The 20-Year Experiment Holding America Back #20Year #Experiment #Holding #America Welcome to Lopoid
Many commentators these days, both progressive and conservative, decry a lack of opportunities for the American middle class, the concentration of certain industries under a few owners, and the tilt of startup funding toward a few large cities. An underlying cause of much of this is a bipartisan corporate-reform law enacted 20 years ago Saturday.
On July 30, 2002, President
George W. Bush
signed the Sarbanes-Oxley Act. The bill had cleared the Senate 99-0 and passed the House 423-3, with only Republican Reps.
Mac Collins
of Georgia,
Jeff Flake
of Arizona and
Ron Paul
of Texas dissenting. Coming on the heels of scandals at Enron and WorldCom, it was touted as a method for cracking down on accounting fraud at big companies and firms.
Twenty years later, legitimate entrepreneurs and ordinary investors are punished by the law’s costly mandates. Sarbanes-Oxley has permanently altered the landscape of business growth and development.
Before the law, midsize and even small companies could go to major stock venues for early growth capital. Many retail investors then grew in wealth as the companies succeeded. When
Walmart
went public in 1970, the chain had 38 stores, primarily in Arkansas and Missouri. When
Home Depot
went public in 1981, the chain had only four stores, all around Atlanta. The initial stock offerings of both firms was less than $10 million. Today, their market capitalization exceeds $300 billion each.
These companies weren’t anomalous in going public at the early stages of their growth. This was the norm. A report by President Obama’s Council on Jobs and Competitiveness found that in the 1990s, 80% of initial public offerings were smaller than $50 million. By 2010, 80% of IPOs exceeded $50 million. In recent years it has been fairly common to see companies—including
Uber,
Lyft
and Robinhood—go public with IPOs in excess of $1 billion after they had already become household names. Retail investors didn’t get to share in the growth of these companies before they became giants.
The costs of Sarbanes-Oxley are responsible for much of this shift in the size of newly public companies. Academic studies and annual reports show that the law has caused auditing costs to double, triple or even quadruple for many companies. A 2009 study by the Securities and Exchange Commission found that smaller public companies have cost burdens more than seven times those of large ones.
The disproportionate burden on small and midsize companies has spurred bipartisan criticism of Sarbanes-Oxley. As the Obama administration council noted: “Regulations aimed at protecting the public from the misrepresentations of a small number of large companies have unintentionally placed significant burdens on the large number of smaller companies.”
One of Sarbanes-Oxley’s most onerous mandates stems from the two brief paragraphs that constitute Section 404, which requires that public companies have effective “internal controls.” The Public Company Accounting Oversight Board, a quasipublic rule-making agency created by Sarbanes-Oxley, has interpreted this section to mean full-blown audits of any company process that could enable “a reasonable possibility of a material misstatement in the financial statements.”
This extremely broad standard, which reaches into all manner of company operations, has proved vexing particularly for businesses attempting innovation. According to
John Battelle’s
“The Search,” a history of the early years of Google, Sarbanes-Oxley was “hell for a company like Google, which made its money literally pennies at a time, from millions upon millions of micro-transactions.” Mr. Battelle reports that “internal control” compliance significantly delayed Google’s IPO, as the company “had to significantly restructure its advertising report system from the ground up.”
Google eventually went public in 2004 in an IPO exceeding $1 billion, one of the largest ever at the time. But entrepreneurs who didn’t have access to the venture capital heavily concentrated in the San Francisco area and a few other urban hubs weren’t so lucky.
Some entrepreneurs may have sold their companies sooner than they otherwise would have, and some may have simply not been able to get products off the ground. Home Depot co-founder
Bernie Marcus
has stated repeatedly that he doesn’t believe the company could have succeeded had Sarbanes-Oxley been in effect, as going public is what gave Home Depot the capital to open more stores.
Over the past 20 years, Sarbanes-Oxley has given investors few quantifiable benefits in preventing fraud. Perhaps the most memorable stain on its record is that it failed to catch the mortgage shenanigans that led to the 2008 financial crisis. A 2011 study in the International Journal of Disclosure and Governance found that by focusing on minutiae instead of major errors in valuing assets, Sarbanes-Oxley’s “current control-centric approach misses the really big risks.”
As the economy struggles with inflation and a recession, it’s time to scale back the 20-year experiment that keeps ordinary investors and entrepreneurs from achieving America’s full potential.
Mr. Berlau is director of finance policy and a senior fellow at the Competitive Enterprise Institute, where Mr. Rutzick is a research associate. Mr. Berlau owns shares in Walmart and Robinhood.
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