Sar ox Ripples Into Private Firms
Is closer scrutiny of private companies and nonprofits next?
Although Sarbanes-Oxley rules apply only to publicly registered companies, there are effects that are going to trickle down to the private area, said Richard Hanna, immediate past chairman of the Michigan Association of Certified Public Accountants.
According to Hanna, the trickle-down will touch not only corporations, but every type of business, plus nonprofits and governmental entities.
“Even though they are not required to follow Sarbanes-Oxley, there are going to be a lot of situations where people are going to say, ‘Why aren’t you?’
“We’re starting to see some court rulings where private companies now are being held up to the same standards as public companies. Some cases have come out regarding executive compensation.”
For example, in a May 2003 ruling in the case of Pereira v. Cogan, U.S. District Judge Robert Sweet of the Southern District of New York applied the same standard of fiduciary responsibility used for the directors and officers of public companies to the directors and officers of a private company.
Hanna gave as another example a large company that depends on a number of private suppliers.
“If one of the suppliers were to go belly up, it could put the company in the lurch. So now, the public company looking at a private supplier is going to want to know maybe more information than they’ve asked for in the past to determine whether the supplier is dependable.”
Many privately held companies are looking at Sarbanes-Oxley and voluntarily adopting some of the guidelines as policy in their own organizations simply because it makes good business sense to prevent fraud and protect stakeholders.
The American Institute of Certified Public Accountants (AICPA), in conjunction with MACPA, has just introduced a 136-page “audit committee toolkit,” a handbook outlining the steps a private company or nonprofit needs to take to put appropriate internal accounting controls in place.
The handbook contains checklists, matrices, questionnaires and other materials designed to help audit committees understand their rules and responsibilities and has sections for public companies, private companies and nonprofits. The toolkit is available through either organization and also is downloadable on the AICPA Web site.
The goal is to try to get all the various entities — public, private, nonprofit — to adopt these best practices, Hanna said.
“Many of them have already, and many of them have had those best practices for years. But there are a number of them that want to improve where they’re at. They’ll be able to better manage their company when they do that, too.”
A survey released March 30 by J.D. Power and Associates indicated that only 20 percent of audit committees are practicing procedures required under Sarbanes-Oxley. The report was based on the responses of 1,658 audit committee chairs and CFOs at SEC-listed companies.
According to the report, “implementing certain best practices leads to higher ratings of the audit and of auditor performance, which drives higher confidence in the accounting industry.”
One of the benefits of the toolkit is that it gives private businesses and nonprofits an opportunity to get ahead of the curve, said Sue Kelly, director of finance for the Michigan Education Association and a member of the MACP.
“It’s not required. It’s best practice,” Kelly remarked. “It’s going to instill confidence in your donors if you’re a nonprofit and your business owners if you’re a nonpublic company.
“There are a lot of good folks out there that are trying to do the right thing but they just don’t know how. This is where they can start.”
Both Kelley and Hanna believe that the benefits of adopting best practices far outweigh the costs of putting them in place.
“The cost of facing embezzlement or fraud is incredible,” Kelley observed.
It’s not only incredibly costly, it’s devastating to the people that are involved, to donors and to the community the organization serves, she said.
“Yes, there will be some additional time involved and some additional funds involved, but the benefit of not having to deal with embezzlement or fraud is significant.”
The MACPA expects adherences to best practices will become more and more important in regard to mergers and acquisitions and in regard to private companies that want to go public.
“Banks are starting to look at this in terms of lending, too,” Hanna said. “All the financial institutions, I think, are following this.”