Short-sighted Big Four choose profits over SOX reform

In the wake of Enron and the 2002 passage of Sarbanes Oxley, it was easy to have compassion for the Big Four accounting firms. Their reputations in tatters after gross lapses in duty by “a few bad apples,” accountants were faced with public scolding, extensive new legal oversight, and the daunting challenge of re-earning their credibility as the business world’s watchdogs and collective conscience. Four years later, however, the Enron era appears less like a crisis and more like the happiest of accidents for the Big Four – thanks to the windfalls created by SOX Section 404. Consequently, small emerging companies are poised to pay the price.

With its well-meaning but overzealous rigor, Section 404 has created an unhealthy dynamic in the accounting services marketplace, as the Big Four have shifted their focus from auditing companies of all sizes to leveraging lucrative 404 practices at large corporations. Bloated by layers of internal checks and attestations of solvency, these 404 engagements deliver transparency overkill by the billable hour – but leave little in the way of resources to provide less lucrative traditional audit services to small and mid-sized companies.

As a result, smaller private companies are finding it exceedingly difficult to secure a Big Four audit – which remains the industry gold standard. The resulting dynamic has reduced the choice of accountants available to such companies, and consequently made it more expensive for smaller businesses that try to compete with larger corporations for attention. Unfortunately, the jeopardy doubles for pre-public companies and acquisition candidates for whom the market requires a Big Four sign-off to move through an IPO or acquisition. The end result is that venture-backed companies are held hostage by the Section 404-induced Big Four hegemony, while the number of growth companies available to investors shrinks.

The Enron era appears less like a crisis and more like the happiest of accidents for the Big Four, thanks to the windfalls created by SOX Section 404.”

Mark Heesen, President, National Venture Capital Association

Wake-up call

None of these issues seem to faze the Big Four accounting firms, whose attitude towards SOX reform has been characterized by opposition. Last spring, the Big Four commissioned a report from the business consultancy CRA International that grandly boasted that SOX annual compliance costs have fallen 31% for smaller companies in the last year. The finding is laughable considering that the average compliance cost now stands at $860,000. That’s 950% higher than the original SEC estimate of $91,000. Such a number alone should have been a wake-up call to the Big Four that something is terribly wrong and needs correcting. Instead, when given the chance to right size this imbalance, the Big Four turned their backs. After more than a year of participating on the SEC Advisory Committee on Smaller Public Companies, the individuals representing Deloitte & Touche and KPMG were two of only three dissenters against the Committee’s recommendations for 404 reform. The remaining 18 members the Committee, which comprised highly respected business and academic leaders from across the country, said yes to reform. The Big Four said no.

And why not, when the short-term lesson appears to be that it’s good to be king. The longer-term reality, however, appears markedly less rosy. SOX 404 is helping to further clog the IPO pipeline and driving more and more US venture-backed companies to go public on foreign exchanges. By choking off the creation of new public companies – effectively the next wave of large corporations whose business they so covet – the Big Four will ultimately cut off their own pipeline for many of the non-essential services that help fuel their margins today.

Section 404 has created an unhealthy dynamic in the accounting services marketplace.”

Mark Heesen, President, National Venture Capital Association

As SOX reform continues to build momentum in Congress, the Big Four are actively seeking to maintain the lucrative status quo. For the leaders of a profession that prides itself on its integrity and investor advocacy, such a position is difficult for VCs and the entrepreneurs they fund to understand. The Big Four should join VCs in supporting meaningful judicious SOX reform now.

Mark Heesen is President of the National Venture Capital Association. He may be reached at