audit services to their clients such as legal services, management services, bookkeeping, tax services and other specified services brought forward by the Oversight Board.
  • The Act provides that there must be an audit partner rotation and so the lead auditing partners can only perform auditing services for the same issuer for five years or less.
  • It is illegal for the issuer to forcefully influence or mislead its auditors in order to render financial statements as misleading.
  • The Act provides that all auditors must timely report to the issuer’s audit committee on issues relating to the policies and accounting practices to be used in the issuer’s audit, and that their services must be approved.
  • The Act creates the Public Company Accounting Oversight Board that oversees all the auditing of the companies and establishes standards related to the preparation of audit reports. This board has the power to enforce compliance with the Act, conduct investigations and disciplinary proceedings, and enforce sanctions on the registered public accounting firms and their employees.
  • On the issue of conflicts of interest, a registered accounting firm should not perform any audit services for an issuer whose management was employed by the registered firm during the preceding the audit.

Case study

John Williams works for a new auditing corporation firm as an auditor. His duties and responsibilities includes; ensuring that the public records of the corporation are kept accurately, analyzing and communicating all the financial information for various entities, ensuring that the corporation pays the right taxes at the right time and to some extent, he offers budget analysis services for the corporation, some limited legal services, financial and investment planning services and some information technology consulting. As an internal auditor to the firm, he must look out for any fraud and mismanagement of the firm.  He is also responsible for reviewing the corporation’s operations, and ensures that they are compliant with the corporate policies and the government regulations.  

Since the corporation is new it does not currently have any SOX policy but it has to integrate one into its regulation systems. This is because being an auditing corporate firm; it has to comply with the SOX Act, meaning that it has to impose SOX policies into the corporation. The purpose of SOX policies is to communicate SOX internal controls provide a baseline for SOX improvement and build consistency in the corporation. The corporation should identify a target performance and thereafter communicate a series of actions to achieve the target. In other words, the corporation should identify the policy and come up with a procedure to achieve the policy.

The SOX policy should be tailored to should ensure that it contains several important parts relevant to the auditing firm. For this corporation, it can have a policy that sets out the procedures and conditions that will be necessary for the pre-approval audit and the non-audit services that are allowed to be performed by the independent auditors. This policy should contain several clauses covering on that: the pre-approval requirement, and disclosure which addresses on the issue of the audit and the non-audit services that can be provided by the auditors of the corporation. These services can only be approved by the audit committee; prohibited services in the corporation. The corporation should not engage any independent auditor to provide any service not allowed by the law; a clause addressing the disclosure of the pre-approval policies and procedures which provides that the corporation should publicly disclose the audit committee’s pre-approval policies and procedures. These are some of the clauses that can be tailored into the policy to ensure that the corporation is SOX compliant. However, these are not the only clauses applicable since the policy can be improved with time to ensure that it is effective in its procedures (McDonald’s, 2011).

For the company to be SOX compliant, it must be able to show that the information contained in their compliance audits is complete and accurate, it must be able to show that their quarterly and annual financial reports have been reviewed thoroughly, and that there has full disclosure of the procedure and controls through the same audits. It should also ensure that it reviews its policy annually just to ensure that it is being followed to the letter and to ensure compliance. This is the only way that the corporation will ensure that it is compliant to the SOX policies (WordSecure, 2007).

Should there be a case of any violations that take place in the corporation in regards to the policy that has been put in place, the SOX Act provides some clauses that deal with the penalties that the corporation can impose on the violators. These clauses cover several violations like: document alteration or destruction, false certification of financial reports, securities frauds, penalty enhancements which covers on the increase of maximum penalties and prohibition on practice before the SEC which addresses the fact that the SEC reserves the right to deny an auditor the privilege of practicing before the SEC. These penalties all have grave consequences since most of them have jail sentences or high fines. This is because the Act wants to ensure that the corporation does not deceive the public by producing financial statements that put the corporation in a better position thus attracting investors and other interested clients.

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