The Unintended (Internal Control) Consequences of Good Intentions

It is a mistake to think you can solve any major problems just with potatoes.

McLeod Governance today introduces into the lexicon of internal controls a concept that we dare not speak its name (primarily because we cannot pronounce it … but that is another story).

From this day forward throughout the many lands and fields in which the management of risk is attempted we ask that you pray at the feet of the God of Schlimmbesserung.

For if the God of Schlimmbesserung is kind – you will probably get to keep your job and actually make a difference to the success or otherwise of your organisation and / or economy.

If the God of Schlimmbesserung is spiteful – well, at least you know that you tried your best and … it wasn’t up to scratch.

What is / who is / where is the God of Schlimmbesserung?

Well let’s start by answering what is schlimmbesserung.

Firstly it is a real word.

We promise.

It is a German word for … well … how does one actually say this … for stuffing up!

To be precise it is making something worse through an attempt to make things better.

And here at McLeod Goverance that got us thinking.

When has the God of Making Something Worse Through An Attempt To Make Things Better … better known as the God of Schlimmbesserung … paid a visit to the world of internal controls?

We came down to one day.

That day – Tuesday 30th July, 2002.

Yes McLeod Governance is calling out the day that the Public Company Accounting Reform and Investor Protection Act of 2002 (of course we are referring to Sarbanes Oxley!) was introduced as The Day that the God of Schlimmbesserung said hello to the world of internal controls.

The Act was approved by the United States House of Representatives by a vote of 334-90 and by the Senate 99-0. President George W. Bush signed it into law, stating it included “the most far-reaching reforms of American business practices since the time of Franklin D. Roosevelt.”

In a 2004 interview, Senator Paul Sarbanes stated: “The Senate Banking Committee undertook a series of hearings on the problems in the markets that had led to a loss of hundreds and hundreds of billions, indeed trillions of dollars in market value. The hearings set out to lay the foundation for legislation. We scheduled 10 hearings over a six-week period, during which we brought in some of the best people in the country to testify…The hearings produced remarkable consensus on the nature of the problems: inadequate oversight of accountants, lack of auditor independence, weak corporate governance procedures, stock analysts’ conflict of interests, inadequate disclosure provisions, and grossly inadequate funding of the Securities and Exchange Commission.”

The God of Schlimmbesserung doesn’t care that you had good intentions.

It is how it ended up that counts.

A December 21, 2008 Wall St. Journal editorial stated, “The new laws and regulations have neither prevented frauds nor instituted fairness. But they have managed to kill the creation of new public companies in the U.S., cripple the venture capital business, and damage entrepreneurship. According to the National Venture Capital Association, in all of 2008 there have been just six companies that have gone public. Compare that with 269 IPOs in 1999, 272 in 1996, and 365 in 1986.”

The editorial concludes that: “For all of this, we can first thank Sarbanes-Oxley. Cooked up in the wake of accounting scandals earlier this decade, it has essentially killed the creation of new public companies in America, hamstrung the NYSE and Nasdaq (while making the London Stock Exchange rich), and cost U.S. industry more than $200 billion by some estimates.”

And for that price tag, can anyone of us say that things – as in the soundness of corporate control frameworks – have measurably improved by the introduction of Sarbanes Oxley.

How does one explain then the ‘failure’ of Sarbanes Oxley to play a role – any role – in the identification, prevention and or mitigation of say something like … hmmm …the global financial crisis.

Where were you Sarbanes Oxley when the sky was falling in and the world – literally – was looking for assurance that we weren’t going to go into the world’s worst depression?

Schlimmbesserung.

Indeed.

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