Faculty discuss, debate effect of new corporate reform bill

A major accounting firm convicted of obstructing justice. A leading brokerage caught misleading its clients. Arrogant chief executives falling like flies. Huge corporations tumbling into bankruptcy. Business pages that reflect crime stories. \n"The events that occurred during the last six months is just the beginning of other corporate frauds to be uncovered as the Securities Exchange Commission (SEC) and Congress prepare to broaden and deepen their investigation," IU corporate finance professor Shreenivas Kamma said. "It is just that the magnitude of the effect won't be so huge." \nTo calm the investor sentiment and restore confidence, Congress passed a corporate reform bill last Thursday with overwhelming support, which happens to be the most stringent corporate reform bill ever produced by Congress since the Great Depression. By a 423-3 vote, the House passed the bill to the President for him to sign into law. President Bush signed the law Tuesday, vowing "hard time" instead of "easy money" for corporate crooks. \nThe package creates a new board to oversee the auditors of companies traded on the stock markets; limits accounting firms' ability to profit from doubling as consultants to the companies they audit; bars the widespread practice of rewarding analysts with specific investment banking deals; and gives shareholders more time to sue companies that mislead them. The law also dramatically increases maximum fines and jail sentences for those who violate new and existing corporate laws.\n"The self-regulated body, the American Institute of Certified Public Accountants, that wrote and enforced auditing standards until this week, did a good job. It however lacked the powers to enforce penalties," Kamma said. \nIn essence, auditors police themselves and, some legislators say, did a poor job of it. The law created an independent oversight board, to be supervised by the SEC that would prevent auditing firms such as Arthur Anderson from destroying crucial documents or offering consulting or non-auditing favors to the companies. \n"Anderson had used audit relationships as an opening to market other services to clients. Auditors were given incentives to promote the firm's offerings, making them insiders as well as caretakers," said Richard Shockley, a finance professor at the School of Business. "Until now auditing firms made most of their money through providing consulting services. Being an auditing firm they provided auditing services at a discount just to get their hands on the highly lucrative consulting side of the business." \nShockley also said Enron controlled who it wanted as its auditor and ordered Anderson to replace an auditor who refused to be as aggressive as Enron.\nBesides creating an independent board, the law enhanced the responsibility and authorization of the SEC. It requires the SEC to step up its routine review of financial reports filed by big corporations. In the past, the SEC has examined only a small percentage of company filings. Beginning Aug. 14, the SEC would require chief executives to certify corporate financial reports and to be accountable for the accuracy of the financial statements. But executives could be held liable only for knowingly misleading investors. \n"The market has already factored in some of the cases that may come up as we approach Aug. 14, but a significant rise or drop in the cases will have a big influence in the market," said finance professor Dan Greiner.\nJail time for wire and mail fraud, statutes often used to prosecute white-collar crimes, would quadruple to a maximum of 20 years under the law. A new crime of securities fraud would be punishable by 25 years in jail.\nThe high paying investment banking business is also under pressure as the SEC reviews the basis of analyst recommendations and ratings. An investigation by New York Attorney General Eliot Spitzer suggests that some analysts misled investors by issuing bullish research reports on poorly performing companies to generate or keep lucrative the investing business from those firms.\nMerrill Lynch's Henry Blodget, Salomon Smith Barney's Jack Grubman and some other top analysts made $12 million or more a year -- in part by setting up deals and promoting the stocks of the very companies that paid their firms huge fees for investment-banking services.\nTo stop these kinds of events from reoccurring, the law directs the SEC to adopt tougher rules to ensure the separation of stock analysts from the investment banking arms of their respective brokerage firms.\n "This is a balanced law that should make the businesses more transparent and make them disclose more information more readily," Shockley said, assuring that the law should restore investor confidence.\nBut Kamma thinks otherwise. \n"While the law can go above and beyond to calm investor fears, the truth is that without changes in the internal governance structure and improvement in the reporting techniques of the companies, it's difficult to assess the true worth of this law"