More on the Costs and Benefits of Section 404 of Sarbanes-Oxley

Robert Prentice (Texas – McCombs School of Business) has posted Sarbanes-Oxley: The Evidence Regarding the Impact of Section 404 on SSRN.  The article assesses evidence regarding costs and benefits of Section 404 of the Sarbanes-Oxley Act.  Like the articles posted below, Prentice concludes it is too early to tell whether Section 404 is working.  He goes further, however, to argue that the current harsh criticism of 404 is likely to undermine its prospects for success in the long-term.  Prentice thus takes on Sarbanes-Oxley’s critics (including Larry Ribstein and Roberta Romano) who savage the the legislation for lacking solid empirical bases for its policies.  These critics, he says, commit the very sins they condemn when they attack Section 404 before conclusive evidence is available regarding its effectiveness.  Here is the abstract:

Sarbanes-Oxley is the most important securities legislation since the 1930s, and whether it is ultimately considered a success will likely turn on perceptions of its controversial internal controls provision, Section 404. Indeed, whether the law is a success will likely turn on perceptions of 404. SOX 404 has been savagely attacked, especially for its burdensome cost to corporations and its adverse impact on the competitiveness of American capital markets. This article surveys the relevant empirical academic literature. Although that literature does not purport to (and does not) settle the overall question of whether SOX’s benefits generally, or SOX 404’s specifically, outweigh attendant costs, it does illustrate that the harshest criticisms of SOX are overblown. Importantly, SOX 404 has demonstrably improved corporate financial reporting in the short-term. Its potential for having long-term beneficial impact is largely dependent upon its being perceived as legitimate by capital market participants. At the moment, its legitimacy is being undermined by criticism that ignores much of the important evidence.


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