Supreme Court Case Could Impact Sarbanes-Oxley


Today, the U.S. Supreme Court will hear the Free Enterprise Fund v. Public Company Accounting Oversight Board, a lawsuit that challenges the constitutionality of a large portion of the Sarbanes-Oxley Act of 2002.

A recent e-mail from the Competitive Enterprise Institute notes, "The law, which was rushed through Congress after the Enron and WorldCom scandals, created numerous corporate governance and accounting rules that have been criticized by both Democrats and Republicans as excessively burdensome to smaller companies, detrimental to U.S. competitiveness, and ill-equipped to protect shareholders from fraud. The decision the Court makes could be more consequential to jobs growth than any job summit politicians might have."

NPR explains:

The U.S. Supreme Court hears arguments on Monday testing the constitutionality of the federal anti-fraud law that grew out of the Enron scandal. At issue is the constitutionality of the board Congress created to oversee independent audits of publicly traded companies.

But even more could be at stake.

As Congress debates what measures are needed to avoid a repeat of the financial institution failures of the last year, it is hard to remember that eight years ago, a different kind of scandal shook the foundations of the business world. It involved the collapse of some of the nation’s largest corporations — Enron, WorldCom and Tyco — and how those companies deceived their investors through sham outside audits. Enron’s bankruptcy in 2001 was, at the time, the largest in U.S. history.

"It was the canary in the mine shaft," says Paul Sarbanes, who in 2001 was chairman of the Senate Banking Committee.

"You had a number of major companies engaged in convoluted, often fraudulent, accounting schemes to inflate their earnings, to hide their losses and to drive up their stock prices," he observes.

And the outside audits of these companies, even though conducted by industry standards, were worthless.

The debacles provoked a crisis of confidence in capital markets. After extensive hearings, Democrat Sarbanes, and his Republican counterpart in the House, Michael Oxley, co-authored a bill to ensure that investors would get accurate financial information about publicly traded companies. President Bush signed it into law in 2002.

Instead of allowing the accounting industry to regulate itself, as it had before, the law created the Public Company Accounting Oversight Board, the PCAOB, or as it is uncharitably known, "peekaboo." The board is technically private and is funded by a fee charged to public accounting firms. Its five board members are top accounting specialists appointed by the Securities and Exchange Commission.

But pro-business conservatives have attacked the board as unconstitutional. They contend it is a hybrid institution accountable to no one, that both makes rules to govern public accounting and enforces them.

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