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Date Submitted: 07/26/2011 01:36 PM
Costs and Benefits of Sarbanes-Oxley
Costs and Benefits of Sarbanes-Oxley
1. Overview.
The 2002 enactment of the Sarbanes-Oxley Act (SOX) marked a significant milestone for corporate governance, which was the legislative response to a series of high-profile financial scandals. The intention of this act is to rebuild inventors’ confidence in the capital markets.
Like all regulations, SOX has the potential to bring both costs and benefits. The act has introduced major changes in both management’s reporting responsibilities and the scope and nature of the auditors’ responsibilities. At a direct level, the new legislation created new incentives for firms to spend money on internal controls and increased auditing fees. In exchange SOX promises a variety of long-term benefits. Investors will face a lower risk of losses from corporate fraud and theft, and benefit from more reliable financial reporting, greater transparency, and accountability. Public companies will pay a lower cost of capital, and the economy will benefit from higher efficiency in the security markets. However, the law’s full costs are hard to quantify, and the benefits are even harder to determine. Six years after its passage, Sarbanes-Oxley remains a work in process.
SOX has five main objectives: 1) to strengthen the independence of the auditors, 2) and the enforcement of the federal securities laws, 3) to enhance corporate governance, 4) to improve the quality and transparency of financial statements and corporate disclosures, and 5) to improve the objectivity of research (Linck, Netter and Yang, 2005).
2. History and context leading to the adoption of SOX.
A variety of complex factors created the conditions in which a series of large corporate frauds occurred between 2000 and 2002. The highly-publicized frauds at Enron and WorldCom exposed significant problems with conflicts of interest and incentive compensation...