Assess the Effectiveness of Sarbanes-Oxley Act of 2002 Legislation

Introduction

Sarbanes-Oxley Act (SOX) of 2002 is a federal law in the United States enacted with the objective of imposing standards in pubic accounting (Romano, 2005). The goal of SOX is to ensure that public companies, as well as their management, follow the new accounting standards. The new law is attributed to Senator Paul Sarbanes and Representative Michael Oxley. SOX ensure that managers in public institutions certify the accuracy of financial reports. Failure to submit accurate financial information or acts of fraud attracts a hefty penalty. The enactment of SOX was based on the need to increase independence of external auditors who review financial statements in public corporations. In addition, the intention of SOX enactment was to increase the board of directors’ scope of responsibility. Nonetheless, SOX enactment was sparked by an increase of corporate and accounting frauds. In order to increase public confidence in investing in the United States security markets, the enactment of SOX was inevitable. SOX contain 11 sections with provisions on corporate board responsibilities, auditors’ independence, financial disclosure, corporate governance, as well as criminal penalties. While signing SOX into law, President George W. Bush argued that the Act was incredibly essential in reforming business practices in the United States. The success of SOX enactment in the United States has since been replicated in other countries such as Canada, Germany, France, South Africa and India. However, debate of whether SOX has been effective in controlling accounting practices, as well as improving the United States international competitiveness has continued over the years.

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Ethical components

There are five ethical components related to SOX. In this context, the components include honesty, full and fair disclosure, compliance with laws, internal reporting and accountability (Canary & Jennings, 2008; Hall, 2012). The SOX code of ethics for senior financial officers is consistent with the requirements of the Securities and Exchange Commission (SEC). Therefore, this code of ethics applies to the Chief Executive Officer (CEO), Chief Finance Officer (CFO) or an official with similar functions. In addition, this provision requires senior officers disclose a company’s code of ethics by exhibiting the same through annual reports and the organization’s website. It is also necessary to disclose the code of ethics through copies of the same upon request. The code of ethics urges senior financial officers to address issues such as conflicts of interest, disclosure, legal compliance, internal reporting and accountability (Hall, 2012).

A code of ethics on conflicts of interest outlines procedures to follow in case personal and interpersonal relationships affect the outcome of a financial deal (Hall, 2012). In this regard, full discloser of interest in regard to the business deal in question is required. On the other hand, issues of full and fair disclosure are considered ethical by SOX. In this regard, disclosure of the financial report to SEC and the public should be fair, accurate and timely. In addition, SOX code of ethics requires that employees in public organizations observe governmental law, rules and regulations. In this regard, employees in public organizations require proper training and guidance (Hall, 2012). Moreover, SOX advocates for internal reporting to be included as an ethical issue especially in regards to violations of the same code. From this perspective, SOX encourages and protects whistle-blowers by designing confidential systems such as employee ethics hotlines (Dworkin, 2007). SOX regard accountability as part of a critical ethics program in public organizations. Therefore, proper procedure in receiving, retaining and treating information on ethical violations and disciplinary measures is critical to accountability.

Social responsibility implications

The mandatory publication of corporate ethics as envisioned in SOX has consequences. For example, there is an increase of strong leadership in corporate social responsibility (Rezaee, 2008). In addition, employee training and supervision by board of directors is prioritized. Moreover, ethical practices are given priority, as well as reduced acts of bribery and corruption in public corporations.

The transparency accrued from publication of corporate is integral in promoting effective organizational governance structures (Rezaee, 2008). Through transparency, the ethical principle of accountability is observed to the letter. In this context, business environment that attracts partners and public interest become beneficial to corporations. Another implication achieved from publishing ethics is the change of corporate practices. For example, improved interrelationship practices between the managers and employees, suppliers and the society is realized.

Understanding corporate opportunities and risks can be revealed through publication of ethics. For example, corporations evaluate whether funding of some business operations violates human rights (Rezaee, 2008). In addition, transparency through publication of corporate ethics attracts public debate and criticism. Precisely, criticism on environmental, energy and economic issues is considered part of transparency. Moreover, the benefits of accumulating knowledge, criticism of business processes and establishment of structure and practices that benefit the society are rendered necessary through publishing of ethics.

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The mandatory publishing of corporate ethics will encourage organizations to prioritize environmental issues. In this regard, corporations will be inclined to preserve the environment to ensure sustainable development is met. It is within the interest of corporations to ensure there are enough resources for future generations. In addition, mandatory publishing of corporate ethics is critical in ensuring resources are used efficiently. In fact, the resultant environmental impact is that an organization is likely to pay less tax by minimizing its dependence on natural resources. Interestingly, a major social implication is that corporations invest heavily on human capital especially in employee training.

The effectiveness of accessing information on social and environmental issues is made possible through publication of corporate ethics (Rezaee, 2008). From this perspective, avoidance of corruption among corporate leaders is likely to influence new governance practices. Nevertheless, establishment of long-term relationships between managers and elements of the supply chain will ensure sustainability of the ecosystem.

Small organizations

The burden of implementing SOX in small organizations is unfair (Gates & Leuschner, 2007). Although SOX is depicted as a necessity in improving public accounting, as well as private financial management, there are challenges hindering the implementation of the same in small organizations. These challenges range from lack of necessary personnel to increased costs.

For SOX to take effect, segregation of accounting functions requires hiring of several competent personnel (Gates & Leuschner, 2007). In this context, a single financial controller or officer is not overwhelmed by too many accounting functions. The idea of limiting functions to one personnel is to avoid embezzlement of funds and forgery of financial reports. From this perspective, small firms do not have the capacity to hire several accountants for the different functions. In addition, SOX legislation requires that an organization hire an external auditor. Therefore, a higher auditing fee is a challenge to small organizations. It is difficult for small organizations to hire one public accounting firm for services. In fact, this limitation is consistent with SOX legislation that urges organizations to use more than one public accounting auditors. In order to meet requirements of SOX legislation, small organizations incur additional costs. For example, establishing internal controls within a small company is extremely costly considering that using a professional accountant is mandatory. It is illogical to conduct internal auditing using one external auditor when financial reports can be handled internally. From this perspective, few managers in small organizations commit their time in establishing SOX initiatives. The consequences of SOX in small entrepreneurial companies are irrelevant compared to large corporations. Due to lack of sufficient resources in small organizations, as well as time constraints, external auditors do not provide adequate guidance. In this regard, many challenges especially in documentation become an issue for small firms.

The compliance of SOX legislation has increased the burden on small public companies. Perhaps, this explains why most of the small companies opt shifting to private business (Gates & Leuschner, 2007).

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Improvement of the SOX legislation

Ensuring that the code of ethical conduct is treated as an affirmative duty of the executives is critical, especially for purposes of promoting good practices in public and private organizations (Grunendahl & Will, 2006). In addition, SOX legislation should review its concern over code of ethical behavior by ensuring employee orientation and training is mandatory. In this regard, a code of conduct should be published and presented in written form. The SOX legislation that promotes whistleblowers and disclosure require a hotline to address complaints without reprisal (Dworkin, 2007). The legislation should legitimize the use of rewards for genuine whistleblowers. The SOX should categorically state that the principal financial officer together with the CEO should meet with the audit committee quarterly to review reports, as well as make key decisions in regard to budgetary estimates and disclosure issues (Grunendahl & Will, 2006). For SOX legislation to be effective, the SEC should establish an independent oversight body to monitor public accounting firms without any interference. However, independent oversight body should be comprised of competent accountants and financial advisors, uninfluenced by public accounting firms.

The proliferation and influence of independent auditors through non-audit services should be restricted through a SOX provision. Therefore, this is to ensure that the legislation on the conflict-of-interest provides a new dimension on how internal audit is conducted. For example, internal auditors are to use computer systems in collecting and reporting of the same services (Grunendahl & Will, 2006).

It should be within SOX legislation that hiring of external auditors includes senior personnel. In this regard, cases of corruption through tax managers will be minimized. Nonetheless, the financial analysis must adapt modern practices such as the use of English financial reporting. Reforming SOX legislation to embrace the use of websites to provide information on corporate key performance measure is necessary. In matters pertaining to security markets, SOX should recommend that companies exhibit explicit knowledge of General Accepted Accounting Principles (GAAP) as a matter of experience and training.

A continuing professional training for accountants and financial advisors engaged in auditing committees should be prioritized as part of SOX reforms (Grunendahl & Will, 2006). In fact, disclosure of whether audit committee members have undergone such training is critical in their report. Finally, companies should exhibit their governance practices as an extension of the legislation on accountability.

References

Canary, H. E. & Jennings, M. M. (2008). Principles and influence in codes of ethics: A centering resonance analysis comparing pre-and post-Sarbanes-Oxley codes of ethics. Journal of Business Ethics, 80(2), 263-278.

Dworkin, T. M. (2007). SOX and Whistle blowing. Michigan Law Review, 1757-1780.

Gates, S. M. & Leuschner, K. (2007). In the name of entrepreneurship? The logic and effects of special regulatory treatment of small business. Santa Monica, CA: Rand Corporation.

Grunendahl, R. & Will, P. H. (2006). Beyond compliance: 10 practical actions on regulation, risk and IT management. New York, NY: Springer.

Hall, J. (2012). Accounting information systems. Boston, MA: Cengage Learning.

Rezaee, Z. (2008). Corporate governance and ethics. Hoboken , NJ: John Wiley & Sons.

Romano, R. (2005). The Sarbanes-Oxley Act and the making of quack corporate governance. Yale Law Journal, 1521-1611.

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