By Michael Fox
Monday Sept 1st, 2003
Startribune, Business forum:

There has been quite a bit of discussion about the impact of the Sarbanes-Oxley Act on smaller public companies. There is no question that compliance places a disproportionate cost burden on smaller, publicly held firms. But it is a misperception that small firms don't need the oversight. There have been more than 1,000 SEC actions filed since 1996, and the vast majority have been against small capitalization companies. The Enrons of the world got the headlines, but misleading investors and shareholders has been endemic. No industry or class of company has been immune.

Indeed, Sarbanes-Oxley was overdue. Had it been in place nine or 10 years earlier, the entire Internet bubble might have been mitigated, if not avoided. Most certainly, the spirit that Alan Greenspan called "irrational exuberance" would have been tempered by a much more objective understanding of real business results and opportunity compared with the hype that drove stock prices to incredible multiples. The vast majority of companies inflating the Internet bubble were small-cap, and few if any could have withstood a Sarbanes-Oxley review.

                            Warnings heeded

                                  "Avaritia facit bardus -- Greed makes you stupid."

At a recent seminar on "White Collar Crime and Personal Responsibility," former Minneapolis City Council Member Brian Herron, said: "They talk about drugs, alcohol and sex, but they never talk about the seductive addiction to power and greed." Herron resigned from the council about two years ago after pleading guilty to extortion.

Greed is among the human frailties that government regulation in general and Sarbanes Oxley in particular aim to rein in.

A survey of 23 of the larger public companies under investigation showed the average CEO compensation of $63 million per year for a period when shareholder value plunged by a combined $530 billion and 162,000 workers lost their jobs. Pay for performance, indeed. Sarbanes-Oxley brings a sorely needed moral compass to U.S. corporations, large and small.

Complex yet simple

Like most legislation, Sarbanes-Oxley is complex. But the spirit of the law and its basic goals are simple and straightforward:

           • Fully independent public accounting. Public accounting firms must  
             avoid conflicts of interest and certify that reported financial information 
             does, indeed, reflect the state of the company.

           • True and complete disclosure. Disclosures must be complete and   
             clearly understandable, not in any way misleading investors.

           • Certification. The chief executive officer and chief financial officer are
             required  to certify, under potential criminal penalties for purposely 
             misleading, that information presented in corporate financial reports 
             does, indeed, accurately reflect the state of the company and that they
             have tested controls to assure accuracy.

There are several other key points -- whistle-blower protection, constraints on corporate loans to officers, increased power for outside directors, especially with regard to executive compensation and corporate audit, and requirements for corporate counsel to be proactive in compliance.

However, it is the CEO and CFO certification, with its substantial documentation requirements, that is drawing complaints about the costly compliance burden on smaller corporations.

The time to act is now. Originally the certification sections of the act (Sections 302 and 404) were to have gone into effect for fiscal year 2003 results. In June, the SEC extended the deadline one year for large-cap companies and two years for small-cap companies.

If you are whining about compliance and thinking of putting off acting because of this reprieve, take our advice: "get over it, and get with it."

Smart companies will use the added time to plan their action, solicit bids from competent specialists and move forward at a non-disruptive pace. They will reduce their overall cost, more thoroughly integrate compliance controls into their business practices and have ample opportunity to take advantage of process improvements that compliance review will suggest. They will make Sarbanes-Oxley a big win.

Think ISO 9002

The right strategy is to embrace Sarbanes-Oxley compliance as companies of all size have embraced ISO certification and documentation. The International Organization for Standardization, or ISO, is responsible for setting technical standards in many fields.

Sections 302 and 404 of the Sarbanes-Oxley Act implement ISO-like documentation and control procedures over a business's financial reporting. And, like ISO, they will pay dividends far beyond meeting the letter of the law. Here are some specific benefits:

           • Accurate internal audit . The act essentially requires the company to 
             have an effective internal audit system with controls, checks and  
             balances that assure the numbers reflect the state of the business.

            • More complete understanding of the corporate business model .  
              By the detailed examination, documentation and flow charting of 
              financial processes, executives will develop 
              a more intimate understanding of the relationships of key variables, be
              better able to understand their own financial reports and be more
              confident in their decisions made based on those reports.

            • Fraud deterrence . Fraud can and has happened in the most prestigious
              companies. Compliance results in a full examination of the control
              mechanisms and makes it difficult for any party to commit fraud without
              being detected.

            • Process improvement . An in-depth review of this nature will uncover 
              areas where things can be done better. Companies taking the lead in 
              compliance will find themselves with an efficiency advantage over
              laggard competitors.

            • Shareholder confidence . A compliant company will demonstrate  
              complete openness and honesty to its shareholders. 

            • Directors' and officers' insurance costs . It's been reported that
              some early Sarbanes-Oxley-compliant companies have received up
              to 20 percent reduction in proposed rates for directors' and officers'
              policies.

           • Lender confidence . No lender requires Sarbanes-Oxley compliance,
             but we expect it might become a part of loan covenants in the future.
             For now, however, a compliant company should have an advantage
             over a non-compliant company in applying for loans based on the
             credibility of their financial statements .

Makes everything easier

Like ISO 9002, Sarbanes-Oxley compliance makes a strong positive statement about your company to your vendors, lenders, customers, union and nonunion employees, and shareholders. It will facilitate mergers and acquisitions, speed the public offering process and make a strong case for partnership with government entities both as a vendor and as a potential applicant for tax-increment financing.

Compliance says, "What you see is what you get." And in today's spin-doctored world, that is a very strong statement indeed.

Face it -- non-compliance is simply not an option.

Michael Fox is president of Minneapolis  based Matrix Associates Inc., a consulting firm that specializes in business revitalization, corporate governance, fraud investigation and litigation support.  Matrix has helped "early adapter" public companies create the internal control and certification processes necessary to comply with the Sarbanes-Oxley Act.  His email address is mfox@matrixassociates.com