Impact of the Sarbanes-Act on the Threats to Auditors’ Independence
The last decade of the 20th Century and the early 2000’s witnessed an increased rate of corporate scandals and audit failures in major companies not only in the United States in the entire world. However, it is U.S that mostly felt the pinch with companies such as Enron, WorldCom, Global Crossing, Xerox, and Adelphia almost collapsing. The scandals saw the enactment of the Sarbanes-Oxley Act in 2002 which served as the ‘messiah’ in the accounting sector by introducing major revolutions. Analysts had for a long time criticized the accounting profession because of its apparent inability to control/self-regulate itself. The enactment of the SOX Act saw the introduction of new restriction for the auditors as one of its primary ways of restoring the lost confidence of the investors in the public companies. However, the Act is not without some setbacks/limitation owing to its deficiency in addressing some sensitive issues in the auditing sector such as the auditor’s self/personal interests. The Act, however, revived the collapsing accounting sector.
Analysts argue that almost all the corporate scandals witnessed in the corporate market root from auditor’s independence related issues. A substantial number of studies of the highly publicized audit scandals linked auditor’s professional independence to the scandals. For instance, Enron faced a major audit failure owing to the compromised independence of its auditors, Arthur, and Andersen, by the company’s management. The company (Enron) serves to reveal the threats facing the auditor’s independence. Tepalagu (3) notes that auditor’s independence plays an indispensable role in determining the quality of the audit and the subsequent financial performance of a firm. As such, the SOX Act worked to address such threats by providing an assortment of requirements/ solutions to mitigate the threats. Some of the notable threats to auditor’s professional independence as addressed by the Act include, but not limited to, unconscious bias, relationship with the company or its employees, self-review, and victimization/intimidation from the management (Palmon et al., 113).
The SOX act sought to wither the auditing dilemma by mainly divorcing non-auditing services with the auditing activities (Michael, 59). With the separation, it became illegal for an auditor to offer certain non-auditing standards to the client such as consultancy services as it had happened in the Enron case. The fact served to prevent the influence on the auditor by the management. The Act created the PCAOB (Public Company Accounting Oversight Board) to establish audit standards and consequently the auditor’s independence. Besides, SOX vests PCAOB with the responsibility of carrying out independent quality control reviews aimed at strengthening audit procedures and minimizing auditors’ personal or professional bias (Jahman and Dowling, 61). The Act further required rotation of the audit team on a regular basis to prevent the compromise on auditor’s independence that results from long-time relations with a company. To further mitigate the threats SOX provided for an Audit committee vested with the responsibility of mediating any disagreements between the auditors and their clients on issues concerning the preparation of the client’s financial systems.
Arguably, as critics have argued, Sarbanes-Oxley Act is not without some limitations given the fact that it failed to addresses some crucial areas in accounting and particular auditing. However, anyone who witnessed (or, at least, understands) the accounting scandals witnessed in major companies would acknowledge that SOX played a crucial role in restoring confidence in the public sector accounting by restoring auditor’s independence and consequently increasing audit quality.
Works Cited
Michael, Knapp. Contemporary Auditing. Cengage Learning, 2014
Jahmani, Yousef and Dowling, William. “The Impact of Sarbanes-Oxley Act.” Journal of
Business & Economics Research. 6, (2008): 57 – 64
Palmon Dan, Anandarajan Asokan, and Kleinman Gary. “Auditors Independence Revisited: The
Effects of SOX on Auditors Independence”. International Journal of Disclosure and Governance 5 (2008): 112 – 125
Tepalagu Nopmanee. “Auditor Independence and Audit Quality: A Literature Review”. Journal
of Accounting, Auditing, & Finance 30 (2015): 101 – 121
