Risk & Compliance

Material Weaknesses and Share Price

Just 12 of 18 companies that made material-weakness disclosures in February saw their share price fall the day after, according to a recent analysi...
Stephen TaubMarch 11, 2005

Investors don’t seem to be punishing companies that report material weaknesses in their internal controls under Section 404 of the Sarbanes-Oxley Act, according to an analysis conducted by Compliance Week. (As for whether the CFOs of these companies will pay the price anyway, that’s a matter of wait-and-see.)

The publication’s website, citing data from Raisch Financial Information Services, found that just 12 of 18 companies that made material-weakness disclosures in February saw their share price fall the day after the disclosure. And in 6 of the12 cases, the decline was less than 2 percent.

Compliance Week made a point of noting that the short-term market reaction cannot specifically be attributed to the disclosures.

RAE Systems, for example — which develops and manufactures chemical and radiation detection devices — saw its share price plunge nearly 20 percent after the company disclosed that its auditors would likely disclaim a Section 404 opinion. The publication observed, however, that RAE Systems also reported a year-over-year decline in net earnings.

Compliance Week also noted that of 31 companies that recently went public, 19 made no reference to deficiencies in internal controls, while 12 listed Section 404 compliance as a risk factor. Four companies actually disclosed past internal-control deficiencies and warned against possible late filings, yet according to the publication, all four companies completed their IPOs.

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