SEC Announces Roundtable on Internal Control Reporting Requirements

The Securities and Exchange Commission announced today that it will host a roundtable discussion this spring regarding registrants’ and accounting firms’ experiences implementing the new reporting requirements under Section 404 of the Sarbanes-Oxley Act of 2002. The roundtable, which will include representatives of the Public Company Accounting Oversight Board (PCAOB), issuers, auditors, investors and other interested parties, is tentatively scheduled for April 2005.

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Section 404 and rules adopted by the Commission require all entities, both US and non-US, that file annual reports with the Commission to report to investors on management’s responsibilities to establish and maintain adequate internal controls over the company’s financial reporting process. Each report must include management’s assessment of the effectiveness of those internal controls, and Section 404 and the PCAOB’s auditing standards require the accounting firm that audits the company’s financial statements to report on management’s assessment.

Chairman William H. Donaldson said, “U.S. public companies have been required to maintain internal controls, by statute, since 1977. Section 404 reinforces and thus strengthens that obligation. It offers significant long-term benefit in helping to prevent fraud and misdirection of corporate resources and in improving the accuracy of financial reporting. Companies and their auditors are required to report publicly on the effectiveness of internal controls over financial reporting and to describe any material weaknesses in such controls. This should lead to better input for management decisions and higher quality information and stronger protection for investors. While these benefits are clear, it is also important that we evaluate the implementation of our rule and the standard issued by the PCAOB to ensure that these benefits are achieved in the most effective way. Throughout this process, the Commission staff will coordinate closely with the PCAOB.”

PCAOB Chairman William J. McDonough stated, “The readiness of the SEC and the PCAOB to learn from the experience of the first year of implementation of Section 404 of the Sarbanes-Oxley Act is essential to our continued fulfillment of the requirements of the Act.”

Alan L. Beller, Director of the Commission’s Division of Corporation Finance, stated, “The accounting and financial reporting scandals that pre-dated the Sarbanes-Oxley Act left investors doubtful as to the reliability of public disclosure and reporting. Sarbanes-Oxley put measures in place designed to improve disclosure and reporting and investor confidence. In the long run, internal controls may be the most important single step in increasing reliability. Section 404 gives investors the ability to evaluate companies’ internal controls for the first time. We are committed to making our rules implementing Section 404 work. We are dedicated to providing that opportunity in the most effective and efficient way.”

Donald T. Nicolaisen, the Commission’s Chief Accountant, said, “Over the past several months, the Commission staff has discussed with standard setters, investor groups, registrant organizations, accounting firms and others their ongoing efforts to implement Section 404. The roundtable discussions in April are part of a broader review that will continue throughout the spring timeframe. We want to know what worked well and what worked less well. The SEC and PCAOB staff are committed to working closely together to determine ways to improve the crucial internal controls process without sacrificing investor protection. We are committed to hearing from all interested parties regarding our rules and the implementation of Section 404.”

The Commission further announced today that, in addition to the roundtable, it will seek written feedback from registrants, auditors and others on their experiences in implementing the Section 404 internal control reporting requirements. The Commission will post the comments on its web site.

Separately, Chairman Donaldson commented on the potential impact surrounding smaller companies and foreign private issuers. At the request of Commission staff, a task force of the Committee of Sponsoring Organizations (COSO) has been established and anticipates publishing this summer additional guidance in applying COSO’s framework to smaller companies. Also, many foreign private issuers are facing regulatory and reporting challenges in addition to internal control reporting. For example, European companies are moving to prepare reports using international financial reporting standards (IFRS) for the first time in 2005.

The Chairman said, “The benefits of 404 reports are too important not to do it right. An appropriate delay for these issuers might be desirable if, by waiting for smaller companies to have better guidance and for foreign private issuers to work through conversion to IFRS, it achieves more effective implementation of the internal control reporting requirements. I have asked the staff to consider recommending to the Commission an appropriate delay.” Nicolaisen added, “If a delay is provided, these companies should use the time to continue documenting and testing their internal controls. The requirement to report on internal controls will not go away and, if the staff does recommend a delay, we expect that it will be the last time that we do so.”

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