Although congressional enactment of a law designed to improve corporate governance, Securities and Exchange Commission-mandated certification of financial statements, and companies’ voluntary adoption of new practices seem to have gone some way to relieve investors’ concerns about the integrity of the U.S. capital markets, critics contend more fundamental change is required. The table below describes and assesses the potential impact of changes mandated or proposed by Congress and regulatory authorities and of further steps suggested by those pursuing further reform.
Problem | Proposed solution | Intended effects | Chances | Possible drawbacks |
Reporting | ||||
Expense employee stock options | Inhibit large grants | Strong | Fights over expensing formula | |
Expand disclosure in annual reports | Increase transparency | Strong | Investors overwhelmed with minutiae | |
Create stricter standards for Pro Forma | Increase transparency | Done | Investors confused | |
Shift to real-time reporting | Increase transparency | Weak | Technical difficulties; compliance burden for smaller companies | |
Adopt principles-based accounting standards | Rely more on judgment | Almost nil | Incomparability of results | |
Streamline FASB. Assure independent funding | Encourage faster, more independent decisions | Done/ Strong | Less outside input to decisions | |
Tighten rules on off-balance-sheet financing and use of SPEs* | Decrease ability to hide risk | Strong | Credit crunch | |
Tighten rules on revenue recognition | Decrease ability to manage earnings | Strong | Less ability to manage earnings | |
Clarify cash-flow statements | Decrease ability to manipulate operating cash flow | Strong | Less ability to manipulate operating cash flow | |
Require CFO to be a CPA | Improve disclosure | Weak | Compliance burden; more training required | |
Make senior management certify financial statements | Increase accountability | Done | Difficult for recent hires | |
Protect whistle-blowers* | Uncover fraud earlier | Done | Frivolous lawsuits | |
Improve reconciliation of book and tax reporting | Improve correspondence to economic reality | Uncertain | Less ability to manage earnings | |
Audits | ||||
Separate auditing from consulting* | Improve oversight, reduced potential conflicts of interest | Done | Increased cost or decreased quality of audits | |
Rotate auditors every five years* | Improve oversight | Done | Decreased quality of audits | |
Ban hiring of external auditors by clients for three years* | Improve oversight, reduced potential conflicts of interest | Done | Harder for auditors and clients to recruit talent | |
Create new auditor oversight board* | Improve oversight depending on effectiveness | Done | Increase cost of audits | |
Laws and Regulations | ||||
Increase SEC resources | Improve ability to review, investigate, and enforce | Done | Increased regulatory burden | |
Upgrade SEC’s status to cabinet level | Enhance power, resources | Nil | More partisanship | |
Broaden definition of securities fraud* | Increase accountability | Done | Decreased willingness to take risk; increased litigation | |
Increase criminal penalties for securities fraud and obstruction of justice* | Deter crime depending on evidence required | Done | Few convicted on criminal charges | |
Lengthen time investors have to file lawsuits for securities fraud* | Increase executive liability | Done | Increased executive liability | |
Bar use of bankruptcy by executives to escape liability for securities fraud* | Increase executive liability | Done | Increased executive liability | |
Investment Banking | ||||
Separate securities underwriting and research | Reduce conflict of interest | Uncertain | Increased cost of capital; difficult to enforce | |
Protect research analysts from retribution* | Reduce conflict of interest | Done | Increased cost of capital; difficult to administer | |
Separate securities underwriting and lending | Reduce conflict of interest | Done | Increased cost of capital | |
Compensation | ||||
Subject broad-based stock-option plans to shareholder vote* | Reduce size of option grants | Done | Increased compensation costs | |
Restrict employees’ right to exercise options until departure | Align employee and shareholder interests | Weak | Unattractive to employees | |
Award restricted stock instead of options | Align employee and shareholder interests | Uncertain | Increased reported costs to company | |
Ban loans to senior managers from companies* | Prevent excessive loan-granting | Done | Reduced executive stock ownership | |
Compensate CFO in cash based on metric other than stock performance | Focus attention away from short-term share price | Weak | Disruptive conflicts between CEO and CFO | |
Governance | ||||
Make audit-committee members independent* | Improve oversight depending on expertise | Uncertain | Scarcity of candidates | |
Give audit committee authority to hire and fire external auditors* | Improve oversight depending on independence | Done | Bureaucratic slowdown | |
Give board management authority over internal audit | Inhibit misreporting of results | Weak | Confused administrative relationship | |
Make boards of directors independent* | Improve governance depending on expertise | Uncertain | Harder to attract candidates | |
Separate CEOs and board chairmen | Improve governance depending on composition of rest of board | Weak | Potential disconnect between development and execution of corporate strategies | |
Speed reporting of stock trades by officers and directors* | Align management and shareholder interests | Done | Opportunity for late or erroneous information | |
Require audit committee to approve related-party transactions* | Ensure transactions are in all shareholders’ interests | Strong | Reduced compensation to board members | |
Limit board members’ pay* | Maintain independence | Done | Harder to attract candidates | |
Require disclosure of proxy votes by investment advisers | Ensure fiduciary obligations are met | Uncertain | Disruptive shareholder dissent |
*Part of Sarbanes-Oxley Act or rules issued or formally proposed by such regulatory organizations as the SEC, FASB, NYSE, and NASD.