When Congress enacted the legislation known as the Sarbanes-Oxley Act in 2002, it fundamentally changed the way public companies operate. The law mandated sweeping changes in accounting and corporate governance matters as well as in reporting requirements to the Securities and Exchange Commission. Since 2002, executives and directors of both private companies and nonprofit organizations have become increasingly focused on the potential application of Sarbanes-Oxley-driven changes to their business operations. Three of Cozen O'Connor's corporate attorneys provide answers to those concerns.
Question: Why are executives and directors of private and nonprofit companies considering the impact of Sarbanes-Oxley?
Busis: First, you can't get away from the subject. The legislation has co-opted the debate on how businesses should operate. Sarbanes-Oxley underscores many of the issues critical to good corporate governance. Whether a private, public or nonprofit entity, every organization has business, ethical and fiduciary duties requiring it to make sure that solid corporate governance policies are in place.
There is much buzz about certain Sarbanes-Oxley rules becoming "best practices" for private companies and nonprofits. Moreover, we have seen a number of nonpublic companies adopting or working toward implementing some of the Sarbanes-Oxley-type corporate governance procedures. The concepts that have received the most attention include increasing the independence of the board of directors, creating more "transparency" in financial reporting, strengthening internal audit functions, and adopting a code of ethics and corporate governance policy guidelines.
Question: Is it advisable for private companies to adopt Sarbanes-Oxley's "best practices" policies?
Haas: Under specific circumstances it is advisable to adopt a number of the provisions, and many private companies are under increasing pressure to do so. For example, any company contemplating an initial public offering or a sale to a public company would need to be sensitive to many of these items. For example, the internal audit and other financial controls would be critical to the company's ability to comply with public reporting requirements after the IPO or sale.
In addition, some lenders, equity investors and insurers have begun to apply pressure on companies to adopt some of the accounting and corporate governance provisions. Moreover, some private companies that do business with public companies or government agencies - whether as vendors, consultants, or subcontractors - are being asked about their compliance procedures as part of the bidding and contracting process.
Question: Are nonprofits under the same pressure to adopt certain Sarbanes-Oxley rules?
Brucker: Yes. Many nonprofits are experiencing the same type of pressure as private companies to improve their corporate governance and financial reporting. For example, in considering grant applications, an increasing number of charitable foundations expect nonprofits to implement some of the corporate governance and accounting polices established by Sarbanes-Oxley.
In addition, a number of states have either proposed or are considering enacting legislation that would impose on nonprofits certain corporate governance rules and financial reporting guidelines that are derivative of Sarbanes-Oxley. For example, California enacted legislation, effective January 1, 2005, which mandates that charities required to file reports with the California Attorney General adopt certain financial reporting and corporate governance rules.
Similarly, certain Congressional committees have held hearings on the advisability of bringing some Sarbanes-Oxley like reforms to the charitable sector. In response to these pressures, many nonprofits are creating handbooks for their directors designed to help them responsibly discharge their various fiduciary duties.
Question: Are there any Sarbanes-Oxley provisions with which private companies and nonprofits are required to comply?
Busis: Yes. Certain Sarbanes-Oxley provisions - for example, those dealing with document destruction and whistleblower protection - apply to all organizations, not just public companies. Sarbanes-Oxley makes it a crime to knowingly destroy, conceal or falsify records with the intent to impede or obstruct a federal investigation. In addition, Sarbanes-Oxley protects the rights of a whistleblower to report wrongdoing to federal investigators without the risk of retaliation.
As a result, private companies and nonprofits should review their document retention policies and policies that encourage people to report potential wrongdoing. Organizations without document retention and whistleblowing policies should be creating them, and those with such policies in place must enforce them.
Question: What direct actions should private companies and nonprofits undertake to demonstrate their commitment to Sarbanes-Oxley's principles?
Haas: Private companies and nonprofits can demonstrate their corporate responsibility by committing to the development of a strong system of internal controls to ensure the quality of financial information, supporting the independence of the board of directors from management and clearly demonstrating a commitment to an ethical business culture from the top down.
For more information, Cozen O'Connor attorneys Richard Busis, Steven Haas and Scott Brucker can be contacted at 215-665-2000.