What Are the Disadvantages of Sarbanes Oxley?

The Sarbanes-Oxley Act of 2002 (SOX) was passed to prevent companies from engaging in accounting fraud similar to that perpetrated by Enron and Worldcom. While SOX increased the accuracy and validity of financial information for outside stakeholders, it created some challenges for businesses attempting to comply with SOX guidelines.

Internal Controls

SOX compliance requires companies to implement several internal controls to safeguard the financial information of a company. Internal controls are specific to each accounting operation, such as accounts payable, cash reconciliations and fixed assets.

Expanded internal controls add processing time to accounting functions, delaying the timeliness of financial information. Additionally, employees must ensure that all paperwork is accurate and approved by supervisors. Increasing the number and functions of internal controls slows the closing time for each accounting period and delays financial statement preparation.

Increased Personnel

An important function of SOX guidelines is the segregation of accounting duties. This ensures that one individual does not handle certain accounting processes from start to finish, which may increase the chances of fraud or embezzlement. In order to meet the segregation of duties requirement, companies must add additional accounting personnel. Using current employees outside the accounting office is not acceptable because it breaks down the internal controls function.

Additional Audits

SOX guidelines require publicly held companies to have an annual audit conducted by a third-party accounting firm. The public accounting firm is limited in the total accounting services that it can perform. The separating of audit functions from consulting functions under SOX helps public auditors maintain an objective opinion about a company, but may require that more than one accounting firm be hired.

Increasing the number of audits and accounting firms that must be used by a publicly held company increases business costs. Higher audit and accounting fees require companies to adjust their budgets to pay for these accounting services.

More Regulations

The SOX legislation was enacted in 2002, less than a year after the major accounting scandals of Enron and Worldcom. While the legislation provides some needed oversight in the accounting industry, it was not determined to be a final solution for the accounting industry. Future government regulations pose increased financial burdens on companies, increasing the costs of conducting businesses. Some regulations may also limit certain business operations.

Tougher Penalties

Penalties for accounting fraud and embezzlement were increased under the new SOX guidelines. Unfortunately, some penalties enacted focused on minimal violations, such as not signing financial statements or issuing statements to the public stating that executive management has approved of any financial information released by the company. Strict penalties on such minor infractions may limit the executive talent pool if future management employees do not wish to be liable for such actions and penalties.