Enron - the bankruptcy heard around the world and the international ricochet of Sarbanes-Oxley.

• Author: Lucci, John Paul

Stocks? You gotta be high up in the corporate structure to make that shit work for you. We don't have those Enron-type connections.

--Tony Soprano (1)

With the economy the way it is, you're lucky you get soup.

--Homer Simpson (2)

INTRODUCTION

The Enron Corporation ("Enron") debacle was a disaster for its executives, employees, accountants, investment bankers, and defrauded investors. (3) Everyone from employees to underwriters and even corporate executives suffered as a result of Enron's fallout. (4) The carnage did not stop with Enron. Financial scandals involving WorldCom, Qwest, Global Crossing, Tyco, and Enron ultimately cost shareholders $460 billion. (5)

Reverberations from Enron changed the way companies do business. (6) In an effort to restore investor confidence, large corporations--which in the past had worked to keep their audit costs low--found it in vogue to spend additional money on annual financial reviews and now pour more resources into annual audits than in pre-Enron years. (7) For example, after keeping audit fees with KPMG consistent for the past several years, Prudential considered a potential rate increase of one hundred percent. (8) Overall, audit fees in the United States are projected to rise about twenty percent. (9) Additionally, some corporations, such as General Electric, went beyond the new legal requirements, setting more stringent internal control standards in response to the Enron bankruptcy. (10) "It's like the public reaction after a crime," observed Laurence Longe, national managing partner of the United Kingdom's Baker Tilly, "[y]ou need more bobbies on the beat." (11)

The accounting profession also suffered from these financial scandals. (12) An Australian financial reporter observed that "[t]he past year has been an annus horribilis for the accounting profession." (13) A survey of leading accounting firms in the United States demonstrates that only about half of the accountants polled believe their profession can fully recover from the disgrace brought on by the Enron and WorldCom scandals. (14) At one time the accounting industry was dominated by the Big Five accounting firms, (15) however, Enron's collapse led to the demise of Enron auditor Arthur Anderson. (16) Only four large global accounting professional service firms remain. (17) The "'final four'" (18) have been forced to spin off many of their non-auditing consulting functions as a result of legislative changes brought about by these corporate scandals (19) and are taking special steps to regain investor confidence. (20) The accounting profession in the United States was once largely self-regulating. (21) As a result of Enron and other corporate scandals, new rules and regulations in the United States--passed by Congress and promulgated by the Securities and Exchange Commission ("SEC")--now require oversight by an independent commission. (22)

The first government response to Enron in the United States was an SEC order requiring chief executive officers ("CEOs") of the largest American companies to certify their financial statements. (23) Then, in another effort to put an end to corporate scandals, (24) Congress enacted the Sarbanes-Oxley Act of 2002 ("the Act," or "Sarbanes-Oxley"). (25) The Act has been called "the most significant legislation governing US securities markets since the 1930s." (26) Remarkably, the Act became law a mere seven months after Enron filed for bankruptcy. (27) The Act was introduced into Congress in early July 2002 and was signed into law by President Bush by the end of that month. (28) The legislation evinces that in times of heightened political pressure and intense media coverage, both Houses of the United States Congress can come together to pass a law quickly, even when divided by partisanship. (29) Receiving a vote of ninety-seven to zero in the United States Senate, (30) the Act was designed to "crack[] down on all the Enron-WorldCom-Global Crossing chicanery" (31) and to provide tough criminal penalties for those who violate its provisions. (32) At the signing of the bill, President Bush stated, "[t]he era of low standards and false profits is over.... No boardroom in America is above or beyond the law." (33) Unlike corporate scandals in the past, commentators feared that this time the market alone would be unable to correct irregularities and restore investor confidence. (34) While Sarbanes-Oxley ushered in many new requirements, it was primarily designed to restore financial confidence (35) in American securities markets. (36) Chief executive officers and other corporate officials also found themselves on notice: executives could be subject to lengthy prison terms and substantial fines if their financial records were deemed to be fraudulent following certification. (37)

While many in the United States heralded the Act as ushering in "a 'new era of corporate accountability and responsibility," (38) it received a less receptive welcome overseas. (39) Almost from the beginning, foreign commentators criticized Sarbanes-Oxley as a hastily drafted, quick-fix to corporate governance problems. (40) One British financial reporter observed that "[i]n reality ... [the Act] is a pre-election political compromise meant to give US voters the impression that Congress and the White House are getting tough on those issuing fraudulent account[s]--but the markets are not looking significantly better." (41) Similarly, a South African journalist commented that "[t]he instant response of legislators to any crisis is to pass laws." (42)

From its inception, Sarbanes-Oxley "caus[ed] headaches" (43) for the more than 1,300 foreign firms (44)--such as British Airways and GlaxoSmithKline (45)--that trade on an American exchange, and left many foreign officials uncertain as to which provisions of the Act applied to them. (46) These officials criticized the Act for regulating foreign accounting services and corporations. (47) Sir Bryan Nicholson, head of the United Kingdom's Financial Reporting Council, doubted "whether Sarbanes or Oxley know a damn thing about the Financial Reporting Council." (48) Foreign commentators expressed concern that Sarbanes-Oxley was ineffective (49) and "rushed" legislation. (50) "British executives ... reacted with alarm ... [after learning] they may go to jail for mis-statements of accounts filed with US authorities" (51)--fearing that Sarbanes-Oxley would "'denude British boardrooms of talent.'" (52) As one writer observed, "[i]t is well known that Americans care little for what goes on east of Bangor, Maine." (53) In Japan, executives expressed concern that Sarbanes-Oxley's mandate to set up an audit committee of independent directors would be "unsuitable to the Japanese corporate environment." (54) Responding to these new threats of liability, several of the world's biggest companies clamored for exemptions from Sarbanes-Oxley (55) and formed the Reciprocity in International Accounting Coalition ("RIAC") to lobby for changes to accounting rules that apply to foreign firms. (56) While the RIAC is opposed to many Sarbanes-Oxley provisions, its focus is on ensuring that future legislation and rules are not as intrusive and do not apply to foreign corporations or accounting firms. (57)

This article, like all Gaul, (58) is divided into three parts. Part I outlines the major regulatory changes brought about by Sarbanes-Oxley. (59) In highlighting these changes, the policy reasons for many of its provisions will be discussed in order to evaluate how closely the actual language of the Act comports with this policy. (60) While Sarbanes-Oxley has brought about many new changes, this article will focus primarily on the creation of the Public Company Accounting Oversight Board ("PCAOB"), (61) the Act's treatment of conflicts, (62) the creation and independence of audit committees, (63) new professional conduct standards for corporate lawyers, (64) and CEO certification requirements for financial data. (65) Finally, Part I will analyze the extensive rulemaking power granted to the SEC under Sarbanes-Oxley. (66)

Part II reviews the international response to these changes and outlines opinions expressed by government officials, corporate executives, and financial reporters from across the world. (67) Particular attention is given to a selection of foreign regulations and the cultural differences that make compliance with Sarbanes-Oxley by corporations outside the United States problematic. (68)

Part III evaluates the criticism of Sarbanes-Oxley (69) both from within the United States and abroad. (70) This article will demonstrate that Sarbanes-Oxley played an important role in restoring investor confidence (71)--even if the changes brought about by the legislation are not as significant as some commentators had hoped. (72) The discussion will conclude by arguing that Sarbanes-Oxley should apply to corporations outside the United States. (73)

This article argues that corporations outside the United States affected by Sarbanes-Oxley receive a considerable benefit from participation in and access to American capital markets. Exempting foreign corporations from the Act's coverage would create economic disparities between American and overseas firms, as one group would be required to incur compliance costs and the other would not. Furthermore, if corporations outside the United States are exempt from Sarbanes-Oxley's more stringent requirements, this could provide a perverse incentive for corporations to leave the United States to seek refuge in countries with less stringent accounting and corporate governance standards. While many countries have stringent accounting standards, I contend that these standards are varied enough in substance to warrant the application of Sarbanes-Oxley to all foreign firms utilizing American corporate markets.

1. MAJOR CHANGES WROUGHT BY SARBANES-OXLEY (74)

   Sarbanes-Oxley has brought about many significant regulatory changes in the corporate...