SEC Declines to Extend Exemptions for Audits of Management Reviews

One thing that smaller companies complain about is burdensome regulation imposed upon them by Congress and the SEC.  One particularly troubling area has been Section 404(b) of the Sarbanes-Oxley Act, requiring auditors to independently audit management’s review of internal controls.

Fortunately, Congress recently exempted companies with less than a $75 million market capitalization from this requirement.  But when given a chance by the recent Dodd-Frank Reform Bill to expand this exemption to a little bit larger companies, the SEC punted and said “No Way!”

As the staff said in this excerpt from their release published in a recent study (downloadable here):

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The Staff believes that the existing investor protections for accelerated filers to comply with the auditor attestation provisions of Section 404(b) should be maintained (i.e., no new exemptions). There is strong evidence that the auditor‘s role in auditing the effectiveness of ICFR improves the reliability of internal control disclosures and financial reporting overall and is useful to investors. The Staff did not find any specific evidence that such potential savings would justify the loss of investor protections and benefits to issuers subject to the study, given the auditor‘s obligations to perform procedures to evaluate internal controls even when the auditor is not performing an integrated audit. Also, while the research regarding the reasons for listing decisions is inconclusive, the evidence does not suggest that granting an exemption to issuers that would expect to have $75-$250 million in public float following an IPO would, by itself, encourage companies in the United States or abroad to list their IPOs in the United States. The Staff acknowledges that the reasons a company may choose to undertake an IPO are varied and complex. The reasons are often specific to the company, with each company making the decision as to whether and where to go public based on its own situation and the market factors present at the time. The costs associated with conducting an IPO and becoming a public company no doubt factor into the decisions and may be particularly challenging for smaller companies. The Staff appreciates that the costs and benefits of the regulatory actions that the Commission takes – and does not take – certainly can impact these decisions. At Chairman Schapiro‘s request, the Staff is taking a fresh look at several of the Commission‘s rules, beyond those related to Section 404(b), to develop ideas for the Commission about ways to reduce regulatory burdens on small business capital formation in a manner consistent with investor protection. However, the Dodd-Frank Act already exempted approximately 60% of reporting issuers from Section 404(b), and the Staff does not recommend further extending this exemption.

We are all for meaningful regulation of smaller businesses, but respectfully disagree with the SEC staff’s conclusion.

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