Private Companies Join the Club

Some, especially those that are closely held, have watched the debate as an instructive reminder of “why we'll never go public,” picked up a few ideas they've proposed for future consideration, and watched with growing frustration the incredible amount of law firm, bar association, and media ink devoted to this issue at the expense of other issues more germane to their daily lives.

Yet quite a few private companies (especially those in the quasi-private/ quasi-public/government-chartered sector) have taken aggressive steps in recent months to consider and adopt the vast majority of the Sarbanes-Oxley governance “best practices” by which they know their future actions will be judged in the public arena.

Five Good Reasons

Every private company or nonprofit that hasn't already done so is about to go into full-tilt reform in the coming months for the following reasons.

1. Sarbanes-Oxley has set the standard for behavior and enforcement that will be applied to all malfeasors in the future as the 20/20 hindsight standard of “reasonable” behavior, even if the company in question wasn't formally subject to regulation by the legislation itself.

2. Quite a few states are rushing to pass (or have already passed) amendments to corporate governance statutes to conform with (or even outdo) Sarbanes-Oxley provisions. At least 25 states have implemented some kind of Sarbanes-Oxley-type reforms.

3. State and national accounting organizations, as well as the national accounting firms, are all working together to adopt new standards of accounting practices and procedures that embrace Sarbanes-Oxley standards, and in some cases go beyond them. But there are “practical” implications to the new standards being set independently by the accounting firms themselves.

The accountants may set rules that your company or its leaders must follow in order to get your books done, and it won't matter to them if you're public or private.

4. Let's pretend that your private company can ignore all of the above. Do you do business outside the United States? Then get ready to meet or exceed Sarbanes-Oxley standards, which are no strangers, and indeed, are seen as ho-hum latecomers to the governance debates that have been under way for many years in other parts of the world.

If you've never seen the Web site of the European Corporate Governance Institute, look at www.ecgi.org/codes/index.htm, which lists governance best practices by country for the entire European Union.

Your business may not be incorporated outside of this country, but your business standards, including an assessment of your corporate culture and governance policies, will be judged locally should you ever get into trouble in a foreign jurisdiction where your company does business.

5. Every company has stakeholders, and those stakeholders don't care if the company is public or private: They have what we might call “great (Sarbanes-Oxley) expectations.” Who are these stakeholders who will demand to know what you've done to make your company's culture more ethical, your processes more transparent, your executives and directors more accountable (or hold you to a 20/20 hindsight standard)?

' Banks, investors, and insurers: Planning to ask someone for an infusion of capital soon? Need a loan? Want to refinance? Seeking better D&O insurance coverage? Better have policies in place that will demonstrate to those who would invest in your future that your “present” operations are being run with transparency and accountability. The standard for internal controls and governance is now the Sarbanes-Oxley standard. And if audited financial statements are required, see No. 3, above: Your accounting firms may not certify anything for you without the controls they deem necessary in order to bless your operations as kosher.

' Recruits: Top talent is hard to find these days and in great demand. Even in a sluggish employment market, good directors and executive managers whom you would recruit to join your company's team will want to see evidence that the company is operating in compliance with the law and in an ethical and sound fashion. They will be looking for the kinds of controls and accountability that Sarbanes-Oxley-type reforms are designed to ensure.

' Future shareholders: Has your company ever considered going public? Are you considering a management or leveraged buyout that could be protested by others holding stock? If you don't have Sarbanes-Oxley-type governance and accounting standards in place, your chances of a smooth transition are correspondingly lower.

' Business partners: Do you wish to make or keep your private company attractive to those who may consider buying it out in the future? Do you plan to develop strategic partnerships? Prospective alliances with other companies – especially those already subject to Sarbanes-Oxley compliance standards – will be judged in light of their concerns over whether your company lives up to the highest standards of business practices.

' Customers: Because the SEC has a take-no-prisoners attitude about enforcement of Sarbanes-Oxley-related controls and policies, many public companies are requiring their major suppliers or distributors to prove they have proper controls and policies; these public companies want to be sure that an allegation of wrongdoing in your company won't bring investigators and the media to their doorstep.

The moral here is that even if you aren't technically regulated by Sarbanes-Oxley, it's just good business practice to anticipate that your company should meet and even exceed the highest standards set in the marketplace. Good governance is its own reward, and while the Act isn't perfect, it does codify a spirit of accountability that should rule the business culture of all of our organizations.

The cost of compliance is clearly a great concern and requires management and the board to make a significant investment and commitment. But the cost of a debacle threatening the continued viability of your company is even higher – and adopting higher standards will likely pay off again and again in the coming months and years.

The publisher of this newsletter is not engaged in rendering legal, accounting, financial, investment advisory or other professional services, and this publication is not meant to constitute legal, accounting, financial, investment advisory or other professional advice. If legal, financial, investment advisory or other professional assistance is required, the services of a competent professional person should be sought.

According to AMR Research, which recently surveyed 60 Fortune 1,000 companies, it is estimated that the Fortune 1,000 will spend $2.5 billion in 2003 alone in costs associated with Sarbanes-Oxley Act (the Act) compliance. How much more will be spent by smaller public companies and by those in the private-company sector is a mystery, but the total costs – in cash, time, consulting fees, lost opportunities, and human resources – will surely be staggering.

Just as public companies finally heave a sigh of relief after a whirlwind of activity over the last year and a half, private companies find that the attention of regulators and stakeholders is shifting to them. If you're in a nonprofit or private company and think that you don't need to worry about understanding and complying with the standards set by the Act, the exchange rules (NYSE, Nasdaq, and AMEX), or by others assessing corporate governance policies and procedures at work in public companies, think again.

Indeed, companies that are not publicly traded have watched “the Sarbanes-Oxley shuffle” dominate the agenda of public companies for the past several months with an odd mix of detached horror and relief, believing that they were to some degree exempt from the cost and disruption that compliance with the act and the related rules flowing from it have caused.

Some, especially those that are closely held, have watched the debate as an instructive reminder of “why we'll never go public,” picked up a few ideas they've proposed for future consideration, and watched with growing frustration the incredible amount of law firm, bar association, and media ink devoted to this issue at the expense of other issues more germane to their daily lives.

Yet quite a few private companies (especially those in the quasi-private/ quasi-public/government-chartered sector) have taken aggressive steps in recent months to consider and adopt the vast majority of the Sarbanes-Oxley governance “best practices” by which they know their future actions will be judged in the public arena.

Five Good Reasons

Every private company or nonprofit that hasn't already done so is about to go into full-tilt reform in the coming months for the following reasons.

1. Sarbanes-Oxley has set the standard for behavior and enforcement that will be applied to all malfeasors in the future as the 20/20 hindsight standard of “reasonable” behavior, even if the company in question wasn't formally subject to regulation by the legislation itself.

2. Quite a few states are rushing to pass (or have already passed) amendments to corporate governance statutes to conform with (or even outdo) Sarbanes-Oxley provisions. At least 25 states have implemented some kind of Sarbanes-Oxley-type reforms.

3. State and national accounting organizations, as well as the national accounting firms, are all working together to adopt new standards of accounting practices and procedures that embrace Sarbanes-Oxley standards, and in some cases go beyond them. But there are “practical” implications to the new standards being set independently by the accounting firms themselves.

The accountants may set rules that your company or its leaders must follow in order to get your books done, and it won't matter to them if you're public or private.

4. Let's pretend that your private company can ignore all of the above. Do you do business outside the United States? Then get ready to meet or exceed Sarbanes-Oxley standards, which are no strangers, and indeed, are seen as ho-hum latecomers to the governance debates that have been under way for many years in other parts of the world.

If you've never seen the Web site of the European Corporate Governance Institute, look at www.ecgi.org/codes/index.htm, which lists governance best practices by country for the entire European Union.

Your business may not be incorporated outside of this country, but your business standards, including an assessment of your corporate culture and governance policies, will be judged locally should you ever get into trouble in a foreign jurisdiction where your company does business.

5. Every company has stakeholders, and those stakeholders don't care if the company is public or private: They have what we might call “great (Sarbanes-Oxley) expectations.” Who are these stakeholders who will demand to know what you've done to make your company's culture more ethical, your processes more transparent, your executives and directors more accountable (or hold you to a 20/20 hindsight standard)?

' Banks, investors, and insurers: Planning to ask someone for an infusion of capital soon? Need a loan? Want to refinance? Seeking better D&O insurance coverage? Better have policies in place that will demonstrate to those who would invest in your future that your “present” operations are being run with transparency and accountability. The standard for internal controls and governance is now the Sarbanes-Oxley standard. And if audited financial statements are required, see No. 3, above: Your accounting firms may not certify anything for you without the controls they deem necessary in order to bless your operations as kosher.

' Recruits: Top talent is hard to find these days and in great demand. Even in a sluggish employment market, good directors and executive managers whom you would recruit to join your company's team will want to see evidence that the company is operating in compliance with the law and in an ethical and sound fashion. They will be looking for the kinds of controls and accountability that Sarbanes-Oxley-type reforms are designed to ensure.

' Future shareholders: Has your company ever considered going public? Are you considering a management or leveraged buyout that could be protested by others holding stock? If you don't have Sarbanes-Oxley-type governance and accounting standards in place, your chances of a smooth transition are correspondingly lower.

' Business partners: Do you wish to make or keep your private company attractive to those who may consider buying it out in the future? Do you plan to develop strategic partnerships? Prospective alliances with other companies – especially those already subject to Sarbanes-Oxley compliance standards – will be judged in light of their concerns over whether your company lives up to the highest standards of business practices.

' Customers: Because the SEC has a take-no-prisoners attitude about enforcement of Sarbanes-Oxley-related controls and policies, many public companies are requiring their major suppliers or distributors to prove they have proper controls and policies; these public companies want to be sure that an allegation of wrongdoing in your company won't bring investigators and the media to their doorstep.

The moral here is that even if you aren't technically regulated by Sarbanes-Oxley, it's just good business practice to anticipate that your company should meet and even exceed the highest standards set in the marketplace. Good governance is its own reward, and while the Act isn't perfect, it does codify a spirit of accountability that should rule the business culture of all of our organizations.

The cost of compliance is clearly a great concern and requires management and the board to make a significant investment and commitment. But the cost of a debacle threatening the continued viability of your company is even higher – and adopting higher standards will likely pay off again and again in the coming months and years.

The publisher of this newsletter is not engaged in rendering legal, accounting, financial, investment advisory or other professional services, and this publication is not meant to constitute legal, accounting, financial, investment advisory or other professional advice. If legal, financial, investment advisory or other professional assistance is required, the services of a competent professional person should be sought.