The past few years have seen massive accounting scandals and corporate frauds. In order to protect shareholders, mounds of new legislation have been implemented. The key one is the Sarbannes-Oxley Act in the USA, which has had the effect of adding substantial cost and complexity to the auditing and reporting of company accounts. The auditors are smiling of course! But I’m not sure that shareholders should be.
These “rules” are not working. They are not having the effect that they should. In fact, they’re hurting business.
By adding additional costs (and lots of them), they’re taking money away from profits (and shreholders), and putting dollars into the pockets of the very people who continually let the shareholders down – auditors.
Take this week’s most high profile example: Refco. A futures trading company that in the past 7 days has all but collapsed, taking $ 1 bn with it. The simple version of the story seems to be a massive fraud in which bad debts in the company were accounted as a loan, thus allowing a higher IPO price for the company.
The irony is that the “loan” TO the company of $ 430 m or so was fully paid back this past week. You’d think that this would be a good thing. However, under the new laws, disclosure had to be made of the accounting error that led to the loan being previously listed as a corporate loan, when in fact it was a loan to an individual director. The error had to be reported before any investigations could be done, and this cuased a “run” on the company, essentially reducing it to near bankruptcy. So, the law that is supposed to protect shareholders may in fact now be the reason that they lose all their investments…
The real question is whether laws like Sarbannes-Oxley actually work. Do they achieve their goal? If they had been in place, would Enron have happened?
It seems to be most people’s opinion that these laws actually don’t work. Like at Refco, people just find cleverer ways of cheating. You cannot legislate against human greed.
For more on this story, see: The Washington Post, or Google News.