Among the many compliance perils created by the Sarbanes-Oxley Act of 2002, one of the least talked about could well be the act's effect on corporate health-benefit programs.

The lack of discussion is understandable. To be sure, benefit managers commonly operate under the wing of human resources executives, who in turn report up to chief financial officers. Yet finance and HR often seem to live in two different worlds. That's been especially true since the passage of Sarbanes-Oxley: While finance executives have scrambled to comply with new reporting and certification requirements, benefits caretakers have largely watched from the sidelines.

That's changing. Under Sarbanes-Oxley Section 302, CFOs and CEOs must certify that their companies' quarterly and annual filings are true and that they omit no material facts. And facts about employee health care are becoming nothing if not more material: Employee benefits now typically represent a company's third-biggest expense, trailing only cost of goods sold and non-manufacturing payroll, according to a report published earlier this year in The McKinsey Quarterly. Health insurance is the fastest-rising component; between 1986 and 2003, it climbed at an annual compound growth rate of 6.7 percent. By comparison, the report noted that government-mandated benefits — including Social Security, Medicare, unemployment insurance, and workers' compensation — rose 5.3 percent during that period.

What's more, in order to sign off on those filings, finance chiefs arguably must have some grasp of the statements' underlying content. That can be an especially formidable challenge in the retiree-benefits arena, where a transparency-challenged accounting system holds sway. The system's volatility-smoothing techniques — projected out over decades — may obscure real cash demands. (For more on the accumulating cloudiness of retiree-benefit accounting, see "Prescription Change" in the June issue of CFO magazine.)

Determining a company's future benefit burden, in turn, involves the mystifying task of predicting the future of health-care costs. The alarmingly sustained double-digit inflation in benefit expense over the last five years, coupled with "the inherent complexity of the health-care supply chain," make such forecasting extremely difficult for individual companies, says Sreedhar Potarazu, president and chief executive officer of VitalSpring Technologies. (In this context, supply chain means the complicated billing, service, and financial connections among employees and retirees, doctors and hospitals, employers, insurers, and third-party administrators.)

And when wide-of-the-mark forecasts lead to errors on the income statement, those errors can build on themselves and invite unwanted attention from investors and regulators. "This has a cascading effect," says Potarazu, whose company provides software that culls corporate health-benefits data. "When previous estimates turn out to be inaccurate, increased scrutiny is inevitably placed on the processes and controls behind those predictions."

Sarbanes-Oxley Section 404 has already trained the spotlight on Corporate America's internal controls for financial reporting. Given the increasing national focus on the cost of health care — witness the recently-passed Medicare reform law — some finance departments have already found it prudent to take a closer look at the intersection of employee benefits and internal controls.

Sarbanes-Oxley has raised expectations that benefits-related errors will be rectified, observes Mike Aldrich, director of total compensation at Pactiv Corp., the maker of Hefty bags. Aldrich says that the need to supply Sarbox documentation has compelled him to dig deeper into the company's benefit-payment processes and data. If an internal-controls breakdown produces errors on the financials, he adds, "people are not going to care that it's come from health insurance."

Tricky Lineups
The way employee health coverage is structured at most companies, however, presents barriers for a finance executive who needs a clear view of benefit costs and internal controls, experts suggest.

That's because corporate health-benefit plans are largely self-funded. In 2003, 52 percent of employees with coverage were in a plan that was partly or completely self-insured, according to a survey by the Kaiser Family Foundation's. For companies with 5,000 or more workers, that figure was 79 percent.

But companies that insure themselves may also be saddling themselves with unacknowledged risk. "Investors need to take this risk into account when valuing a company with [a retiree health-benefits] plan," advised a 2003 Credit Suisse First Boston report on retiree benefits. "They are not only investing in an operating company, but they may also be purchasing a healthcare insurance company." Added CSFB analyst David Zion, one of the report's authors, "Is the company capable of managing that risk?"

For many companies, to be sure, the benefits of self-insuring outweigh the risks; money that might have been dedicated to premiums can be used for other corporate purposes until claims must be paid. At Delphi Corp, for example, a single catastrophic health-care case isn't likely to cause much of a financial ripple. CFO Alan Dawes notes that health-care spending at the auto-parts giant totals about $1.5 billion annually.

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