Jonathan Macey and SOX

Posted by J. Robert Brown, Jr., University of Denver Sturm College of Law, on Tuesday April 10, 2007 at 12:24 pm
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Editor’s Note: This post is by J. Robert Brown, Jr. of the University of Denver Sturm College of Law.

In the weekend edition of the Wall Street Journal, Jonathan Macey (deputy dean at Yale Law School) embarked on an assault on SOX in an article entitled What Sarbox Wrought.  He describes the Act as an “intrusive, circulatory and duplicative grab-bag of rules” and concludes that, because of the adoption of SOX, it is “now fashionable for issuers to avoid U.S. markets.”Put aside that there is evidence suggesting that companies are moving overseas because of the improved quality of foreign trading markets–something one would think would win accolades from those who rely so extensively on market solutions.  Put aside that the decline in IPOs in the US predated the adoption of SOX and that some evidence suggests that the percentage is again increasing

The most interesting thing about the editorial is that the proposed solutions are not directly related to SOX at all.  Macey dismisses recent efforts to decrease the costs of compliance with Section 404.  Instead, he calls for a reduction in the “[m]assive litigation risks” and the underwriting fees that “are an order of magnitude higher in the U.S.” than elsewhere.

SOX did not increase underwriting fees, and the so-called “massive” litigation risk predated the Act (it was, after all, the impetus for the PSLRA).  If anything, the data on the Stanford Securities site (and the opinions of Joe Grundfest) suggest that, in a post-SOX world, litigation risks (at least as measured by the number of securities suits filed) are declining (2006 had the lowest number of securities class action fraud suits filed since 1996).  There is at least room to argue that independent audit committees and truly independent auditors have reduced the instances of mistake and fraud, causing a decline in litigation.

As someone sitting through the trial of former Qwest CEO Joe Nacchio, I very much doubt that the trial would be taking place had Qwest had in place the protections mandated by SOX.  (For daily coverage of the trial, by the way, go to The Race to the Bottom.) 

In fairness, Macey does mention “compliance costs” as a reason why companies are not coming to the US–a cost that was increased by SOX.  But, with the exception of the costs associated with Section 404, where Macey discounts the regulatory efforts designed to reduce them, what other compliance costs should we eliminate?  Independent audit committees?  Independent auditors?  Immediate disclosure of changes in beneficial ownership?  The need to assess internal controls?  Interestingly, there is no groundswell within corporate American to get rid of these requirements.  Even the Business Roundtable has more or less supported these provisions in SOX.

Macey is right that there needs to be a rigorous discussion of a number of issues relating to competitiveness, including high underwriting fees and concerns over “massive” litigation.  The discussion, however, needs to take place in the broader context of governance–one that includes a recognition of the abysmally low standards for the duty of care (as Disney illustrates), the abysmally low monitoring standards imposed on companies (as Stone v. Ritter illustrates), and the abysmally low standards for the duty of loyalty, one that allows a majority of “independent” directors to eliminate any consideration of the fairness of the transaction.

  1. “Put aside that the decline in IPOs in the US predated the adoption of SOX and that some evidence suggests that the percentage is again increasing.”

    Such evidence might be suitable as a legal assertion, but it falls far short of the standards for an economically valid assertion. The relevant question is where would U.S. IPOs be absent SOX versus where they are today. I’m not sure enough empirical work has been done to answer this conclusively, but the early studies would not support your implied conclusion of zero or minimal effect, and the anecdotal evidence, for those of us in the markets, is overwhelmingly negative about SOX.

    Regarding any “groundswell” reaction to current or proposed governance regulations, you won’t find them in the press. The public positions of CEOs is an awful barometer of business sentiment. The Business Roundtable is a political organization; it must selectively pick its fights to retain a semblance of credibility with a generally skeptical, if not hostile, public.

    Comment by M. Hodak — April 15, 2007 @ 10:24 am

  2. When I was enrolled in the financial Excutive group (by courtesy) about 10 years ago, I was sent a proposal to attend a compliance corporate Executive program specialized only in health care then. My recollection is that I did use with a little success these course documents to create a more corporate program for compliance. Then and now, I am proud to say that after a series of regulatory implementations including Sarbanes -Oxley corporate accountability Act that can wipe out Billion dollars on the company from liability related costs including post sentencing costs and market dilution (loss in earnings, devaluation of shares), the cost savior and emerging leadership role is the Chief Compliance Officer. In some companies like healthcare, utilities, construction, financial services and government contracting, the compliance officer role is not new. It did help these industries to either achieve strategic accreditation or comply with regulation while cutting liability costs. Whether the CCO has legal, finance or both backgrounds, he, acting as impartial judge of the company and cost effective manager, must focus on how should resources be planned for different compliance requirements? Is the company spending too much or too little on compliance and risk management? does the company have a way to response to events such as missed deadline, contempt charges, surprised external audit, high risk situations and more?
    Todays’s corporate leadership will not allow the compliance function to wait too long before its implementation and recognition as a contributor to bottom line results and regulatory compliance, rather than a nuisance or expense that diverts from strategic goals of company
    Arthur Mboue, MBA, JD, researcher

    Comment by Arthur Mboue — April 17, 2007 @ 3:30 pm


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