The Sarbanes-Oxley Act

The Sarbanes-Oxley Act, often abbreviated to SOX, is a federal law passed in the United States in 2002. It outlines requirements for public company boards, management and public accounting firms, with the aim of protecting the general public and company shareholders from errors or fraudulent activities.

The Sarbanes-Oxley Act was named after its chief architects Senator Paul Sarbanes and Representative Michael Oxley. Sarbanes served in the House of Representatives between 1971 and 1977 and as a United States Senator from Maryland from 1977 to 2007. Michael Oxley was a Republican Party member who served as a US Representative in Congress from 1981 to 2005. Both Sarbanes and Oxley sponsored the creation of the Sarbanes-Oxley Act, which was approved by both the House and the Senate and signed into law by George W. Bush.

The Act was conceived in response to numerous accounting scandals in the early 2000s at companies including Texas-based commodities firm Enron, telecommunications corporation WorldCom, and security systems firm Tyco. These scandals reportedly resulted in billions of dollars in losses and shook the confidence of investors in US markets. The Sarbanes-Oxley Act therefore requires an accounting framework to be generated for all publicly-traded organisations in the United States, including non-US companies doing business in the country.

The Act is comprised of eleven sections, but it is generally accepted that sections 302, 404, 401, 409, 802 and 906 are most important in terms of compliance. These sections include key provisions such as the internal procedures necessary to ensure accurate financial disclosure, the requirement to provide evidence of 'off-balance sheet' items often used to disguise debts and assets, and the criminal penalties to be served in the event of non-compliance. In order to comply with the Act, organisations must establish a financial accounting framework and generate financial reports that are verifiable through traceable sources.

Section 404 is seen to be a contentious element of the Sarbanes-Oxley Act. Section 404 requires organisations to publish information in their annual reports about the scope and adequacy of their internal control structure and to analyse the effectiveness of these controls. It has been argued that this section is the most costly element of the Act to implement, and has been likened to a tax on inefficiency which disproportionately hurts smaller companies with less financial resources to dedicate to completing the report.

Since the Act was passed, commentators have argued that the effects of the Act have been broadly beneficial, claiming that markets have benefited from the reforms and the ability to assess companies more effectively. Yet others have pointed out that the financial crisis of 2008 was still possible despite the high levels of reform implemented by the Act, which seemingly did little to prevent the crash and subsequent economic fallout.

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