SEC Resumes Clawback of Executive Pay

Financial reporting risk has returned to the headlines with a recent announcement by the Securities & Exchange Commission ("SEC") that it will be "clawing back" prior bonus payments made to a prominent CEO who falsely certified to the effectiveness of internal controls within the company. Section 304 of the Sarbanes-Oxley Act of 2002 allows the SEC to seek reimbursement of bonus payments and/or profits from the sale of securities by certifying executives during the time period when the internal controls are found to be ineffective. Here is an excerpt from the SEC's action:

"The Securities and Exchange Commission today announced a settlement with the chief executive officer of an Atlanta-based homebuilder to recover several million dollars in bonus compensation and stock profits that he received while the company was committing accounting fraud.

According to the SEC’s complaint filed today in federal court in Atlanta, CEO Ian J. McCarthy previously failed to reimburse Beazer Homes USA Inc. for bonuses, other incentive-based or equity-based compensation, and profits from Beazer stock sales that he received during the 12-month periods after his company filed fraudulent financial statements during fiscal year 2006."

During the financial crisis of the past few years, Sarbanes-Oxley has taken a back seat to other more pressing issues. However, now that the dust has settled, we can expect to see more actions such as this one.

Sarbanes-Oxley is Here to Stay

The U.S. Supreme Court ruled today that a small portion of the Sarbanes-Oxley Act of 2002 is unconstitutional. According to the ruling, The Public Company Accounting Oversight Board ("PCAOB") which oversees the accounting firms who audit U.S. public companies currently violates constitutional separations-of-powers principles.

The Court viewed the manner in which PCAOB members are currently appointed and removed to be unconstitutional because it did not operate at the behest of the President of the United States. As such, the U.S. Securities and Exchange Commission will now have the authority subject to the President's review to appoint and remove PCAOB members at will.

However, the PCAOB itself and the remainder of the Sarbanes-Oxley Act remains intact and constitutional. So, those hoping to see the full demise of the Sarbanes-Oxley Act will certainly be disappointed by today's decision. To read the full ruling, click here.

Do As I Say, Not As I Do

Last week, the Government Accountability Office ("GAO") released the results of its annual audit of the Securities and Exchange Commission ("SEC").  In the audit report, the GAO identified six significant deficiencies in the SEC's internal control over financial reporting.  The collection of these deficiencies amounted to a material weakness in the SEC's internal control over financial reporting.  For those who are not familiar with the term "material weakness", it represents a reportable event that must be disclosed by U.S. public companies as a result of the Sarbanes-Oxley Act of 2002.  Here is what the GAO detailed in their report.

During this year’s audit, we identified six significant deficiencies that collectively represent a material weakness in SEC’s internal control over financial reporting. The significant deficiencies involve SEC’s internal control over (1) information security, (2) financial reporting process, (3) fund balance with Treasury, (4) registrant deposits, (5) budgetary resources, and (6) risk assessment and monitoring processes. These internal control weaknesses give rise to significant management challenges that have reduced assurance that data processed by SEC’s information systems are reliable and appropriately protected; impaired management’s ability to prepare its financial statements without extensive compensating manual procedures; and resulted in unsupported entries and errors in the general ledger.

As the primary enforcement agency for accurate financial reporting by U.S. public companies, the SEC should be leading by example in creating processes that provide reliable financial information.  Sadly, this is not the case and has not been for the past several years.  Let's hope SEC Chairwoman Mary Shapiro does a better job than former SEC Chairman Christopher Cox and can effect the necessary change within the agency.

What a Difference a Financial Crisis Makes

President Obama's nominee to head the U.S. Securities and Exchange Commission ("SEC"), Mary Schapiro, recently responded to inquiries about her view on compliance with Section 404 of the Sarbanes-Oxley Act ("SOX 404").  This section of the Act has been widely criticized as overly burdensome and costly.  However, in light of the escalating number of financial reporting frauds related to the recent financial crisis, this view is changing.  Here are Ms. Schapiro's thoughts on SOX 404.

Regarding, SOX 404, accurate, robust, and easy-to-understand financial reporting -- and the internal controls that guarantee it -- are critically important to investors and to the efficient functioning of our markets. Right now, we have a system where some issuers are complying with 404 and others are still exempt from it. It’s time that we bring uniformity to the system so that investors know what to expect from companies, while being sensitive to the needs of small businesses. I look forward to working with the small business community in making sure they have the tools they need to comply with 404.

This is certainly an 180 degree about-face for the SEC, who under the leadership of Chairman Christopher Cox worked to delay full compliance for many years.  For those companies hoping for another delay, it will not be coming.  If your company needs assistance with SOX 404 compliance, email Wheelhouse Advisors at NavigateSuccessfully@WheelhouseAdvisors.com to learn more about cost-effective compliance solutions.