By MIKE ALLEN
They didn’t break out the champagne at some small public companies when the Securities and Exchange Commission OK’d a one-year extension on the deadline to comply with a set of Sarbanes-Oxley Act rules.
In fact, the bubbly isn’t likely to flow until the SEC lifts entirely a set of rules that have raised the ire of publicly traded companies.
The 2002 Sarbanes-Oxley Act was created in the wake of the slew of corporate accounting scandals at companies such as Enron Corp. and WorldCom Inc. The act required increased financial disclosure by public companies.
Section 404 of the law demands that companies document and describe their internal accounting control systems. Companies also must report on how effective the controls work in detecting errors.
While the latest extension, which came in September, gives companies with a public stock float of less than $75 million a little more time to comply, many of them say they’ve already spent far more on the new auditing requirements than they feel is necessary.
“It’s not just the additional money,” said Michael Owens, chief executive at iVow Inc., a company across the Orange County line in Carlsbad that provides surgical and medical management services to doctors and hospitals to help treat morbid obesity. “It’s also the time that this issue takes from the organization. It’s costing us a lot more time both internally, and in terms of outside consultants we must hire.”
It’s Section 404 that’s causing the most headaches for small public companies.
Earlier this year, many of these public companies let their auditors and the SEC know that Section 404 was far more onerous on them than on larger corporations, which can more easily afford the extra expenses.
“It’s a big deal for us,” said Marty Lynch, chief financial officer of Irvine-based Diedrich Coffee Inc., which has a market value of about $44 million. “It’s a tremendous cost for a company our size to get ready. It doubles our audit costs.
“We spend a couple grand a year (for audits), and it’ll probably double once we are subject to Sarbanes-Oxley,” Lynch said. “It’ll take a quarter of a million dollars to gear up for it.”
PriceSmart Inc., a San Diego operator of club warehouse stores outside the country, said it was continuing to monitor the increased auditing costs to determine if remaining public was the best status for the company.
“We haven’t said anything else publicly, so we’re still monitoring the situation,” said PriceSmart Chief Financial Officer John Heffner.
Through May, PriceSmart spent some $1.5 million on Sarbanes-Oxley compliance work, which it had intended to file this year.
In March, the SEC announced its first extension on the deadline, meaning PriceSmart was preparing to file its report by August 2006.
Yet the latest extension may not affect the company because by next year, PriceSmart likely will qualify as an accelerated filer, because its public stock float may be greater than $75 million, Heffner said.
Increased Costs
In addition to increased costs of complying with the internal controls documentation and testing, Heffner said companies also would incur increased auditing fees by their external auditor to verify the controls report.
In PriceSmart’s case, he estimates additional fees to be $500,000, bringing the total to $1.9 million.
Sarbanes-Oxley’s Section 404 has caused many companies to complain, though most of the gripping has been to their peers and their auditors, said Michael Stewart, partner in charge for J.H. Cohn LLP in San Diego.
Many said they simply don’t have the personnel to complete the projects and are forced to hire outside consultants to get the work done, Stewart said.
For smaller companies, compliance with Section 404 is costing $350,000 to some $1 million to document the controls and to prove those controls are effective. Added to that are increased auditing fees that range from 60% to 100% of an audit to verify the report, he said.
Small companies could have a backer in former Newport Beach Congressman Christopher Cox, who took over as head of the SEC two months ago.
“When it comes to smaller companies in particular, the commission is keenly sensitive to the differences in controls and procedures that are necessary for the protection of investors,” said Cox in a written response to questions from the Business Journal. “Armed with the experience of the last three years’ implementation of Sarbanes-Oxley, the SEC and the Public Company Accounting Oversight Board are working to encourage both companies and auditors to reduce unnecessary costs and other burdens, so that the benefits of the new requirements can be achieved on a sustainable basis.”
Still, it’s not clear how far Cox wants to,or will,go in loosening accounting rules on small companies.
Allen is a staff writer with the San Diego Business Journal. Orange County Business Journal reporter Pat Maio contributed to this report.
