We have noted that some commentators viewed SOX as intending only to reduce fraud and that it has not worked. They argue that the costs of the regulatory regime outweigh any decline in fraud that might result. There was, they contended, an optimal amount of fraud. This has been discussed at considerable length in my paper here.
The argument has a number of failings. Foremost, SOX wasn't designed only to prevent fraud. It was also designed to improve the integrity of the financial disclosure process. More accurate financial disclosure would result in increased investor confidence. Evidence, including record high stock prices and large numbers of restatements, suggests that this has occurred.
More importantly for our purposes, the evidence indicates that, in the post-SOX world, the number of fraud actions have undergone a precipitous decline. According to the Stanford Securities web site, the number of fraud actions declined in 2006 to "the lowest ever recorded in a calendar year" since the adoption of the PSLRA. For a post on the subject gohere.
While the Stanford data was not alone in its conclusions (Deloitte chronicled a similar decline), it still represented experience with a single year. The data coming in for 2007, however, suggests that the decline was not an isolated phenomena. A report published on the Stanford web site for the first half of 2007 shows an even greater decline. Asthe report notes:
- The 59 filings recorded in the first half of 2007 (January through June 22, 2007) represent a 42 percent drop from the average semi-annual filing rate of 101 (mid-year periods July 1996 through June 2005). The number of filings in the first half of 2007 was slightly above the second half of 2006 total of 53. For the two-year period beginning the second half of 2005, the average semi-annual filing rate was 61 filings, 40 percent below the average observed over the preceding nine-year period.
Without any doubt, SOX does not deserve the entire "credit." Some goes to the excessive pleading standards imposed under the PSLRA. Some goes to the record breaking stockmarket and the dissolution of Milberg Weiss. But some clearly goes to SOX. Companies now have multiple gatekeepers who confront serious risk if they turn away from facts and circumstances that suggest fraud. The top officers, particularly the CEO, know that there is a greater risk of detection of any fraudulent scheme as a result of SOX. These changes have shown that whatever the degree of fraud prior to SOX, it was not "optimal."