Don't rest on your 404 laurels

Previously, foreign companies registered with the SEC had to comply with section 404 for financial years ending on or after 15 July 2005. Now they have an extra 12 months.

The SEC has made this extension, first mooted by SEC chairman William Donaldson at the London Stock Exchange in January, in recognition of the work required, particularly for European companies that have simultaneously been grappling with the implications of applying international financial reporting standards.

Section 404 requires companies to include in their annual reports a report by management on the company’s internal control over financial reporting and an accompanying auditor’s report. The work involved in documenting controls and testing them has been much bemoaned.

Announcing the deadline extension, SEC’s chief accountant Donald Nicolaisen said: ‘Section 404’s requirements are among the most important part of the Sarbanes-Oxley Act and I encourage public companies to devote the necessary resources to making sure those requirements are implemented effectively. I don’t underestimate the effort this will require of smaller companies and foreign private issuers, but this extension will provide additional time for those users to take a good hard look at their internal controls.’

The SEC sees the compliance deadline extension as giving companies the chance to approach Sarbox more comprehensively. ‘Companies should use the extension not to delay but to improve the quality of their efforts,’ says Alan Beller, director of the SEC’s corporation finance division.

Most UK companies needing to comply with section 404 agree with the SEC and are not planning to delay their compliance efforts.

Resources Global Professionals, the international professional services firm that works with clients on a project basis, has been heavily involved with Sarbox compliance assignments. ‘The majority of our clients are saying they have to get this done,’ confirms UK managing director Chris Beer. ‘They have a plan and resources in place. Only a small minority are saying they will stop what they are doing.

‘Having started the project it’s a lot better, if possible, to keep it going. You have the resources and people in place. To lose momentum is more damaging than any value you may gain in stepping back.’

One of the complications in Sarbox compliance, Beer points out, is that the Big Four firms aren’t necessarily giving the same advice about how to achieve compliance, and are interpreting the requirements differently. As many companies are using a firm that isn’t their auditor for consultancy, this can result in confusion.

Some of Resources’ clients are not actually stopping their Sarbox work, but are considering adjusting their methodology, for example, so that they spend more time on embedding their Sarbox-related processes effectively. ‘The whole concept behind Sarbanes-Oxley is that it is a recurring thing, with annual attestation,’ explains Beer. ‘It isn’t going to go away. Our advice is to get as many people exposed to the project as possible. Get people involved and build that experience into the organisation.’

Apart from not wanting to lose momentum on their Sarbox projects, the pressure to compete with US rivals is also driving some British companies on.

‘Some clients, particularly UK plcs that have US-listed organisations as competitors, have said they have to be seen to be as clean as their US competitors,’ Beer explains. ‘The fact that their US competitors are complying means they have no option but to comply now too.’ Failing to do so could damage their reputation in the marketplace.

Pushing ahead with Sarbox compliance does mean that any benefits should be felt sooner. That said, most UK companies are still feeling more pain than gain. ‘Most of my CFO clients are saying it’s too painful for them to be able to say there is some value there,’ says Beer.

‘I think many more will see value post first-year compliance. Our own chief financial officer, who is going through this too, says that it’s too time-consuming and too labour-intensive to be able to quantify value at the moment.’

This is an edited extract of an article that appeared in May’s edition of Financial Director