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Regulatory Bodies, Standard Setters, and Best Practices

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Chapter Objectives: Understand the roles and responsibilities of regulators and standard setters. Provide an overview of fundamental provisions of SOX and ... – PowerPoint PPT presentation

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Title: Regulatory Bodies, Standard Setters, and Best Practices


1
Regulatory Bodies, StandardSetters, and Best
Practices
  • Chapter VII

2
Chapter Objectives
  • Understand the roles and responsibilities of
    regulators and standard setters.
  • Provide an overview of fundamental provisions
    of SOX and their impacts.
  • Provide an overview of the evaluation of SOX
    (cost and benefits).
  • Understand why the SEC was established.
  • Provide an overview of the primary functions of
    the PCAOB.
  • Become familiar with the role of the FASB and
    its activities.
  • Provide an overview of the GASB.
  • Understand the challenges facing the IFAC.
  • Identify the primary responsibilities of the
    Committee of European Securities Regulators.
  • Understand the role and authority of the state
    attorney general.
  • Be aware of how state laws affect corporate
    governance.
  • Be aware of the role of courts in corporate
    governance.
  • Become familiar with corporate governance
    listing standards and best practices.

3
Key Terms
  • Accounting and Auditing Enforcement Releases
    (AAERS)
  • Accounting Regulatory Committee (ARC)
  • Administrative law judges
  • American Bar Association (ABA)
  • American Institute of Certified Public
    Accountants (AICPA)
  • Anticontractarianists
  • Blackout period
  • California Public Employees Retirement System
    (CalPERS)
  • Committee of European Securities Regulators
    (CESR)
  • Contractarianists
  • Council of Institutional Investors (CII)
  • European Financial Reporting Advisory Group
    (EFRAG)
  • Generally accepted accounting principles (GAAP)
  • generally accepted accounting standards (GAAS)
  • Government Accounting Standards Board (GASB)
  • International Accounting Standards Board (IASB)
  • investment protection principles (IPPs)
  • Investor Task Force
  • Office of Risk Assessment

4
Regulations
  • Regulations are aimed at protecting the investors
    and creating an environment for organizations to
    conduct their affairs in the utmost ethical,
    legal, and competent manner.
  • Regulations are typically enacted in response to
    specific crises and concerns or protection needed
    due to the failure of market based correction
    mechanisms. Adequate regulation creates a balance
    between reducing the likelihood of recurrence of
    the crisis and the imposed enforcement and
    compliance costs. Underregulation is when
    adequate rules are not in place to ensure
    long-term improvements and stability.

5
Sarbanes Oxley Act of 2002
  • Was enacted in July 2002 in response to the
    economic downturn of the early 2000s, several
    years of steady decline in the capital markets
    and numerous high-profile financial scandals.
  • The fundamental provisions of SOX can be
    categorized into the following five categories
    (1) corporate governance (2) financial
    reporting (3) audit functions (4) federal
    securities law enforcement and (5) others (e.g.,
    legal counsel, financial analysts).

6
SOX provisions
  • Influence on corporate governance (1) auditors,
    analysts, and legal counsel who were not
    traditionally considered as components of
    corporate governance are now brought into the
    realm of internal governance as the gatekeepers,
    (2) the legal status and fiduciary duties of
    directors and officers, particularly the audit
    committee and CEO, have been enhanced
    significantly, (3) certain aspects of state
    corporate law were preempted and federalized.
    (e.g. Section 404 of SOX prohibits loans to
    directors and officers, whereas state law permits
    such loan), (4) SOX is considered a process whose
    impact on improving the effectiveness of
    corporate governance will continue for years to
    come.

7
SOX provisions
  • Financial reporting provisions of SOX and
    SEC-related rules are
  • 1. Certification of financial statements and
    internal controls by CEOs and CFOs
  • 2. Disclosure of off balance sheet transactions
  • 3. Disclosure pertaining to the use of non-GAAP
    financial measures
  • 4. Disclosure of material current events
    affecting companies
  • 5. Mandatory internal control reporting by
    management
  • 6. A study of principles-based accounting
    standards
  • 7. Convergence of accounting standards
  • 8. Recognition of an adequate funding for the
    FASB as an accounting standard-setting body
  • 9. Oversight function of the FASB by the SEC.

8
SOX provisions
  • Provisions of SOX and SEC-related rules
    addressing audit functions are
  • 1. Creation of the PCAOB to regulate public
    accounting firms practice before the SEC
  • 2. Adoption of new rules related to auditor
    independence
  • 3. Establishment of auditing standards in guiding
    auditors to improve audit quality
  • 4. Issuance of new rules related to improper
    influence on auditors
  • 5. Issuance of new rules pertaining to retention
    of records and audit evidence relevant to reviews
    and audits of financial statements
  • 6. Establishment of quality control standards to
    protect investors from receiving misleading
    financial information
  • 7. Oversight function of the PCAOB by the SEC
  • 8. Attestation of and report on ICFR

9
SOX provisions
  • SOX empowered the SEC to better enforce federal
    securities laws to improve public trust and
    investor confidence in the capital markets. SOX
    enabled the SEC to use various means to bring
    enforcement actions against corporate wrongdoers,
    sanction them, obtain penalties and disgorgement,
    and compensate injured investors.
  • The following SEC-related rules address the
    conduct of gatekeepers other than directors,
    management, and auditors
  • 1. Rules governing research analysts potential
    conflicts of interest
  • 2. Rules regarding standards of conduct for
    attorneys practicing before the SEC
  • 3. Rules pertaining to rating agencies
  • 4. Rules concerning mutual and hedge funds
  • 5. Rules pertaining to investment banks

10
SOX Global Reach
  • Several provisions of SOX have been adopted in
    countries worldwide, which lends credibility to
    SOX and its intended purpose of protecting
    investors.
  • Adopted provisions by other countries, including
    Australia, Canada, China, India, and Mexico, are
    executive certification of financial statements,
    mandatory audit committees consisting of all
    independent directors, creation of standard
    setting bodies similar to the PCAOB in regulating
    the auditing profession, the rotation of audit
    partners and audit firms, and executive
    certification of ICFR without requiring an audit
    opinion.

11
Securities and Exchange Commission
  • The SEC has four divisions
  • 1) Division of Corporate Finance, which oversees
    corporate disclosure of public information by
    reviewing registration statements for newly
    offered securities, annually audited and
    quarterly reviewed filings (Forms 10-K and 10-Q)
  • 2) Division of Market Regulations, which
    establishes and maintains standards for fair,
    orderly, and efficient capital markets by
    regulating the major securities market
    participants, including broker/dealer firms and
    self-regulatory organizations (SROs) such as
    stock exchanges and the NASD
  • 3) Division of Investment Management, which
    oversees and regulates the investment management
    industry and administers securities laws relevant
    to investment companies (e.g., mutual funds) and
    investment advisors
  • 4) Division of Enforcement, which investigates
    possible violations of securities laws,
    recommends actions either in a federal court or
    before an administrative law judge, negotiates
    settlements on behalf of the commission, and
    publishes accounting and auditing enforcement
    releases (AAERs).

12
Securities and Exchange Commission
  • The SEC is regarded as an independent agency
    created by Congress to protect investor
    interests.
  • (Securities Act of 1933 and the Securities
    Exchange Act of 1934)
  • Sec Enforcement Actions

13
Public Company Oversight Board
  • Section 101 of SOX authorizes the establishment
    of the PCAOB to oversee the audit of public
    companies under the SEC jurisdiction.
  • Congress authorized the PCAOB to fund its
    expenses by imposing a fee on all public
    companies determined in proportion to their
    market capitalizations and registration fees
    received from public accounting firms.
  • PCAOB .
  • The PCAOB has appointed a standing advisory group
    (SAG) of thirty members with expertise in
    accounting, auditing, corporate governance,
    investments, and corporate finance to assist in
    carrying out its standard-setting
    responsibilities.

14
Public Company Oversight Board (Cont)
  • PCAOB responsibilities
  • Prepare its budget and manage its operation.
  • Register both U.S. and non-U.S. public accounting
    firms auditing U.S. public companies.
  • Inspect registered public accounting firms.
  • Establish auditing, quality control, and ethics
    standards for registered public accounting firms.
  • Enforce compliance with applicable laws and
    regulations.
  • Investigate registered public accounting firms.
  • Impose sanctions for violations.
  • Hold roundtables addressing emerging issues
    affecting the functions and performance of
    registered public accounting firms to obtain the
    views of interested parties, including accounting
    firms, public companies, investor groups,
    standard setters, and academicians.
  • Take initiatives in addressing auditing in a
    small business environment.
  • Perform other duties or functions as deemed
    necessary.

15
Public Company Oversight Board (Cont)
  • PCAOB rule-making process looks like the
    following schema

16
Federal Sentencing Guidelines For Organizations
  • In 1984, Congress created the U.S. Sentencing
    Commission (USSC) with the authority to issue
    guidelines for punishing organizations, including
    companies that have committed federal crimes.
  • The revised guidelines are expected to have a
    significant impact on the effectiveness of
    corporate governance by requiring
  • companies to establish and maintain an effective
    compliance program
  • boards of directors to accept accountability to
    ensure compliance throughout the company
  • companies to assign high-level individuals (e.g.,
    executives) to oversee the companys compliance
    program.

17
American Institute of Certified Public Accountants
  • The AICPA is a national professional association
    of more than 330,000 CPAs in public practice,
    industry, government, and academia.
  • In the post-Enron and SOX era, the AICPA has
    introduced 6 leadership roles
  • Standard-setting role of obtaining greater
    involvement of users of financial statements in
    setting auditing standards
  • Fraud prevention and detection liaison role
  • Research role in promoting academic research in
    such areas as fraud prevention
  • Educational role of developing training programs
    aimed at combating fraud
  • Financial reporting role of working with other
    standard setters to improve quality, reliability,
    and transparency of business and financial
    reporting
  • Corporate governance role to improve corporate
    governance and internal control systems.

18
Financial Accounting Standards Board
  • The SEC has delegated its accounting
    standard-setting authority to the FASB to issue
    authoritative Statements of Financial Accounting
    Standards (SFAS) for the measurement,
    recognition, and reporting of
  • business transactions and economic events and the
    preparation of their financial statements.
  • Traditional Financial Statements KPIs
  • Sec Rules to allow foreign companies to file
    their statements using IFRS without
    reconciliation to U.S. GAAP.

19
Government Accounting Standards Board (GASB)
  • GASB, in April 2005, issued its Concept Statement
    No. 3, Communication Methods in General Purpose
    External Financial Reports that Contain Basic
    Financial Statements. Concept Statement No. 3
    provides
  • A conceptual framework for determining
    communication methods for improving the
    presentation of financial reports of governmental
    entities,
  • criteria for each communication method,
  • a hierarchy for their use.

20
International Federation of Accountants
  • Challenges facing IFAC are finding ways to
    improve the credibility of the accounting
    profession worldwide, establishing globally
    accepted accounting and auditing standards, and
    developing global corporate governance guiding
    principles.
  • \
  • These challenges require IFAC to quickly move
    toward the global convergence of both accounting
    and auditing standards issued by a variety of
    standard-setting bodies such as the FASB, AICPA,
    PCAOB, and IASB.

21
Committee of European Securities Regulators
  • The EC established the Committee of European
    Securities Regulators (CESR) to ensure efficient
    functioning of the European capital market.
  • In May 2004, the SEC and CESR released a joint
    statement that specifies the terms of reference
    for future cooperation and coordination between
    the two bodies.
  • The primary objectives of such cooperation are
    to (1) identify and address emerging risks in
    the EU and U.S. markets at an early stage (2)
    discuss potential regulatory projects to
    facilitate converging ways of addressing common
    issues and (3) set priorities for discussion and
    collaboration between the two bodies, including
    market structure issues, the role and
    responsibility of credit rating agencies and
    analysts, and mutual fund regulation.

22
State Influence on Corporate Governance.
Corporate Governance and Courts.
  • State laws generally affect corporate governance
    by setting requirements for companies directors
    and officers. There is no uniform body of
    corporate law in the United States because each
    state is allowed to establish its own model.
  • The judicial process and court decisions in
    several landmark cases have affected the
    structure of corporate governance in the United
    States. Many of the court cases have led to
    increased accountability and liability for a
    companys board of directors.

23
Corporate Governance and Self-Regulatory
Organizations
  • By establishing listing standards for their
    listed companies, SROs including stock exchanges
    can also influence corporate governance.
  • List of self-regulatory organizations

24
Best Practices
  • The effectiveness of corporate governance depends
    on compliance with state and federal statutes and
    listing standards, as well as best practices
    recommended by investor activists and
    professional organizations.
  • Best practices of corporate governance are these
    of The Conference Board, American Law Institute
    (ALI), American Bar Association (ABA),
    institutional investors, Council of Institutional
    Investors, National Association of Corporate
    Directors, Business Roundtable, Public Pension
    Funds and etc.
  • Best practices can be used as benchmarks to
    determine the best way to improve business
    processes and corporate governance by following
    the means by which leading organizations achieve
    excellence performance.

25
Conclusion
  • Compliance with applicable laws, regulations,
    rules, and standards is essential to the
    efficiency and integrity of the capital markets,
    the effectiveness of corporate governance, and
    the reliability of financial reports.
  • The fundamental provisions of SOX can be
    categorized into the following five categories
    (1) corporate governance (2) financial
    reporting (3) audit functions (4) federal
    securities law enforcement and (5) others (e.g.,
    legal counsel, financial analysts).
  • The SEC was established to protect investor
    interests and was given the responsibility for
    issuing financial reporting standards.
  • SOX directs the SEC to issue rules in
    implementing its provisions pertaining to
    corporate governance, financial reporting, audit
    activities, and others.
  • Section 101 of SOX authorizes the establishment
    of the PCAOB as an independent, nongovernmental,
    not-for-profit organization to oversee the audits
    of public companies under SEC jurisdiction.

26
Conclusion
  • The PCAOBs primary functions are to (1)
    register public accounting firms that audit
    public companies (2) inspect the registered
    public accounting firms on a regular basis (3)
    establish auditing, attestation, ethics, quality
    control, and independence standards and (4)
    conduct investigations and disciplinary
    proceedings.
  • The PCAOB ended several decades of
    self-regulation and peer reviews for registered
    public accounting firms because both domestic and
    foreign public accounting firms that prepare or
    issue audit reports must now register with the
    PCAOB.
  • The AICPA has introduced many initiatives in the
    post-SOX era to improve public trust in the
    accounting profession and public accounting
    firms.
  • FASB has been the designated private sector
    not-for-profit organization for promulgating
    standards of financial accounting and reporting
    since 1973.
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