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Accounting Law Dismays Tech Firms
by Fresia Rodriguez Cadavid
Nearly three years after President Bush signed legislation calling for stricter accounting procedures in the wake of corporate fraud scandals, technology companies continue to express frustration over what they consider unintended costly consequences of the law's implementation.
One provision of the law -- known as the Sarbanes-Oxley Act after its authors, Sen. Paul Sarbanes, D-Md., and Rep. Michael Oxley, R-Ohio -- has repeatedly drawn ire from tech leaders and others in the business community. In turn, federal regulators last month issued revised guidelines. Section 404 stipulates requirements for public companies to assess the effectiveness of internal financial controls by the end of their 2004 fiscal year.
Outside auditors also must attest to the information. Thomas Brandt Jr., chief financial officer of the Maryland-based TeleCommunication Systems, praised the law, but has concerns. He said some version of the law was needed to adjust outside audits to be more effective than they had become in recent years. Additionally, the measure was necessary to help restore investor confidence in U.S. capital markets after a series of scandals. But one of the key problems Brandt identified was Section 404's "one size fits all" approach.
Small Firms See It As Burdensome
"The documentation rules do not distinguish between companies as large as Exxon or [General Electric] and smaller companies," Brandt said. "So the degree to which processes are subject to testing and write-ups are disproportionately more burdensome on smaller, technology companies like ours."
He estimated that expenses for quarterly and annual test plans related to Section 404 and other mandatory documentation were approximately $1 million in 2004. The company posted $143 million in revenue last year. "All this money could otherwise be invested for company growth, [R&D, capital assets] or returned to investors through dividends, or market appreciation via higher profits," he said.
Carol Bernstein, vice president, secretary and general counsel of the Illinois-based Cabot Microelectronics, said while Cabot fully supports the basic premise of the law as a proactive measure to corporate governance, her firm has had to devote a lot of energy, human resources and money to implement the internal-controls provision. Implementing the law is burdensome because of its detailed rules and regulations that might not be designed to attain the objectives of the law, she said.
For example, Bernstein said approximately 1 percent of the company's revenue has gone toward compliance with the measure. And Bernstein fears there could be far-reaching ramifications within the U.S. tech industry by losing its edge to overseas companies that do not have to expend large amounts of funds and time on this type of compliance.
Bernstein speculates that U.S. companies, especially small- to mid-sized tech firms, will grind to a halt if the stringency of requirements continues. She said companies may be forced to move overseas or privatize - and neither option would benefit the U.S. economy.
"The rubber band is going to burst at some point," she said.
For John Roiko, corporate controller of the Texas-based National Instruments, documentation related to Section 404 compliance piled on an additional workload and stipulated more steps the company already followed to comply with Section 302. That language calls for certification of internal controls by a firm's chief financial officer and top executive.
Additionally, Roiko maintains that the company invested 20,000 hours or about 10 years on internal work related to the law. Combine those figures with the costs incurred by the external auditors, and the company has spent about $3 million to comply, he said. "That's where the frustration came from our standpoint," he said. "We would have preferred to invest the money in hiring engineers to create new products."
Ed Terino, chief financial officer of e-commerce software provider Art Technology Group in Massachusetts, said the law hit his company's bottom line too. His firm in 2003 began to review the company's controls structure to comply with the law. But it was forced to "trash documentation efforts and redo things" in 2004 because the Public Company Accounting Oversight Board (PCAOB), created by the law, did not release certain auditing standards until June 2004.
"This was a major setback for a lot of people," Terino said. He estimates that with under $100 million in revenue at his firm, at least $1 million has gone toward internal and external implementation efforts.
Some Mandates Puzzle Execs
Tech executives also charge that valuable time and funds have been spent on efforts to comply with certain language in Sarbanes-Oxley, which in their eyes has nothing to do with assessing financial controls. Examples include paying for auditors to attend high-level meetings and accounting for keys that access data rooms. "How that provides that financials are secure and prevents the next Enron from occurring, I don't know," said Roiko, referring to the spectacular demise of firm Enron that left many investors with a lack of confidence in corporate America.
According to Jeff Lande, IT services and software division senior vice president for the Information Technology Association of America (ITAA), Sarbanes-Oxley was a good idea "carried way too far."
Some of the trade group's members told him that accounting firms had increased their fees by up to five times as much to what they were charging before Sarbanes-Oxley, in order to help firms comply with Section 404.
"Those figures do not include work-hours lost to implementation," said Lande.
ITAA President Harris Miller echoed Lande's comments, adding that while the law was designed to create corporate financial reporting consistency, it initially led to inconsistency and a lack of clarity in interpretation of mandates, "putting executives' teeth on edge."
Responding to complaints from business leaders about the cost of complying with the legislation, the PCAOB and the Securities and Exchange Commission issued revised guidelines last month designed to scale back duplication of controls and what Bernstein referred to as the "check-the-box" mentality industry leaders say auditors were being paid to perform.
New guidance urged auditors to individualize their audit plans for different clients and to stay away from standardized checklists. "It is clear to us that the internal-control assessment and audit process has the potential to significantly improve the quality and reliability of financial reporting," PCAOB Chairman William McDonough said in a statement. "At the same time, it is equally clear to us that the first round of internal control audits cost too much."
The Wait-And-See Approach
Tech associations are taking a wait-and-see approach to the new guidance. ITAA says it is reviewing the new guidelines and declined to comment on them. AeA issued a statement welcoming the new guidance, saying it addressed many of the issues it had with Section 404 as outlined in a report released earlier this year.
AeA Tax Counsel Marie Lee said working groups made up primarily of company CFOs organized around the country are still reviewing the recent guidance. After AeA receives feedback from its companies and reviews it with its national Section 404 Committee and staff, "we will determine our next steps," she adds.
"We are optimistic this guidance will provide our member companies with much needed relief. However, its true effectiveness will greatly depend on actions by the auditors," AeA President William Archey said in a statement.
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