Maintain Auditor Independence
Auditors are the primary watchdogs of the corporation. Prior to SOX, auditors performed significant consulting work for publicly traded companies (“issuers”) that they audited. Further, auditors often moved into senior financial management positions in the client company. These factors created at least a perceived conflict of interest.
SOX prohibits auditors from providing many types of consulting services to issuers they audit.
The law also prohibits auditors from auditing an issuer if the issuer’s CEO or top financial management worked for the audit firm during the past year.
Empower the Regulators
Prior to SOX, the audit industry was self-regulated. SOX also established the Public Company Accounting Oversight Board (PCAOB), a nonprofit, nongovernmental entity, to oversee the audit firms. The PCAOB sets standards and publicly discloses the results of its auditor reviews and any disciplinary action taken.
Critics also argued that the SEC, the regulator tasked with investor protection and corporate disclosure standards, was significantly underfunded and understaffed. The SEC budget was nearly doubled in the wake of SOX and remains at that level today.
Engage Audit Committees
Prior to SOX, former SEC Chairman Arthur Levitt stated that “qualified, committed, independent and tough-minded audit committees represent the most reliable guardians of the public interest.”3 The many scandals that resulted in SOX indicated that audit committees were not performing their financial oversight responsibilities effectively.
SOX mandated that the audit committee, rather than management, be accountable for the relationship with the auditor, including selection, compensation, retention, and review of independence. Issuers are now required to disclose whether or not the audit committee has a financial expert, which has encouraged additional financial expertise on audit committees. Auditors are now required to provide more robust disclosures to the audit committee regarding alternative accounting policies and their discussions with management. Audit committees must also ensure the availability of an anonymous reporting channel for accounting or auditing matters (i.e. a “whistleblower hotline”). The law also expanded protection for whistleblowers and penalties for retaliation against them.