Sarbanes-Oxley
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The Sarbanes-Oxley Act
In July of 2002, Congress passed a new law which very well may revolutionize the way businesses control their finances and accounts. This law is known as the Sarbanes-Oxley Act (SOX) or the Public Company Accounting Reform and Investor Protection Act of 2002. Named for Senator Paul Sarbanes and Representative Michael G. Oxley, the act was a result of numerous corporate and accounting scandals affecting the trust of millions of investors worldwide in any future investments. The act contains 11 sections which cite different corporate board responsibilities, criminal penalties and how each company must comply with the regulations. Though it is still too early to tell, many consider the Sarbanes-Oxley Act to be one of the most significant changes to U.S. securities laws since President Roosevelts New Deal program.
The companies that played a part in the drawing up of the Sarbanes-Oxley Act with their corporate scandals were some of the most successful and well known businesses in the United States. These companies include but are not limited to Tyco International, Peregrine Systems, WorldCom and most famously Enron.
The largest culprit of the above mentioned companies, leading to the formation of the Sarbanes-Oxley Act was Enron, which made headlines from 2001-2002. Enron, one of the countries leading companies in energy production employed about 21,000 people and generated around $111 billion in revenue annually before declaring for bankruptcy in early December of 2001. It had even been named Americas Most Innovative Company by Fortune Magazine for six consecutive years, unknowing of the train wreck that was about to unfold.
Enron had created offshore entities, providing the company with full freedom of currency movement anonymously, allowing them to hide the fact that they were actually losing money. Because of this, Enron was made to look more profitable than it actually was and accountants would have to constantly doctor financial information so that the company still appeared to be generating billions in profits even though it actually was not. Enrons stock price then soared to new levels, prompting top executives to inside trade millions of dollars worth of Enron stock.
In August of 2000, Enrons stock price hit its highest value at $90 per share. This is the point when Enron executives began to sell their shares all the while encouraging the general public to buy more shares of Enrons stock. They were told that the stock would continue to rise to possibly $130 or $140, which of course never happened. When the executives started selling their shares, the price soon began to plummet. Even as the stock price was steadily declining, investors were encouraged to keep their shares because the stock price would soon bounce back.
By August of 2001, even though Enrons stock price had fallen to $42, shareholders held on because Kenneth Lay, CEO of Enron kept assuring them that the company was headed in the right direction. As October rolled around, the stock had fallen to $15. Due to the cheap price, many saw this as a great opportunity to buy stock in Enron because of what Kenneth Lay had been feeding the media.
On November 30, 2001, Enrons European branches filed for bankruptcy. Two days later, on December 2, 2001, Enron filed for Chapter 11 bankruptcy in the United States. This became the biggest bankruptcy in U.S. history, and more than 4,000 Enron workers found themselves unemployed.
Lay has been accused of selling over $70 million worth of stock at this time, which he used to repay cash advances on lines of credit. He sold another $20 million worth of stock in the open market. Soon, Enrons stock price would fall to about 30 cents per share (Swartz).
After several top executives were put on trial for the Enron scandal, more cases of accounting scandals and insider trading were exposed. One such example is the collapse of WorldCom.
Bernard Ebbers, the CEO and founder of WorldCom, became very successful by running the second largest long distance phone company in the United States. However, he soon faced hard luck when a proposed merger with Sprint fell through in 2000. When WorldComs stock began to decline, it became increasingly difficult to finance his other businesses which relied heavily on WorldCom. In 2001, Ebbers was able to persuade WorldComs board of directors to loan him over $400 million to cover his margin calls. When his strategy failed, he was removed from his position and replaced by John Sidgmore.
From 1999 until May of 2002, the company had been using fraudulent accounting practices to cover up its declining financial status by making it appear as if it were in a period of financial growth in hopes of increasing the price of WorldComs stock. They were able to do this by underreporting line costs, in which instead of expensing them on their balance sheet they capitalized them. They also inflated their revenues with false accounting entries.
Eventually, the companys internal audit department uncovered approximately $3.8 billion of the fraud in June 2002 during a routine examination of capital expenditures and alerted the companys new auditors. Soon after, the companys audit committee and board of directors were notified of the fraud. Several of the top executives were then either fired or resigned, including Arthur Andersen who was also involved with the Enron scandal. The U.S. Securities and Exchange Commission launched an investigation into these matters on June 26, 2002. On July 21, 2002, WorldCom filed for Chapter 11 bankruptcy. By the end of 2003, it was estimated that the companys total assets had been inflated by about $11 billion. It is to date the largest such bankruptcy filing in United States history (Jeter).
Before any news had even broke out about the WorldCom scandal, Representative Michael G. Oxley (R-OH) presented his bill (H.R. 3763) to the House of Representatives on how to prevent future disasters like Enron from occurring. The House passed Representative Oxleys bill on April 25, 2002, by a vote of 334 to 90, which became the Corporate and Auditing Accountability, Responsibility, and Transparency Act (CAARTA). However, Senator Paul Sarbanes (D-MD) was currently working up a proposal of his own, Senate Bill 2673.
Senator Sarbanes bill passed the Senate Banking Committee on June 18, 2002, by a vote of 17 to 4. Just one week later, on June 25, 2002, WorldCom had revealed that they inflated their earnings by more than $7.2 billion during the past five quarters, which was controversial enough before it would be discovered that the numbers were actually inflated by $11 billion over a year later. On that same day, Senator Sarbanes