illiam Donaldson was sworn in as chairman of the Securities and Exchange Commission in February. He comes to this position at a particularly important and challenging time. Restoring public confidence in our capital markets—essential to the long-term health of the economy—won’t be easy. Various players, including the commission, have an important role to perform in achieving this objective.
We’ve already seen some key developments, including the passage of the Sarbanes-Oxley Act of 2002, which established the Public Company Accounting Oversight Board (PCAOB), added tougher independence standards for auditors of public companies and provided independent funding for both the PCAOB and FASB. But more action is needed.
Clearly, one key priority for Chairman Donaldson was to find someone to be chairperson of the PCAOB. In my view this person needed not only to be qualified and credible, he or she had to share the philosophy of Sarbanes-Oxley, which envisioned a strong, independent PCAOB that takes the lead in developing and adopting auditing standards and in overseeing the accounting profession. The recent appointment of William McDonough to this post meets these criteria.
A March 2002 report by my agency, the General Accounting Office (GAO), pointed out that during the past decade, as financial markets became more complex and the SEC’s workload dramatically increased, its workforce and budgets did not keep pace. A consensus has emerged that the commission must have more resources if it is to do its job properly. Fortunately, Congress has provided significant additional resources as part of the fiscal 2003 appropriations bill. Although this increase in funding will help, the SEC must address several major management challenges to make effective use of it.
With more money and staff on the way, the SEC needs to reevaluate its current programs and activities and develop a comprehensive strategic plan that will better position it to oversee evolving securities markets. It also needs to address a range of human capital, information technology and other management challenges that a number of GAO reports have catalogued. The GAO has made specific recommendations on how the SEC can address skills imbalances, better leverage technology and make prudent use of these additional resources.
T he SEC also needs to review and reassess its overall regulatory, oversight and enforcement approach. One lesson from the Enron, WorldCom and other business failures is that our free-market system, the most successful in history, cannot survive without public confidence in the accuracy and timeliness of corporate financial information. A recent GAO report highlighted the increasing frequency and changing nature of corporate earnings restatements. Who would knowingly buy stock in, make a loan to or do business with a company that conceals its real financial situation except to a few corporate insiders? Clearly, this problem calls for updated accounting and enhanced reporting requirements.
Historically, the SEC has relied heavily on self-regulatory organizations. Although these entities have important roles to play, their rules and disciplinary processes are sometimes not strong enough to protect the public interest. One example was the AICPA’s independence rules and disciplinary processes, which were clearly inadequate and which the recent Sarbanes-Oxley legislation addressed.
O ne of the greatest remaining concerns is corporate governance. Several major securities exchanges are now updating their listing requirements. To adequately protect the public interest, the exchanges should design the final standards to ensure that public company boards are properly structured and organized and have the resources to accomplish three objectives:
Add value to shareholders.
Minimize risk to key stakeholders.
Hold management accountable for results, both currently and over time.
A vast majority of the key players at U.S. public companies are honest and well intentioned, but our enforcement systems must be adequate enough to dissuade and hold “bad actors” accountable. The SEC already has various civil enforcement powers it can use to punish securities-law violators. However, these civil sanctions frequently are not significant or targeted enough to discourage managers and other professionals from activities that can seriously harm a range of innocent people. Too often today’s civil sanctions are imposed directly or indirectly on the company—and ultimately shareholders who have already been victimized by plummeting stock prices—instead of on the individuals responsible for the misdeeds.
A lthough stiffer and more targeted civil penalties that insurance would not cover can work to help discourage unethical behavior, I’m not convinced civil penalties alone will get the job done. Given the amount and structure of the compensation that many corporate executives and advisers enjoy, is it any surprise the current civil-penalties structure does not adequately dissuade rogue players from pushing the envelope on legal requirements and accounting rules? We need to start treating these devious practices as the serious crimes they are. In my view we’re going to have to issue more than a few “wide-striped suits” to these white-collar criminals whose shameless behavior has harmed innocent parties and eroded the overall confidence in our capital markets.
Across America, people want assurances that companies are run honestly. Obviously, government can’t legislate the personal integrity of key players. But as the lead federal regulator overseeing corporate accounting and reporting, the SEC has a critical role to play in rebuilding confidence in our capital markets system. At the GAO we look forward to monitoring the SEC’s efforts and to working with it in a constructive manner to accelerate progress in this important area.
DAVID M. WALKER, CPA, is Comptroller General of the United States. He heads the U.S. General Accounting Office in Washington, D.C.