During the 2005-06 academic year, I participated in four separate overseas forums (in Berlin, Rome, Tokyo, and Warsaw) focused largely on corporate governance. I found considerable responsiveness to corporate governance themes that have been important in the united States for the past 30 years and dominant since the scandals that began with Enron in late 2001.
Among the key themes discussed were the need for stronger: (i) oversight of senior corporate managers by independent directors; (ii) financial disclosure and more timely disclosure; (iii) oversight of the accounting profession; and (iv) public and private enforcement efforts to enhance accountability and deterrence. The Sarbanes-Oxley act, signed into law on July 30, 2002, dramatically enhanced U.S. law in each of these areas. Although there is currently some business backlash to Sarbanes-Oxley, almost all serious observers understand how successful the legislation has been. During the summer of 2002, U.S. financial markets were in turmoil and the business community was in disrepute. Today, although things are still imperfect, a large element of public distrust has disappeared. And more than the atmosphere has changed; U.S. law is genuinely far more effective now than it was in 2002. Sarbanes-Oxley (and related SEC reforms) have made the U.S. more competitive by encouraging investment, continuing our low cost of capital, and avoiding unnecessary transaction costs (because of perceived disclosure weaknesses and a concomitant need for enhanced, costly due diligence).
These last points are what have been changing the original hostile reactions (e.g., too expensive, too intrusive) to Sarbanes-Oxley overseas.
My view is that Sarbanes-Oxley's added cost is greatly outweighed by the investor confidence it properly instills, which in turn makes U.S. financial markets the deepest, most liquid, and least costly (in terms of capital formation) in the world. Much of the world has come to understand the enormous economic blessing created by having more than half our population willing to invest in corporate securities.
In terms of substantive changes since 2002, independent directors on corporate boards, and particularly on audit committees, are now far more active and demanding.Sarbanes-Oxley, SEC rulemaking initiatives, and public and private litigation efforts have spurred this serious, sustained activity. Sarbanes-Oxley and SEC rulemakings have also realigned the loyalties of outside auditors, moving them from senior managers to independent directors. Dispassionate, independent members of the audit committee (as opposed to senior managers under pressure) are now "directly responsible" for the appointment, evaluation, compensation, and, where appropriate, removal of a corporation's outside auditor. As the world has come to understand the critical importance of high quality disclosure, U.S. disclosure has become stronger and more timely.
In another area, at the heart of Sarbanes-Oxley was the establishment of the Public Company Accounting Oversight Board (PCAOB). The PCAOB replaced a failed system of accounting industry self-regulation. Initially, much of the world, and the European Union in particular, was hostile to requirements that non-U.S. auditors (serving foreign U.S. listed companies or foreign subsidiaries of U.S. companies) register with and be inspected by the PCAOB. Today, most EU nations have moved to accounting industry oversight systems that are similar to the PCAOB, and inspection concerns have largely disappeared. As the Council of Institutional Investors recently concluded (in an amicus brief, which I helped to draft, responding to a constitutional challenge to the PCAOB):
... the Council urges the Court to recognize the enormous importance that the success of the PCAOB has for the investing public. Acting within the constitutional framework, Congress has carefully designed a body with the necessary independence, accountability, and authority to restore the public's trust in auditing and its confidence in the financial reports of public companies. In the interest of protecting American investors, the PCAOB should be permitted to continue doing the job Congress has charged it with doing.
Finally, much of the world has been skeptical about the use of large public and private enforcement efforts in the United States as a way of obtaining law compliance and compensating victims of financial fraud. My view has always been that even good rules are of only limited value unless they are rigorously enforced in our courts. The world has begun to understand. Public and private law enforcement were key issues discussed at each foreign forum that I attended during the past year.
There is growing recognition abroad that corporations, the individuals who comprise them, and various so-called gatekeepers (e.g., accountants and lawyers) must know that they are likely to be held accountable for wrongdoing if a regulatory scheme is to work. Effective deterrence requires a strong, credible threat. It is that threat that creates powerful incentives to avoid wrongful acts and to bring about the cultural, procedural, and process changes necessary to protect investors.
Today, in the United States, given the need to compensate victims of fraud and serious threats to SEC enforcement created by sharp limits that have been imposed on the SEC's funding, private actions are more than, in traditional SEC words, "a necessary supplement to the Commission's efforts. "Private actions are absolutely essential if our corporate-securities regulatory system is to work.