SOX News

Compliance Week Benchmarking Report: Corporate America Making Strides on Sarbanes-Oxley Compliance

(Nov 26, 2007)-- Compliance Week, a magazine and newsletter on corporate governance and compliance, today announced the results of a study of financial reporting and corporate risk areas across a wide range of industries. The results show that Corporate America is making marked improvements in regulatory compliance despite persistent problems.

The “2007 Financial Reporting & Internal Control Benchmarking Reports” are available to members of the press on a limited basis.

The same issues that dogged companies when The Sarbanes-Oxley Act first came into effect three years ago—poor documentation of accounting procedures, insufficiently trained accounting and finance staffs, and difficulty closing the books at year-end—still flummox companies as they try to comply with SOX today. But the total number of such “material weaknesses,” which must be disclosed under Section 404 of the law, has plunged from 537 such disclosures in “Year One” to only 173 in “Year Three.”

Major Findings

* Better Early Warning. Across all industries, companies are reporting fewer weaknesses in their internal control over financial reporting, as disclosed under the annual Section 404 disclosure. Correspondingly, they are reporting more weaknesses under the quarterly Section 302 disclosure. “Companies are doing a better job identifying problems on an interim basis and fixing those problems before the 404 filing at the end of the year,” said Kelly.
* Fewer SOX-Related Late Filings. More companies are filing their financial statements late, primarily because they are planning to restate those financial results. However, the number of late filings that cited difficulties complying with Sarbanes-Oxley has fallen from 21 percent in 2004 to only 6 percent in 2006.
* Restatements Decreasing Among Large Firms, but Up Overall. The number of financial restatements is rising for most industries; however, the numbers are somewhat deceiving. First, the increase has been caused primarily by smaller public companies, not the larger companies that are already in compliance with the internal control provisions of Sarbanes-Oxley. Second, a wave of restatements related to lease accounting in 2005—fueled by a letter from the SEC’s former chief accountant to the AICPA—contributed to the increase. In all, restatements among large companies are actually decreasing.
* Top-Performing Industry. The financial services industry was the best-performing industry studied by Compliance Week. During the period studied, companies in that industry showed a declining number of restatements, fewer Section 404 weaknesses, and fewer late filings than other industries. Companies in the Energy & Utilities industry, however, saw less frequent enforcement and pending material litigation.
* Audit Fees. Smaller companies pay higher audit fees, as a percentage of revenue, than their larger brethren. Companies with less than $1 billion in revenue, for example, pay audit fees that are equal to 0.306 percent of revenue; companies with more than $1 billion in revenue pay audit fees that are equal to only 0.053 percent of revenue.
* Vertical Impact. The reports quantify the impact of well-known accounting problems, such as backdated stock options or faulty lease accounting, in specific industries. When lease accounting erupted as a point of concern in 2005, for example, it was mentioned in 78.6 percent of the restatements of companies in the retail industry; however, it was mentioned in only 19.3 percent of all other restatements. Similarly, revenue recognition proved especially troublesome for companies in the telecommunications equipment industry, which must grapple with complicated rules regarding when companies can book sales.

“Companies will find myriad uses for these benchmarking reports,” said Kelly. For example, some companies will discover they are plagued by chronic problems that do not impact their peers. “These research reports can start executives at those companies on a path to understanding and addressing those hidden risks.”

The reports were published to help boards of directors and corporate financial and legal executives understand the types of issues most prevalent among peer companies and to help them gauge whether those problems present a greater risk to the industry generally and them specifically. Audit fees, D&O turnover, and other metrics were included in the reports, so companies could ascertain whether there were correlations between, for example, restatements and higher audit fees, or CFO turnover and internal control weaknesses.

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