GOVERNAMENT FIRST GRADE COLLEGE

KIRISHNARAJAPETE

Corporate Governance
Sarbanes Oxley Act 2002

Kiran A.S
Government First Grade College K.R Pet

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 SARBANES – OXLEY Act 2002
Find which is Law and Act from the following:

➢ It is mandatory to appoint at least one-woman director as a board member in

certain types of companies [Com 2013 Sec 149]
➢ Drunk driving is prohibited
➢ Agreement between two or more parties enforced by the law in Contract [Con 1872 Sec
2(h)]
➢ Every qualifying company requires spending of at least 2% of its average net profit
for the immediately preceding 3 financial years on CSR activities [Com 2013 Sec 135]
➢ No smoking in public place
➢ Time of supply of goods [GST 2016 Sec 12 & 13]
➢ There are five main income tax heads for an individual [IT 1961 Sec 14]

Definition of Law:

➢ The term law is defined as “The set of official rules and regulations set up and
enforced by the government”.
➢ To protect people from unfair practices and to maintain public order.
➢ It is aimed at governing the conduct of the citizens of the country, protecting their rights
and also ensuring equality among them, i.e. every person is treated in the same way.
➢ It prescribes rights and duties to the members of the society.

Law = Legislation + Judicial Precedents + Rules + Regulations + Customs

Definition of Bill:

➢ A bill can be considered as initial stage of an Act.

➢ Bill is a proposal to make a new law.
➢ Usually, bill is in the form of a document that summaries what is the policy behind the
proposed law and what is to be the proposed law.

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Definition of Act:

➢ In legal terminology, Act is used to mean the statutes approved by the parliament.
➢ It is a bill, which when passed by both the houses through a specific
procedure, turns out as an Act.
➢ To let people, know the rules and regulations about specific situations.
➢ Act either creates a new law or make amendment in the existing one.
➢ An act focuses on the particular subject and contains various provisions relating to it.
➢ An act is a subset of law.
➢ All Acts are laws but all Law are not Acts

Act = Legislation passed by the Parliament or State Legislature

Introduction:

An overview of some of the codes and regulations designed to improve corporate

governance in UK, US and INDIA. It reviews the recommendations of the various committees that
ware formed to intensify the practice of corporate governance. In this process it presents and
reviews, the Cadbury committee report on corporate governance 1992, Kumar Mangalam Birla
committee 1999, J.J Irani committee report on company law 2005, Naresh Chandra committee
report 2002, Narayana Murthy committee report 2003 and Sarbanes Oxley Act 2002.

The Sarbanes – Oxley Act of 2002 also known as,

➢ “Corporate and Auditing Accountability, Responsibility and Transparency Act” in the

House.
➢ “Public Company Accounting Reform and Investor Protection Act” in the Senate.
➢ Commonly called Sarbanes – Oxley, Sarbox, SOX
➢ To protect investors by improving the accuracy and reliability of corporate disclosures
made pursuant to the securities laws and for other purposes.
➢ Sarbanes - Oxley Act is a united states federal law that set new or expanded
requirements for all U.S Public company boards, management and public accounting
firms.

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 • A corporation is a company or a group of people or an organization authorized to act
as a single entity (legally a person) and recognized as such in law
• In American English, the word corporation is most often used to describe large business
• A federal government is a system of dividing up power between a central national
corporations
government and local state government that are connected to one another by the
• The term ‘‘Audit’’ means an examination of the financial statements of any issuer by
national government.
an independent public accounting firm in accordance with the rules of the Board or
• Federal law is the body of law created by the federal government of a country
the Commission for the purpose of expressing an opinion on such statements.
• Public Accounting Firms are Ernst & Young, Deloitte & Touché, KPMG and Price water
• Auditing is the process of examining an organization’s financial records.
house Coopers are four biggest professional services networks in the world, offering
• Accountability is the obligation of an individual or organization to account for its
audit, taxation, corporate finance and legal services. They handle the Audit for public
activities, accept responsibility for them and It includes the responsibility for money or
companies as well as many private companies.
other entrusted property.
• Responsibility is the fact of having a duty to deal with something.
• Transparency is honesty, full disclosure and openness.

Legislative History:

➢ This Act enacted by the 107th united states congress.

➢ The congress is the main legislative body of the U.S government and is composed of two
chambers “The senate or upper house”, “The house of representative or Lower house.
➢ 435 representatives in house and 100 senators in senate.
➢ Introduced in the house as “Corporate and Auditing Accountability, Responsibility and
Transparency Act of 2002” by U.S Representative Michael g Oxley on February 14th
2002.
➢ The act was approved in the House by a vote of 424 in favour, 3 opposed and 8 abstaining
out of 435 votes.
➢ Committee consideration by house financial services, Senate banking. Passed the senate as
the “Public Company Accounting Reform and Investor Protection Act of 2002” by U.S
Senator Paul Sarbanes on July 15th 2002.
➢ In the senate with a vote of 99 in favour and 1 abstaining out of 100 votes
➢ Reported by the joint conference committee on July 24th 2002; agreed to by the house on
July 25th 2002 and by the senate on July 25th 2002.
➢ Signed into law by president George W Bush on July 30th 2002.
➢ In 2002 Sarbanes – Oxley was named after bill sponsors U.S senator Paul Sarbanes and
U.S Representative Michael G Oxley.

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Background:

➢ The Act contains Eleven titles or sections, ranging from additional corporate board
responsibilities to criminal penalties and requires the Securities and Exchange
Commission (SEC) to implement rulings on requirements to comply with the law.
➢ Harvey Pitt, the 26th chairman of the SEC, led the SEC in the adoption of dozens of
rules to implement the Sarbanes–Oxley Act.
➢ The non-profit arm of Financial Executives International (FEI), Financial Executives
Research Foundation (FERF), completed extensive research studies to help support the
foundations of the Act.
➢ It created a new, Quasi-public agency, The Public Company Accounting Oversight Board
(PCAOB), Charged with overseeing, Regulating, Inspecting and Disciplining accounting
firms in their roles as auditors of public companies.
➢ The act also covers issues such as auditor independence, Corporate governance, Internal
control assessment and Enhanced financial disclosure.

Enron Scandal:

➢ Enron was formed in 1985 by Kenneth Lay after merging Houston Natural Gas and Inter
North.
➢ Enron corporation was an American commodities and services company based in Houston,
Taxes.
➢ Enron’s predecessor was the Northern Natural Gas company, which was formed during
1932 in Omaha, Nebraska.
➢ The company initially named itself HNG, Inter North Inc. however was later renamed to
Enron.
➢ Employed approximately 20000 staff
➢ Revenue of nearly $101 billion.
➢ As Enron became the largest seller of natural gas in North America by 1992, its trading of
gas contracts earned $122 million (before interest and taxes)
➢ The second largest contributor to the company's net income.
➢ Named Enron “American’s Most Innovative Company” for six consecutive year by
Fortune.
➢ Enron was originally involved transmitting and distributing electricity and natural gas
throughout the united states.

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➢ The company developed, built and operated power plants and pipelines while dealing with
rules of law and other infrastructures worldwide.
➢ Enron traded in more than 30 different products, including Petrochemical, Plastics, Power,
Steel, Oil transportation etc.
➢ The Enron scandal, publicized in October 2001, eventually led to the bankruptcy of the
Enron Corporation, an American energy company based in Houston, Texas, and the de
facto dissolution of Arthur Andersen, which was one of the five largest audit and
accountancy partnerships in the world
➢ In addition to being the largest bankruptcy reorganization in American history at that time,
Enron was cited as the biggest audit failure
➢ Several years later, when Jeffrey Skilling was hired, he developed a staff of executives
that – by the use of accounting loopholes, special purpose entities, and poor financial
reporting – were able to hide billions of dollars in debt from failed deals and projects
➢ Chief Financial Officer Andrew Fastow and other executives not only misled Enron's
Board of Directors and Audit Committee on high-risk accounting practices, but also
pressured Arthur Andersen to ignore the issues
➢ Some highlight about when this scandal had been exposed were $30 million of self-
dealings by the chief financial officer, $700 million of net earnings disappeared, $1.2
billion shareholders equity disappeared, Over $4 billion in hidden liabilities.
➢ Enron shareholders filed a $40 billion lawsuit after the company's stock price, which
achieved a high of US$90.75 per share in mid-2000, plummeted to less than $1 by the end
of November 2001.
➢ The U.S. Securities and Exchange Commission (SEC) began an investigation, and rival
Houston competitor Dynegy offered to purchase the company at a very low price.
➢ The deal failed, and on December 2, 2001, Enron filed for bankruptcy under Chapter 11 of
the United States Bankruptcy Code.
➢ Enron's complex financial statements were confusing to shareholders and analysts.
➢ In addition, its complex business model and unethical practices required that the company
use accounting limitations to misrepresent earnings and modify the balance sheet to
indicate favourable performance.
➢ Enron's $63.4 billion in assets made it the largest corporate bankruptcy in U.S. history
until WorldCom's bankruptcy the next year.
➢ Andersen was found guilty of illegally destroying documents relevant to the SEC
investigation, which voided its license to audit public companies and effectively closed the
firm.

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Tyco Scandal:

➢ Tyco International plc was a security systems company incorporated in the Republic of
Ireland, with operational headquarters in Princeton, New Jersey, United States (Tyco
International (US) Inc.). Tyco International was composed of two major business
segments: Security Solutions and Fire Protection.
➢ On January 25, 2016, Johnson Controls announced that it would merge with Tyco, and all
businesses of Tyco and Johnson Controls would be combined under Tyco International plc,
to be renamed as Johnson Controls International plc.
➢ Former chairman and chief executive Dennis Kozlowski and former chief financial officer
Mark H. Swartz were accused of the theft of more than US$150 million from the company.

Reasons:

➢ Reaction to a number of major corporate and accounting scandals including those affecting
Enron, Tyco and World com.
➢ To bolster accounting, internal control and auditing standards at public corporations to
protect investors.
➢ Enhance corporate internal auditing and financial reporting control mechanisms to easily
detect fraud.
➢ Restore the public confidence in both public accounting and publicly traded securities.
➢ Assure ethical business practices through lengthened levels of awareness and
accountability
➢ Includes reforms in corporate governance and the accounting profession intended to:
• Improve corporate financial reporting and internal control
• Strengthen audit committees
• Change the relationship between the auditor and client.
• Improve auditor independence
• Provide additional Auditor assurance over internal control
• Provide oversight and regulation for auditors of publicly traded companies.

• An internal control is a procedure or policy put in place by management to

safeguard assets, promote accountability, increase efficiency and stop fraudulent
behaviour.
• In other words, an internal control is a process put in place to prevent employees from
stealing assets or committing fraud.

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The Act applies to:

➢ All public companies in the U.S.

➢ International companies that have registered equity or debt securities with the SEC
➢ The accounting firms that provide auditing services to them

The Act related to:

➢ Corporate responsibility
➢ Increase criminal punishments
➢ Accounting regulation
➢ New protection

SOX affects:

➢ Internal and External Auditors

➢ Board of director and Committees
➢ Top Executives
➢ Senior Managers
➢ Internal and External Attorneys
➢ Regulators

Contains:

The Sarbanes – Oxley Act contains 11 Titles and 69 Sections. The titles are follows;

1. Public company accounting oversight board (PCAOB)

2. Auditor independence
3. Corporate responsibility
4. Enhanced financial disclosures
5. Analyst conflicts of interest
6. Commission resources and authority
7. Studies and report
8. Corporate and criminal fraud accountability
9. White – collar crime penalty enhancements
10. Corporate tax retunes
11. Corporate fraud and accountability

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Major Elements:

1. Public Company Accounting Oversight Board (PCAOB)

Sec. 101. Establishment; administrative provisions.

Sec. 102. Registration with the Board.

Sec. 103. Auditing, quality control, and independence standards and rules.

Sec. 104. Inspections of registered public accounting firms.

Sec. 105. Investigations and disciplinary proceedings.

Sec. 106. Foreign public accounting firms.

Sec. 107. Commission oversight of the Board.

Sec. 108. Accounting standards.

Sec. 109. Funding.

➢ Title I consist of 9 sections

➢ All accounting firms that audit public companies must register with the board.
➢ Register public accounting firms that prepare audit reports for issuers, in
accordance with section 102;
➢ Mandatory Registration Beginning 180 days after the date of the determination
of the Commission under section 101(d)
➢ The PCAOB has five board members, including chairman, each of whom is
appointed by the SEC
➢ The organization has a staff of about 800
➢ Offices in 11 states in addition to its headquarters in Washington
➢ The current chairman is William D. Duhnke
➢ Establish or adopt or both by rule, auditing, quality control, ethics, independence,
and other standards relating to the preparation of audit reports for issuers, in
accordance with section 103;
➢ Conduct inspections of registered public accounting firms, in accordance with
section 104

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2. Auditor Independence

Sec. 201. Services outside the scope of practice of auditors.

Sec. 202. Preapproval requirements.

Sec. 203. Audit partner rotation.

Sec. 204. Auditor reports to audit committees.

Sec. 205. Conforming amendments.

Sec. 206. Conflicts of interest.

Sec. 207. Study of mandatory rotation of registered public accounting firms.

Sec. 208. Commission authority.

Sec. 209. Considerations by appropriate State regulatory authorities.

➢ Title II consists of 9 sections

➢ The audit partner responsible for reviewing the audit, has performed audit services
for that issuer in each of the 5 previous fiscal years of that issuer
➢ Establishes standards for external auditor independence, to limit conflicts of
interest.
➢ Increase communication between auditor and audit committee on critical
accounting policies and practices
➢ It also addresses new auditor approval requirements, audit partner rotation, and
auditor reporting requirements.
➢ It restricts auditing companies from providing non-audit services (e.g., consulting)
for the same clients.

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3. Corporate Responsibility

Sec. 301. Public company audit committees.

Sec. 302. Corporate responsibility for financial reports.

Sec. 303. Improper influence on conduct of audits.

Sec. 304. Forfeiture of certain bonuses and profits.

Sec. 305. Officer and director bars and penalties.

Sec. 306. Insider trades during pension fund blackout periods.

Sec. 307. Rules of professional responsibility for attorneys.

Sec. 308. Fair funds for investors.

➢ Title III consists of 8 sections

➢ CEO and CFO must review all financial reports.
➢ Financial report does not contain any misrepresentations.
➢ Information in the financial report is "fairly presented".
➢ CEO and CFO are responsible for the internal accounting controls.
➢ CEO and CFO must report any deficiencies in internal accounting controls, or any
fraud involving the management of the audit committee.
➢ CEO and CFO must indicate any material changes in internal accounting controls.
➢ Top management also need to clarify that they have reviewed the internal control
existing in the organization and that has been done within a period of 90 days before
the reporting date

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 4. Enhanced Financial Disclosures

Sec. 401. Disclosures in periodic reports.

Sec. 402. Enhanced conflict of interest provisions.

Sec. 403. Disclosures of transactions involving management and principal

stockholders.

Sec. 404. Management assessment of internal controls.

Sec. 405. Exemption.

Sec. 406. Code of ethics for senior financial officers.

Sec. 407. Disclosure of audit committee financial expert.

Sec. 408. Enhanced review of periodic disclosures by issuers.

Sec. 409. Real time issuer disclosures.

➢ Title IV consists of 9 sections.

➢ All financial statements and their requirement to be accurate and presented in a
manner that does not contain incorrect statements or admit to state material
information.
➢ Such financial statements should also include all material off-balance sheet
liabilities, obligations, and transactions.
➢ All annual financial reports must include an Internal Control Report stating that
management is responsible for an "adequate" internal control structure and an
assessment by management of the effectiveness of the control structure
➢ Companies are required to disclose on an almost real-time basis information
concerning material changes in its financial condition or operations

5. Analyst Conflicts of Interest

Sec. 501. Treatment of securities analysts by registered securities associations and

national securities exchanges.

➢ Title V consists of only one section

➢ Which includes measures designed to help restore investor confidence in the
reporting of securities analysts.
➢ It defines the codes of conduct for securities analysts and requires disclosure of
knowable conflicts of interest.

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6. Commission Resources and Authority

Sec. 601. Authorization of appropriations.

Sec. 602. Appearance and practice before the Commission.

Sec. 603. Federal court authority to impose penny stock bars.

Sec. 604. Qualifications of associated persons of brokers and dealers

➢ Title VI consists of 4 sections

➢ Defines practices to restore investor confidence in securities analysts.
➢ It also defines the SEC's authority to censure or bar securities professionals from
practice.
➢ Defines conditions under which a person can be barred from practicing as a broker,
advisor, or dealer.

7. Studies and Reports

Sec. 701. GAO study and report regarding consolidation of public accounting firms.

Sec. 702. Commission study and report regarding credit rating agencies.

Sec. 703. Study and report on violators and violations

Sec. 704. Study of enforcement actions.

Sec. 705. Study of investment banks.

➢ Title VII consists of 5 sections

➢ Requires the Comptroller General and the SEC to perform various studies and
report their findings.
➢ Studies and reports include the effects of consolidation of public accounting firms,
the role of credit rating agencies in the operation of securities markets, securities
violations and enforcement actions
➢ Whether investment banks assisted Enron, Global Crossing and others to
manipulate earnings and obfuscate true financial conditions.

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 8. Corporate and Criminal Fraud Accountability

Sec. 801. Short title.

Sec. 802. Criminal penalties for altering documents.

Sec. 803. Debts non-dischargeable if incurred in violation of securities fraud laws.

Sec. 804. Statute of limitations for securities fraud.

Sec. 805. Review of Federal Sentencing Guidelines for obstruction of justice and
extensive criminal fraud.

Sec. 806. Protection for employees of publicly traded companies who provide
evidence of fraud.

Sec. 807. Criminal penalties for defrauding shareholders of publicly traded

companies.

➢ Title VIII consists of 7 sections

➢ Is also referred to as the "Corporate and Criminal Fraud Accountability Act of
2002".
➢ It describes specific criminal penalties for manipulation, destruction or alteration
of financial records or other interference with investigations.
➢ While providing certain protections for whistle-blowers.
➢ Protection for employees of publicly traded companies who provide evidence of
fraud

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 9. White Collar Crime Penalty Enhancement

Sec. 901. Short title.

Sec. 902. Attempts and conspiracies to commit criminal fraud offenses.

Sec. 903. Criminal penalties for mail and wire fraud.

Sec. 904. Criminal penalties for violations of the Employee Retirement Income
Security Act of 1974.

Sec. 905. Amendment to sentencing guidelines relating to certain white-collar

offenses.

Sec. 906. Corporate responsibility for financial reports.

➢ Title IX consists of 6 sections.

➢ This section is also called the "White Collar Crime Penalty Enhancement Act of
2002".
➢ This section increases the criminal penalties associated with white collar crimes and
conspiracies.
➢ Section 906 addresses criminal penalties for certifying a misleading or fraudulent
financial report.
➢ Under SOX 906, penalties can be upwards of $5 million in fines and 20 years in
prison.
➢ It recommends stronger sentencing guidelines and specifically adds failure to certify
corporate financial reports as a criminal offense.

10. Corporate Tax Returns

Sec. 1001. Sense of the Senate regarding the signing of corporate tax returns by chief
executive officers

➢ Title X consists of one section.

➢ Section 1001 states that the Chief Executive Officer should sign the company tax
return.

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 11. Corporate Fraud Accountability

Sec. 1101. Short title.

Sec. 1102. Tampering with a record or otherwise impeding an official proceeding.

Sec. 1103. Temporary freeze authority for the Securities and Exchange Commission.

Sec. 1104. Amendment to the Federal Sentencing Guidelines.

Sec. 1105. Authority of the Commission to prohibit persons from serving as officers or
directors.

Sec. 1106. Increased criminal penalties under Securities Exchange Act of 1934.

Sec. 1107. Retaliation against informants.

➢ Title XI consists of 7 sections.

➢ Section 1101 recommends a name for this title as "Corporate Fraud Accountability
Act of 2002".
➢ It identifies corporate fraud and records tampering as criminal offenses and joins
those offenses to specific penalties.
➢ It also revises sentencing guidelines and strengthens their penalties.
➢ This enables the SEC to resort to temporarily freezing transactions or payments that
have been deemed "large" or "unusual".

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SOX impact in Financial Reporting in India:
India also took new corporate governance norms under Clause 49 of Listing Agreement
which came into effect from 31 December 2005 and is mandatory for all listed companies. Some
of the important provisions are as follows:
➢ As per the Clause 49, it is mandatory for a company with Executive Chairman, to have 50%
independent directors on Board.
➢ If the company has no Executive Chairman, 1/3rd of the directors should be independent.
➢ CEO/CFO’s are required to assess internal controls and take corrective measures to check
the deficiencies.
➢ CEO/CFOs are also required to certify the Financial Statements.
➢ All the companies are required to submit quarterly Compliance Reports at Stock
Exchanges.
➢ A Compliance Certificate from auditors is to be obtained and annexed with Directors’
Report.
➢ Establishment of an Audit Committee.
➢ Clause 49 was revised to incorporate wider definition of independent directors and
increasing the responsibility of audit committee.
➢ Whistle Blower Policy is to be set out to provide security to those who retaliate against
wrong doers.
➢ Formal Code of Conduct is to be laid down for Board of Directors and Senior Management
of the organization.
➢ Related Party Transactions are to be disclosed separately making the financial statements
more transparent.

Conclusion:
An Act to protect investors by improving the accuracy and reliability of corporate
disclosures made pursuant to the securities laws and for other purposes. Thus, SOX is an essential
law which has brought discipline in financial reporting process. The transparency brought by this
act is boosting investor’s confidence that further helps building a strong capital market in the
economy.

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