U.S. public companies are in their fourth year of Sarbanes-Oxley Act compliance efforts. Having gone through their initial section 404 audits, many are turning their attention to making adherence to the law less costly. As the scope of the regulation has grown clearer and the Securities and Exchange Commission (SEC) has stated it wants sensible enforcement, senior finance executives are in positions to make sensible investments in process and systems improvements. Ventana Research advises companies to avoid band-aid approaches because they are likely to prove to be more expensive and less secure.
Many executives' attitude to regulatory compliance can be summed up in the phrase, "If 60 is the passing grade and we get a 61, we've obviously wasted time and money." While we have a certain sympathy for this approach, we also believe it likely to produce false economies when it comes to Sarbanes-Oxley Act section 404. Companies were able to spend less on the second year of SOX because they had paid the one-time start-up costs, had climbed the learning curve, felt fewer remediation issues and reduced audit costs because fewer controls were tested. Ventana Research asserts public companies should be able to cut the expense of complying with the law even further in ways that are likely to increase the effectiveness of their financial controls.
Eliminating manual processes or steps associated with the preparation of financial statements, as well as reducing use of stand-alone spreadsheets, will save companies time and money. Before Sarbanes-Oxley, such automation may not have been cost-effective, but now it will be. Compared to automating calculations (for example, cost allocations or amortization schedules), manual operations and spreadsheets take longer to execute and produce errors that take time and effort to discover and correct. Stand-alone spreadsheets are notoriously error-prone, and managing the ones that are "in scope" (that is, those that could materially affect the financial statements if there were errors or fraud) is a time-consuming and potentially costly process. Examining in-scope spreadsheets adds to the cost of a company's audit fees. In some cases, companies have had to restate their results because of mistakes in spreadsheets that went undetected even after multiple checks and audits.
Lacking time and proper guidance from their auditors, companies tried to play it safe by creating more controls than they really needed. Many were able to cut the number of controls in their financial systems in the second year, and we expect to see this trend continue as controllers and internal auditors redesign systems, processes and their related control structures to enable fewer high-level controls to do the job of monitoring and detecting issues. Often, this very restructuring can increase the efficiency of the underlying financial processes.
Faster accounting closes and a more mature control environment go hand-in-hand. While finance executives have indicated their desire to accelerate their close for more than a decade, our research finds companies have made little progress in this area since the late 1990s. Closing is a process where companies are especially vulnerable to error and fraud and therefore must exercise great caution. In our view, addressing the root causes that drive a longer close also will enhance a corporation's financial control by eliminating the sources of error and fostering transparency. We have found, for example, that companies that limit their use of stand-alone spreadsheets in their closing processes are able to finish faster than those that do not.
Furthermore, as the scope and details of the administrative elements of compliance are clearer, public companies must automate these tasks. Not only does using dedicated compliance software cut the time-consuming "administrivia" burdens on executives, it also should reduce the risk of making errors in the documentation process or improperly saving and archiving evidence of complying with the law.
The fears, uncertainty and doubt surrounding Sarbanes-Oxley are dissipating. Replacing them is recognition that companies can and should address the cost drivers underlying compliance. Ventana Research thinks a majority of public companies will be able to reduce their compliance costs through greater automation of financial processes, fewer stand-alone spreadsheets, more elegantly designed control structures and software support of compliance process execution. We believe almost all companies will find that these sorts of investments have a positive return because they reduce operating costs and lower the risk of financial fraud and error.
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