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Four years after the Sarbanes-Oxley Act was introduced it has become increasingly apparent that in its aim to protect investors from the Enrons, WorldComs and Adelphias, Sox has unintentionally created an environment that discourages smaller, innovative companies from accessing US capital markets and impedes the ability of US exchanges to compete against foreign exchanges.
I am not in favour of dismantling Sox. The intent of this regulation is laudable. There is value in having legislation that protects the investing public from corporate malfeasance. I do not believe the model of having investment banks monitor their clients, often the case in the UK, effectively protects investor interests. I support a tough regulatory environment that allows competition to thrive.
Most companies are happy to abide by higher standards to access the US capital markets if those requirements are rational and consistent with full disclosure obligations and accountability. Corporate leaders should bear responsibility for providing accurate financial information and personally signing the certification. This requirement of fully understanding and agreeing to the financial statement is something almost all hands-on, honest chief executives already meet.
However, excessive and costly regulation – no matter how well meaning – is having a stifling effect on capital formation and economic growth. I am especially concerned about the effects of Sox on small businesses, as I see a growing trend of entrepreneurial companies deciding not to go public or listed companies opting to delist because of the high costs of complying with Section 404, which requires designing, documenting and auditing of financial controls.
To avoid high costs and burdensome regulatory requirements, many innovative companies are turning to foreign exchanges to list. Before the implementation of Sox they would have automatically listed on a US exchange. A recent study by PwC showed that US exchanges listed 221 initial public offerings in 2005, down from 260 IPOs in 2004. In that period, European bourses showed a nearly 40 per cent jump in IPO listings, with 603 IPOs in 2005 up from 433 IPOs in 2004.
The US capital markets have been the most enviable in the world but excessive regulatory hurdles are devaluing a listing on a US exchange. One UK-based exchange boasts that companies it lists do not have to comply with the US regulatory environment. It is difficult to compete with a marketing campaign whose primary message is: “No Sox requirements”, even if that means “we support lower standards.”
As chairman and chief executive of the Amex, the only national exchange focusing on smaller companies, I have a corporate interest in seeing these companies succeed on a US exchange. I have testified to a congressional subcommittee and to the Securities and Exchange Commission on the need for modification of Section 404 and regulatory clarity. Sox makes no distinction between a $50bn large-cap company and a $75m small-cap company. Failure to recognise this difference makes it difficult for smaller companies to compete and grow.
Three steps could help mitigate the harsh, unintended consequences of Sox, while retaining the public benefits of high standards of investor protection: first, clearly define through a public company accounting oversight board interpretation of specific standards for compliance with Section 404. These standards could differ based on criteria such as revenues or market capitalisation. Second, relieve companies that receive clean Section 404 certifications from the cost of annual certification in favour of bi- or tri-annual certification. Third, allow the smallest public companies to choose an exemption from Section 404 compliance and allow for disclosure to investors of such choice.
Without quick recognition by US regulators, more companies will look for exchanges that have a “light-touch” regulatory system. Ed Balls, UK Treasury minister, used that term to describe the UK’s regulatory environment following bids by the New York Stock Exchange to buy Euronext, and Nasdaq to buy the LSE. US exchanges should not have to buy a foreign exchange to acquire foreign listings and be exempt from US jurisdiction.
In a global economy, Sox has effectively created an opportunity for regulatory arbitrage favouring the lowest- cost host nation. Sox was good medicine for corporate ills but even good medicine prescribed without due care for side-effects can be toxic.
The writer is chairman and chief executive of the American Stock Exchange
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